Thinking about how to set your prices can be a minefield when you start a business. Too cheap and you’ll be working very hard yet not making a profit. Too expensive and you will struggle to find any customers. Here are my top tips to get you on the right track.
Don’t forget to include a good hourly wage for yourself. This might seem obvious for service businesses which are often charged on an hourly basis, but can get forgotten if you are manufacturing or selling products. Try to time yourself so you know exactly how long each product takes you to make and distribute.
Work out how many hours a week you spend on administrative tasks for your own business (e.g. doing your bookkeeping, marketing, etc). The remaining hours you have available for your business each week will be your productive or chargeable hours.
If you would like to take off 4 weeks of holiday, plus bank holidays each year and allow a day or two for sick leave or emergencies, you will need to earn enough in 46 weeks to keep you going for the whole year. You might also want to add a bit extra on to your hourly rate to allow for a pension.
For example if you have previously been working for an employer, earning £30,000 a year for a 35 hour week, with pension contributions and holiday pay your hourly rate will have been just under £16.50.
If you decided to set your hourly rate at £16.50 an hour in your business, then assuming you spent 5 hours a week on administrative tasks and worked for 46 weeks of the year you would be earning £22,770. Quite a big drop in your income! And you still need to work out your own tax and pension.
To keep your earnings at the same level and contribute to your pension, your hourly rate would need to be £22.40 in this scenario.
This assumes that you will find enough customers to keep you busy every available hour you have, which unfortunately may not be the case when you first get started.
Because the business is your baby, you might be willing to take a pay cut so you can do what you love. It’s unlikely that anyone else will be willing to earn less than their market value though to work for your business and this is why to set your prices right can take time. If you needed someone else to do the work for you, does your price allow you to hire someone at the hourly rate they will expect. This is very important if you would like to grow your business and have a team.
This will probably include your insurance, marketing, accountancy, website and lots of other small expenses here and there. It can add up to a surprisingly large amount, even for a small business. If your total overheads come to £6,000 you will need to include at least £4 of overheads for each chargeable hour you work (based on the scenario above).
Once you have set your prices you probably won’t want to change them for a while, especially if it would mean getting brochures reprinted or paying for your website to be amended. It’s therefore worth over estimating how much your suppliers will be charging you for the materials needed. This will prevent you from having to change your prices every time there is a small increase in their charges.
Keep an eye out for anything which will effect your suppliers prices. This could be political, technological, economic or environmental issues. For example if you think that a no deal brexit could have an impact on your supplier, it may be worth increasing your prices in advance – that way you will have the money available if their prices suddenly rise.
Be wary of estimating your costs based on a supplier who charges significantly less than most of the market do. They may not have thought through their prices, so may end up increasing them or going out of business. Check the prices with a few different suppliers and use the average cost.
You might have had to purchase a new computer, or some expensive equipment or machinery when you started the business. You may have saved up or taken out a loan to cover the cost of this. It is important to consider how long you are likely to be able to use the equipment before it will need replacement, and start saving toward the replacement as soon as you start.
If a new laptop costs £600 and lasts 3 years, you need to add £200 a year to your overheads so that you have budgeted enough that by the time you need to make the purchase you’ve saved enough.
It can be harder to plan for business disasters, and these will be unique for each business. Have a think about any issues that could arise and how much this would cost you. If you think the risk is high, then try to budget for this as part of your overheads.
Once you have worked out all of your costs, you may find that the minimum price you can charge to make a profit is more than your competitors charge. If this is the case you’ve got some investigating to do!
You need to find out how they have managed to cut their costs, and whether you could do the same. If you can’t get the costs down to the same level as your competitors you need to find a way to stand out and offer a premium service or product.
You may choose to decrease your prices occasionally. This might be for a special offer, a friends and family discount, or maybe you have chosen to reduce your price for charities. Make sure that your customers understand what the full cost would be, and that they have been given a discount, so that they appreciate your value. There are lots of things to consider to set your prices correctly, take your time to do this and get it right.
You may want further articles on Finance such as: 2021 Budget