Nobody likes losing deals, least of all your sales executives. It is important though that you lose the occasional deal because of high pricing.
Trying not to lose any deals due to pricing means that you are not trying to maximise pricing at all. You are not looking for the boundaries of willingness to pay. When you do this you might avoid losing a few deals, but you will price the majority of your deals structurally too low. And pricing the majority of your deals too low is very costly.
Conversely, if you ‘price up’ to the level that you lose the occasional deal on account of higher prices, you will understand much better where to raise prices and where the boundaries of willingness to pay actually lie.
Will the price increases that you get by taking more risks compensate for lost revenues? Yes, that is very likely. You should look at the contribution margin of your deals to understand this point.
Let’s illustrate this with an example: If you make $100k deals that have a contribution margin of 40%, and you raise prices by 10% at the cost of losing 1 in 10 deals you will increase total contribution by 12.5% (!) The table below shows the numbers:
Table 1: Calculation example for raising prices
| Status quo | Price +10% | Difference | |
|---|---|---|---|
| Deals | 100 | 90 | |
| Revenue per deal | 100,000 | 110,000 | |
| Cost per deal | 80,000 | 80,000 | |
| Contribution | 20,000 | 30,000 | |
| Total revenue | 10,000,000 | 9,900,000 | |
| Total cost | 6,000,000 | 5,400,000 | |
| Total contribution | 4,000,000 | 4,500,000 | 500,000 |
| Change in contribution | 12.5% |
As you can see from the table, the price increase leads to an increased contribution per deal. This easily compensates for the loss of volume and the total contribution for 90 deals is $500k higher than the contribution of 100 deals at the original price. That’s amazing!
But do these results apply across the board? No, of course not. This effect is largest when the contribution margin is lowest, and when the volume of deals doesn’t drop much in response to higher prices (demand is not very elastic). It is an effect that holds up under a broad range of circumstances though. The table below gives an indication of what this could mean for your business, … and if you should lose more deals!
Table 2: Change in total contribution at different levels of contribution margin and elasticity
|
Elasticity of Demand |
|||
|
|
-1 |
-1.5 |
-2 |
|
Contribution Margin |
Raise price by 10%, lose 10% volume |
Raise price by 10%, lose 15% volume |
Raise price by 10%, lose 20% volume |
|
20% |
35.00% |
27.50% |
20.00% |
|
25% |
26.00% |
19.00% |
12.00% |
|
30% |
20.00% |
13.33% |
6.67% |
|
35% |
15.71% |
9.29% |
2.86% |
|
40% |
12.50% |
6.25% |
0.00% |
|
45% |
10.00% |
3.89% |
-2.22% |
|
50% |
8.00% |
2.00% |
-4.00% |
|
55% |
6.36% |
0.45% |
-5.45% |
|
60% |
5.00% |
-0.83% |
-6.67% |
|
65% |
3.85% |
-1.92% |
-7.69% |
|
70% |
2.86% |
-2.86% |
-8.57% |
|
75% |
2.00% |
-3.67% |
-9.33% |
|
80% |
1.25% |
-4.38% |
-10.00% |
If you'd like to work through some of these considerations and do a workshop to look at raising prices in your organisation, please reach out via the contact form.