We often meet with businesses who’s pricing has stayed consistent for several years, while the business and the market around them has changed. That doesn’t automatically mean prices need to rise, but it can be a good reason to look at it again.
Is margin moving even though sales are growing?
A common misconception is that more sales equal more profit, but sales figures do not always tell you whether the business is getting the same return from that work.
Looking at gross margin over time can show whether the relationship between revenue and the direct cost of delivering it has changed. If sales are increasing but the margin percentage is gradually reducing, it is worth understanding what is driving that reduction.
It may be linked to the type of work being sold or changes in delivery costs. This is where management accounts become particularly useful because rather than making a pricing decision because costs “feel higher”, directors can see whether margins have changed and where that change is coming from.
Has growth changed the cost base?
A business may invest in new systems, more employees, move into larger premises or build more delivery capacity and those decisions may be exactly what is needed to support the next stage of the company’s growth, but they also change the level of gross profit required to support the operation.
Pricing agreed when the business had a much leaner structure may still work perfectly well. The important point is not to assume that it does without checking. Regular financial reporting gives directors the opportunity to compare how the cost base has developed with the margins being generated from the work.
What should a pricing review tell you?
From an accounting point of view, the purpose is not to tell a business what it should charge. The useful starting point is understanding whether current pricing is still producing the return directors expect, whether that differs across the business and whether changes in the cost base have altered the financial assumptions behind it.
Once those figures are understood, directors are in a much better position to decide whether pricing needs to change at all.
