Can Your Prices Produce Profits?

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Never mind that you can wrap a standing bandage with the best of them. Forget that you can train a horse to the Grand Prix level. Who cares that there’s never as much as a whiff of ammonia in your barn. Unless you are pricing your services properly, you may be living off cash flow instead of profits, and that means your business isn’t going to make it, no matter how good your other skills may be.

Setting the “right” price for a product or service is one of the most important aspects of owning a business. Proper pricing leverages the bottom line far more than many business owners realize. One business consultant notes that a mere five percent price improvement can create a 50 percent improvement in a business’s bottom line.

THE THREE Cs

Business consultants talk about the three Cs of pricing—competitor’s prices, costs and customer value. Once you have looked at these three factors, it’s time to begin thinking about how price figures into your marketing strategy.

Many horse people start out basing their prices on what their competition charges. They do this by surveying other trainers in their breed or sport, checking prices at barns in their geographic area and determining a range from lowest to highest. Then, depending on how they feel they stack up against the competition and what their marketing strategy is, they set their prices higher, at the same level or lower.

Understanding the cost of doing business is also critical to profitability. You cannot start turning a profit and earning any money until you have earned enough to pay all your fixed and variable costs. That is known as the “break-even point” and the simplest formula for it is:

Fixed costs + variable costs = Sales (revenue)

(where the number of units x price per unit = Sales)

When sales revenues are greater than the sum of fixed and variable costs, you are starting to make a profit. There are more complicated break-even formulas that more closely pinpoint the individual roles of fixed and variable costs and of unit volume (how many lessons you give or stalls you have to rent) in your profit picture. They can help stable owners understand just how much profitability will change if they give more lessons, train more horses or build an arena. However, the simple formula is the starting point for any business.

The break-even point is your price floor. Using competitor’s prices and market research of what your customer’s value, you can then try to determine the price ceiling. Your prices will be somewhere between those two points. Just where you set it will determine your profitability. A “cost plus” pricing strategy looks inward rather than outward for answers. The owner basically determines what level of profits he or she wants, looks at costs, and then sets a price that will achieve the desired level of profits.

Pricing based on customer needs and their perception of benefits is an outward looking strategy. It requires some basic market research into what your customers expect and what they perceive as benefits (see sidebars). Many stable owners provide services based on what is convenient or appropriate from their standpoint. By looking at things from the customer’s perspective, they may find a new price ceiling or a pricing structure that greatly increases profitability in exchange for some flexibility.

“Demand-sensitive” pricing is another name for this pricing strategy. Its primary tenet is that all customers are not created equal. Some want low prices and are willing to accept no frills service to get them. Some want all the bells and whistles and are willing to pay for them. Others are looking for value for their money and fall somewhere in between. What each group perceives as a benefit or a ripoff is often very different. Many customers are willing to pay more money if you solve their problems or offer something extra. Some may prefer bundled services while others may prefer à la carte pricing. Some people may love discounts while still others may feel discounts tend to cheapen the value of the service. And on it goes.

It is up to business owners to understand the perceptions of the customers and potential customers in their market niche and to determine how a change in price will affect sales.

COMBINING PRICING AND MARKETING STRATEGIES

Looking at the competition, considering costs and evaluating customer needs provides you with valuable information that can help you set profitable prices. There is one other factor, however, that should figure into your final equation. What kind of marketing strategy do you plan to use?

As you surveyed your competition, you may have noticed a niche that no one else was serving. For example, existing businesses all serve people boarding their own horses by offering lessons for advanced riders but no one is providing beginner lessons for non-owners moving out into the countryside in large numbers. There are several people teaching English lessons in your area but no one provides Western lessons and your market research at local horse club events indicates a growing demand for this service.

Many horse businesses work with within a niche not only as a marketing strategy but also to keep their variable costs down. The facility that focuses on jumping and amateur owners will have arenas and equipment designed with that sport in mind. The facility that caters to Western pleasure and trail class competitors will have very different needs. Ditto the dressage facility. Multiple-discipline facilities will have a harder time satisfying all of their customers without incurring higher costs. When you select a marketing niche, consider not only these different costs (which establish your price floor) but also what price ceiling the customers in a given niche will accept.

Even within a niche, differentiation may help you price more profitably. Differentiation could mean that you have a sustainable competitive advantage that satisfies some customer need. This unique advantage should not be easy for competitors to copy. For instance, you have developed a reliable system for choosing and training successful show ponies for kids and, therefore, are able to command premium prices for them. Or, you are an Olympic gold medal rider whose pupils continually reap the ribbons at horse shows. Or, yet again, your stallion is the only son of a multiple world champion and, at age six, he already has two world champion halter offspring of his own.

Many newcomers to the horse business try to succeed with “penetration pricing”—prices that are set artificially low to lure customers away from competitors. The problem is that they run the risk of selling their services below their break-even point or of being unable to raise their rates because their customers are only interested in the low prices. In a horse operation with high fixed costs, however, it is hard to make “penetration pricing” marketing strategy profitable.

Your marketing strategy might be to provide high-value basic boarding services with additional services priced individually or bundled into various packages. That way you can appeal to a mix of owners. You can satisfy those who want good value for their money but prefer to do some hands-on horse care themselves to save some money. And your barn can also appeal to owners who prefer to have everything done for them and are willing to pay a premium for extra services.

Your combination of pricing and marketing strategies will affect your sales volume (or gross revenue). Play with various scenarios on paper to see how they might affect your profitability (or net revenue). Consider how changes in either your fixed or variable costs could change the equations. Boosting your bottom line means balancing customer demand, price, variable costs and fixed costs in some optimal way. And keep in mind that there are more businesses that have gone belly up because they charged too little than there are businesses that failed because they charged prices that were too high.

Setting the Price

Setting the right price for your lessons, training or boarding services involves more than surveying the competition. While knowing what others in your geographic area, sport or breed (or in others) are charging is a vital first step in pricing your own services, you need to know more. Understanding your customer’s expectations about service and what they perceive as a premium service, an added value or a bargain can help you restructure prices for greater profitability. Brainstorm with co-workers and employees, talk to current customers you trust, and ask new customers why they have chosen you. Use the following questions to get yourself started and add others that may be pertinent to your individual situation:

  • Why are my customers involved with horses?
  • Why do they buy services from me (rather than from a competitor)?
  • Are they seeking a competitive advantage that only I can offer?
  • What other benefits do they gain by working with me?
  • Is saving time important to them?
  • Is saving money important to them?
  • Is convenience in terms of proximity, hours or labor important to them?
  • Do they want premium services?
  • Or are they more interested in getting the best value for their money? 
  • Or in finding a low-cost provider?

How Much Do You Want to Earn?

What if your business is just you? How should freelance instructors and trainers price their services? Like other business people, they can quantify their fixed and variable costs and try to work the numbers. They can look at what the competition is charging and they can think about what added value their services provide to customers (for example, they go to the client’s location to provide convenience and a savings in time).

There is an easy rule of thumb, however, used by many other freelance service providers. In her book “How to Set Your Fees and Get Them” (Visibility Enterprises, Larchmont, New York), consultant Kate Kelly presents this very simple formula for making sure you earn a living wage.

First, you need to decide what you want to be paid. One way to do this is to look around your industry, she says, and find out what others are being paid for similar work. Another way is to calculate your own personal expenses and budget a salary that will pay those expenses with something left over for savings and other money-related goals important to you.

Once you have that figure, multiply it by 2.5 to come up with the approximate gross income you will need in order to net the amount you’ve identified as your salary. Some business consultants use 2.8 or even 3 as a multiplier, Kelly says.

Let’s say, for example, that our instructor decides she should pay herself $30,000 a year. Multiplied by 2.5, that means she needs to gross $75,000 a year. That multiplier is a very rough way of reckoning her fixed and variable costs without detailing each and every one of them. In order to be in business, the freelance instructor must pay for gas, vehicle upkeep, telephone, clothes, continued education, taxes, fees paid to barn owners, insurance, etc.

Using that $75,000 gross figure, she can now calculate that at $50 per hour she must give 1,500 lessons annually (or 125 a month or 32 lessons a week) to meet her salary target. If she charges $75 per hour or augments lesson income with clinics, writing or other income-producing activities, her weekly lesson target will be different.

Fixed Versus Variable Costs

It is important to understand the difference between fixed and variable costs because the degree of control that you have over each is very different. If you are trying to control costs in order to lower your break-even point, this becomes critical.

Fixed costs are the expenses that stay the same no matter how many “units” (lessons, stalls, training hours) you sell. For example, your mortgage payment stays the same whether your stalls are empty or full and whether they are filled with boarders or lesson horses. Fixed costs include things like rent or mortgage payments, other loan obligations, interest payments on any personal capital the owner has tied up in the business, taxes, annual licenses, basic utilities, office equipment, barn equipment, etc. Whether revenue goes up or down, these costs remain the same.

Variable costs change depending on how many “units” you sell. More lessons mean more instructors. More horses mean more grooms, more feed, shavings, vet and farrier costs. Electricity, advertising, horse show expenses, staff salaries, insurance and other expenses vary in proportion to the amount of business you do.

Some costs may have both fixed and variable components. For example, you pay a basic electricity rate but the amount you pay over and above that base rate can fluctuate depending on how many evenings your arena stays lit until 9 or 10 o’clock for lessons or boarders.

Since fixed costs are hard to change, some business strategists focus on variable costs to help business owners figure out which of their products or services are the most profitable.

For example, some barns charge à la carte for a menu of services such as turnout, changing blankets, feeding supplements, etc., in order to raise revenues. However, the charge for each service must be higher than the variable cost of providing it (additional labor for providing the service and bookkeeping, storage space, etc.) or the service is not profitable. The difference between the variable cost of providing the service and the revenue from it is that service’s contribution margin. By looking at the contribution margins of each of your different services, you can make decisions that will increase profitability using these three equations:

Price Per Unit of Service: Variable Costs = Contribution Margin

Contribution Margin Per Unit: X Units Sold = Service’s Contribution to Profits

Profit Contributions from All Services: Fixed Costs = Total Profits

For example, if you charge $3 for taking a blanket on and off and you pay employees $15 an hour, that blanket fee might add to the bottom line if it adds no additional variable cost (the employee was already underutilized and this service makes better use of her time); however, if the service means that you need to hire an additional person each winter, it may not be profitable even though it increases revenue.

USING PRICING TO FILL THOSE EMPTY HOURS

Weekends are a zoo while the horses stand idle during the week. Come spring, everyone wants their horse tuned up for the show season but the winter months are dead. Meanwhile, the mortgage bill arrives with regularity, the horses keep on eating and the office staff must be paid. Many horse business owners struggle with feast-or-famine workloads.

Demand-driven pricing can be used as a tool to help fill those perennially empty slots in lesson or training schedules. Robert G. Cross dramatically boosted airline profitability by showing the carriers how a demand-sensitive pricing system could fill up empty seats. He says the system works just as well for small businesses as it does for international corporations.

In his book, “Revenue Management” (New York City: Broadway Books), Cross describes how he cajoled his hometown barber into trying the system so that he wouldn’t have to wait so long for his haircuts. She refused to make appointments because no-shows eroded her bottom line. Cross was tired of waiting two hours for a haircut on Saturday, the only day the busy entrepreneur could go.

The business guru convinced her to try something she considered radical: charge more on Saturday for people like himself who needed Saturday cutting time, but charge less on Tuesday, her slowest day. That, he argued, would encourage current Saturday customers like retirees or school kids, who would really prefer a cheaper haircut, to switch days. Using Cross’s demand-sensitive pricing principles, the barber not only satisfied more customers but also boosted her shop’s revenue by 20 percent.

Cross notes that one of the keys to making demand-sensitive pricing acceptable to your customers is making sure everyone has the same information and understands what benefits they gain or give up by coming to the barn at specific times. For example, instead of charging the same rate for a lesson regardless of the time of day, a lesson barn might raise lesson rates during the prime late afternoon and evening hours and lower them during slower late-morning hours.

Raising lesson rates during prime hours may or may not affect how many students you have during that period. Or, the gain in late-morning students may more than offset any prime-time losses. The point is that you have created new sales opportunities based on customer needs and demands.

Now, for example, the horse show mother who couldn’t justify lessons of her own at your old rates sees her opportunity. She starts taking lessons in the morning and cheerfully pays the additional premium for her daughter’s after-school lessons. The customer perceived value in both cases. You win a new customer and your revenue is the same as it would have been under your old system with a flat lesson rate.

Or let’s say two late afternoon customers decide your new rates are too pricey for them. Meanwhile, our horse show mom has talked her new recreation activity up to her friends and brought in three new customers. Those four new customers at the lower rate probably more than offset the loss of two customers at your old flat rate.

You’ll need to do some pencil pushing to see how demand-based, tiered pricing could work for your barn but many horse professionals are already doing some form of demand-sensitive pricing. For example, some trainers charge lower monthly fees during their slow months to keep the barn filled.

Doing Your Math

For those willing to do some extra math, the following Websites are worth exploring. They offer a wealth of business planning information including pricing formulas for determining your own break-even point, how many lessons or boarders you need to break even on a monthly or annual basis, and how to price for profit. You will also find more detailed information on how to blend pricing and marketing strategies to maximize your business’s returns.

www.onlinewbc.org

www.gmarketing.com

www.asbdc.ualr.edu

www.innovationworks.org