Staying profitable at a time when the cost of just about everything continues to rise is one of the most difficult tasks any small business owner can face. As higher prices continue to plague the economy, one of the key challenges for small business owners is increasing their prices to stay profitable without driving away customers.

Inflation Remains a Challenge

While inflation rates have cooled off in the past year, increases in the Consumer Price Index and other benchmarks continue to exceed economists’ expectations, much in part due to supply chain disruptions and rising costs of raw materials and groceries. In fact, long term inflation remains the biggest worry for small business owners this year and has forced many to change the pricing structure of their products and services multiple times already in order to survive.

This has forced businesses both big and small to seek price adjustments for their products, goods and services. This has also forced the Federal Reserve to keep the overnight interest rate high for an extended period – a move that’s caused small business owners to get squeezed on both ends – rising costs and rising interest rates on their loans.

Pricing Complicated by Inflation

Pricing products is usually simple: calculate the cost of making your product and bringing it to market (that includes marketing expenditures) and add a reasonable profit margin on top of that. Determining that profit margin, however, becomes especially difficult in a high inflationary environment when the cost of making your product has gone up.

Part of the answer is sticking to basics, which means calculating your customers’ willingness to pay. Another part is playing the inflation psychology game, which means changing your sales strategy to make your customers feel like they’re getting a bargain when they buy your products.

When Should you Raise Prices? 

While raising prices during a period of high inflation may be necessary, the timing of doing so is critical. If you raise prices too soon, your clients and customers may go elsewhere. On the other hand, if you raise them too late, your small business may not be able to withstand the losses. So what factors should you examine to determine when to raise the prices of your products and services? Here are a few:

When your profit margin sinks.

As a general business rule, your profit margin should be between 7% to 10% in order to comfortably maintain your business. This number will vary from business to business, but if you find that it’s falling below 7% you very well could be operating at a loss. If it is falling below that number due to rising costs of inventory, payroll and other expenses, that could be a signal to raise prices.

Your employees are demanding higher pay. 

High inflation doesn’t just affect the cost of your inventory, it also will influence the average pay of employees in your general sector. If you find that you can’t keep your best workers because your competitors are offering better pay, this is a strong sign that you should raise prices in order to stay competitive.

Your competitors are raising prices. 

One of the best ways to determine when to raise your prices is to look at the market in which you operate. Have your competitors raised their prices and remained successful? If so, this most likely means that your loyal  customers have accepted price increases in your sector, and that you should raise your prices as well.

How High Should I Raise My Prices?

One of the most important tasks you must complete as a business owner under any economic conditions is to determine how much your customers are willing to pay for your product. In a high inflationary environment, however, it becomes even more crucial. As the price of goods continues to increase, consumers will become more hesitant to purchase what they consider to be luxury or non-essential products.

Unfortunately, there is no easy way to calculate customers’ willingness to pay, but there are several methods that small businesses owners can execute to determine how much they can charge for their products without driving away customers.

Set up an Auction

Small business owners can clear their inventory and determine what price customers are willing to pay by holding an online auction for their products. You can even hold one at a physical location where you can showcase your products, and customers can bid for them using their smartphones. You can use small business auction software such as AuctionWorx to easily hold the auction. Send special invitations to your loyal and prospective customers for the auction. You can not only sell your products but offer special prizes such as tickets to a concert or sporting event to attract customers to the event.

Auctions are great tools to help you determine the maximum prices customers will be willing to pay for your products, as they will bid against each other for them. The one drawback is that auctions can be expensive. Auction software typically costs $1000 or more, and you may not get bids as high as you want.

Conduct Surveys

If you’re like most small business owners, you probably don’t have the time or resources to run a focus group to gauge your target customers’ thoughts. However, online or email surveys are fairly easy and can yield a wealth of valuable information to help you appropriately price your products. By asking your customers directly how much they will be willing to pay – especially at a time of high inflation – you could get some surprising answers that can help you appropriately price your products and maximize your profits. There are several companies such as Survey Monkey that offer software packages that make it easy to survey your customers.

Monitor Larger Competitors

Small businesses are not the only ones facing inflation woes. Larger competitors are also seeking to adjust their prices and stay profitable. Examine the balance sheets of the big corporations you compete with to see what is and isn’t working for them during this high inflation period. Remember, publicly traded companies must issue quarterly and annual earnings reports, so tracking which of their products are the most popular among consumers shouldn’t be too difficult.

You can also use this information to undercut the prices of your larger competitors if possible. For example, if you own a local coffee shop and you’ve noticed that Starbucks has raised prices for its café lattes, you can offer yours at a slightly lower price and still make a profit.

Run a Conjoint Analysis

A conjoint analysis is a fancy marketing term that describes a research method of using simple surveys, along with statistical analysis, to help you determine how people value differing features of products and services.  For example, a conjoint analysis can tell you what types of bundled products your customers prefer and what they are willing to pay for it. Let’s say you run an independent restaurant. Such an analysis could reveal which combination of proteins and side dishes your customers prefer.  If you run a retail clothing store, you can find out which types of fabrics, styles, colors, etcetera your customers are willing to pay for. Software from companies such as Sawtooth can make the process fairly easy.

Trial and Error

Experimenting with the price tags of your products could be the costliest way to determine customer willingness to pay, but it is also one of the most direct. Experiment with the pricing of your products to determine the profit margin you can charge, and take notice when customers stop buying your products. The drawback to this method is that sales will slow if your price is too high and could cost your business.

Bundle Your Products

Consumers are naturally inclined to purchase products and services when they feel like they’re getting a bargain, especially when inflation is as high as it currently is. Once you’ve completed a conjoint analysis, you can bundle your most popular products into packages and sell them at a perceived discount. There are several ways you can bundle your products, and the benefits of doing so, especially when prices are rising, are endless.

At a time when inflation continues to rise and consumers are looking for value when they shop, bundling your most popular products can convince your current and potential customers that they are getting a discount when they buy from you. Offering bundled products can help your business clear overstocked inventory, create subscription services that can guarantee sales for your business over a given period of time, as well as create a technique to offer gift packages, among other uses.

Be Honest with Your Customers

Raising prices without letting your customers know in advance may be a tactic that large corporations can afford to do; but for small businesses, it can cause your customers to lose their trust in your business. Consumers consider their relationships with small businesses to be more personal than those they have with large companies, so a heartfelt email or announcement on your website stating that the current economic conditions have forced you to modestly raise the prices of your products to stay profitable can go a long way in retaining customer loyalty.

Inflation is hitting everyone’s wallet – your customers will understand your need to raise prices in order to keep the lights on. However, you can also offer them trade-offs, such as a discount on one product if they buy another at full price.

Getting Your Pricing Strategy Right is Crucial

Everyone is feeling the pinch of inflation and everyone has become more selective in where they shop and what they choose to buy. Getting the pricing of your products right is critical for the survival of your business. It is possible to find the right pricing threshold to keep your business running until the current inflationary environment calms down.

Correct pricing in conjunction with a good marketing strategy and an honest evaluation of ways you can cut your operating costs will enable your business to come out the other side of this economic turbulence even stronger.