Can you offer insight on how to properly price my business's products?
Over the years, when I’ve gotten this question in my public seminars, I ask the audience of business owners, “How many people know how to define the term ‘gross margin?’ How many people know how to calculate it, and know what their business’s GM is, right now?” Typically, only 10 percent of hands in the room go up.
Knowing what the overall gross margin is for your business, at any moment in time, is as critical a number as the blood glucose level for a diabetic person. You should know what the gross margin is for each individual product or service, as well. Gross margin should be treated as the “pulse” of your business. That pulse, like in a human being, changes and you should be acutely aware of when it changes, what trends are occurring, and why it is changing.
Gross margin is a simple calculation. It is the difference between for what price something is sold and what it costs to provide it, divided by the selling price. For example, if something costs $65 to manufacture—and that includes raw materials, labor, and items consumed in the manufacturing process (commonly referred to as the cost of goods sold, or COGS)—and it sells for $100, then the gross margin is 35 percent. The simplest gross margin to calculate is 50 percent, also known as a keystone gross margin because you simply double the COGS to set the selling price.
When you begin to notice gross margins slip across your entire product mix, you have an important decision to make. You could find ways to make stuff cheaper or try to fetch a higher price for your wares.
Get to know your profit and loss statement, also known as the consolidated income statement, intimately and the direction in which your gross margin is heading over time. Review it on a monthly basis. It will become increasingly clear where you will need to trim any excess costs in your company’s COGS or when passing along a price increase is necessary.