Flexing Your Pricing Muscles
No one ever accused Damon Risucci of lacking nerve. In 1990, when he opened his first health club, he was 24 years old and had more experience playing guitar in rock bands than running a business. But Risucci isn't one to back down from a challenge. Despite tough competition from chains like New York Sports Clubs and Equinox Fitness, he built Synergy Fitness Clubs into a successful business, with three stylish New York City locations, $7 million in revenue, and 9,500 members.
But when it came to raising prices, Risucci was positively a wimp. Obsessed with being a value leader, he was determined to provide customers with a comparable experience to the chains while charging rock-bottom prices. For nearly a decade, membership fees remained at a low $49.99 a month--nearly half those of his rivals--despite a spiffy Midtown Manhattan flagship location and ever-rising rent and utility bills. "We thought our prices had to be low," Risucci says. "It was almost a core belief."
Finally, last July, after poring over his financials and holding extensive interviews with customers and staffers, Risucci screwed up his courage and acted. Prompted by withering margins and a hunch that his customers were willing to pay more, he raised monthly fees 16% for new members and the cost of personal training sessions 20%. The result: No one complained and not a single one of his members threatened to jump ship.
A growing number of private companies raised prices during the last quarter of 2003, according to the National Federation of Independent Business. According to the group's most recent survey, 18% of businesses reported raising their average selling prices in November, while only 13% lowered them. That's a big change from most of 2003, when the percentage of companies raising and cutting prices was about the same. "Business owners are seeing more people coming in," says NFIB chief economist William Dunkelberg. "They feel like they don't have to give away the shop."
Maybe so. But raising prices is almost always easier said than done--and that's especially true today. After years of almost no inflation, customers are used to getting a bargain, and a ham-handed price hike could lead even longtime clients to start shopping around for alternatives. Meanwhile, if the recovery fails to materialize, or is weak, business owners who raise prices now could pay for it later. The challenge is figuring out how to exercise their newfound pricing power without bruising their customers--or themselves--in the process.
Risucci, for his part, seems to have come through unscathed. Even though his monthly fees jumped to $57.99, new clients continue to sign up at a steady pace. "Volume has been the same, if not better," he says. He's taken pains to demonstrate that members can expect to get more for their money. He's purchased new equipment and is refurbishing the clubs' yoga rooms and buying heaters so he can offer trendy Bikram yoga classes, which are held in heated studios. "We didn't see a flow of disenchanted customers," Risucci says. "It's pretty clear the price increase was a good idea."
"Business owners are seeing more people coming in. They feel like they don't have to give away the shop."
Marc Roth, founder and president of Chicago-based Home Warranty of America, hasn't had it so easy. To help offset rising costs, Roth, who sells warranties primarily to buyers and sellers of residential properties, devoted the better part of last fall to planning a rate hike of about 2%. But even such a small increase has been a big pain. That's because Roth relies on real estate brokers and attorneys throughout the country to pitch his product to customers at the point of sale. In most cases, such vendors are also pitching the services of two rival companies, so competition is intense. Raising prices meant dispatching his 16-person sales staff to reeducate those vendors in face-to-face meetings and seminars; redoing hundreds of thousands of brochures to reflect the new prices; and filing the rate change with state governments. Midway through the process, Roth began to wonder if it was all worth it for a few extra bucks per contract. Fortunately, his vendors have assured him that customers are unlikely to balk when the new prices take effect this year. Besides, he figured, putting off the decision would only result in having to attempt an even bigger increase later on.
As Roth's experience demonstrates, pricing power is not distributed evenly. So far, service firms have the lion's share of the flexibility. Manufacturers, and anyone facing competition from abroad, by contrast, have far less flexibility. Raising rates also can be the kiss of death if you do business on the Internet, where purchases are driven mainly by price. Anne-Marie Faiola, founder and CEO of Bramble Berry--which is based in Bellingham, Wash., and sells soap-making supplies on the Web--says her prices haven't budged in six years, and she wouldn't dream of raising them now. "It would be a last resort," she says. Instead, she plans to maintain her margins by streamlining operations and perhaps charging a handling fee.
That makes a lot of sense, says Marty Pichinson, co-founding partner of Sherwood Partners, a Palo Alto firm that advises businesses on operations, finances, media, and branding. No matter what industry they're in, Pichinson encourages his clients to think more like Faiola. A business consultant since 1981, Pichinson believes that the economy isn't healthy enough to risk giving competitors an advantage by raising prices. "The buyer isn't prepared to pay more in any way, in any industry," he says. Don Alexander, interest rate and currency strategist at Citigroup's Private Bank in New York City, is similarly cautious, noting that demand could well drop off in the second half of 2004, once the cash generated by tax cuts and the mortgage refinancing boom is spent. Companies that raise prices before then "have the risk of getting caught," he says.
So when is the right time to raise prices? "You can't raise them just because your costs go up," cautions NFIB's Dunkelberg. Instead, he advises, keep a close eye on your customer traffic and that of your competitors. Say you own a restaurant, he says. If all the restaurants on your block are full, including yours, you can raise the price of a burger. If the place next door is booming and you're not, on the other hand, a price hike could be disastrous.
Business owners considering price hikes should also keep added value in mind. Home Warranty's Roth, for instance, introduced a souped-up warranty package when he rolled out his new prices. "I'd much rather accentuate a positive," he notes. And Risucci plans to add new perks throughout the year to prime customers for more price hikes--including a planned increase for renewals by existing members. The old Risucci would have cringed at the thought. But he's a new man now, with no reservations about charging more for his product. "At the end of the day," he says, "people are willing to pay for quality."
Sidebar: Who's Got the Power?
When it comes to raising prices, all industries are not created equal. Here's where the real leverage can be found.
Source: National Federation of Independent Business, November 2003 survey