Whenever there's a jump in inflation, or even the possibility of a jump, there are always some marketers who think: "Aha! We can raise our prices and blame it on the economy!" This is the wrong move and here's why.
If you have tied the price of your products and services to their cost, you have turned yourself into the supplier of a commodity and commodities always command razor thin margins.
If your price is such that you can't absorb some inflation in your supply chain or cost structure, you've already screwed up. If that's the case, I have some advice at the end of the post, so hang in there.
Pricing should always be based on the value of the product to the customer rather than the cost that you must expend to provide that product. Therefore, your price should only be responsive to the economy to the extent that the economy changes the value of your product to your customer.
Just to be clear, I'm using the term "value" to mean the positive financial impact of the product there to increase revenue or decrease costs (i.e. create profit") rather than the huckster's definition of "value" as "the lowest-priced product."
Here's an example from my own experience with consulting. When I originally started, I had in my mind a certain dollar amount that I needed to make per hour in order to make my consulting practice profitable. Like a lawyer, I charged an hourly rate based upon what I thought my time was worth.
I soon learned however that the value of my experience and perceptions could have an outsized positive impact on my customer company's profits. I might take, for example, five minutes to write to a cold email that doubled the number of qualified prospects entering the sales pipeline.
Depending on the customer, that email might be worth $1 million in additional profit. Even if my hourly rate were $600, I'd only be charging $50 for that email. That's a pretty good deal for the customer because it comes out to an annualized ROI of 1,999,900 percent.
Once I realized the value of my particular brand of expertise I always started my discussions with the calculation of the value before even talking about price. I then based my price on the financial impact and have frequently gotten $10,000 to write a single email.
I'm not telling you this story to impress you, but to impress upon you that price should always, as far as possible, be based upon the financial value of the product rather than your cost to provide it.
Using inflation as an excuse to raise your prices simply encourages the customer to think about your costs rather than about the value that you're providing to them. And that's the line of thinking that you should discourage!
There's only one exception. If the economy starts changing, damaging, or destroying your customers business model, it will affect the value of your product in terms of its ability to make your customer more profitable.
In that case, though, you were adjust your price because the value decreased, not because your costs increased.
So, what if your costs do go up? Isn't it a good idea to raise your prices under those conditions? Answer: only if you've screwed up already. If you've been pricing correctly, there should be more than sufficient margin to absorb anything but hyperinflation.
So, then, what do you do if you have screwed up and don't have plenty of margin to absorb inflation?
Your first step should be to revisit your pricing strategy and figure out why it was so vulnerable in the first place. Then, if you indeed must raise your price to remain profitable, you do it in such a way that it doesn't get you involved in a counterproductive discussion of your costs.There are five ways to do this:
- Replace outright purchase with a subscription.
- Lower your base price but raise the price of a common option.
- Bundle multiple options into a single price.
- Offer to finance the purchase.
- Re-frame smaller packaging as a larger value.
I describe these methods in detail in the post "How Microsoft, Nabisco, and GM Make Customers Happier by Raising Prices."