The price you set for your product or service is one of the most important business decisions your social enterprise will make. REDF has found that many social enterprises do not have a strong methodology when setting the prices they charge for their goods or services, and they do not reevaluate those assumptions often enough or at all. This means that many social enterprises are under-pricing their goods, forgoing much needed revenue.
This learning guide, the first in a series on pricing for social enterprises, will make the case that pricing is an important aspect of your business and one that is too often overlooked. In subsequent learning guides, we will explore the methodologies of how to conduct a rigorous pricing examination for your social enterprise.
Why pricing matters
To demonstrate why pricing is an important aspect of your business, let’s take a look at a fictional social enterprise. Let’s say that, in a steady state, this social enterprise sells 10 units at a price of $10 each. With variable costs of $4 per unit and fixed costs of $50, the enterprise makes a total of $10 in profit.
The social enterprise is looking to increase its bottom line. Assuming all else remains constant, which do you think would have the greater impact on profit?
- Raising its quantity sold by 10%
- Raising its prices by 10%
- Either one, since Revenue = Price x Quantity
Well, let’s take a look at how a 10% increase in both price and quantity would effect the numbers in the example above.
Quantity goes up by 10%
With a 10% increase in quantity sold, the social enterprise is selling 1 additional unit for a total of 11. Since the price has remained the same at $10 per unit, its revenue is now $110 (price x quantity). While the fixed costs remain $50, the total variable costs have increased by $4 to account for the additional unit produced. At the end of the day, the 10% increase in quantity sold has increased the social enterprise’s profits from $10 to $16 – a 60% increase, not bad!
Price goes up by 10%
Now let’s say the social enterprise increased prices by 10% to a total of $11 per unit. The quantity remains unchanged, but with the price increase the total revenue is now $110. However, since the quantity sold has remained unchanged, the variable costs have remained at $90. This gives the social enterprise a total of $20 in profit. This is a 100% increase in profit!
REDF has found that, when looking to increase their bottom line, many social enterprises’ default assumption is to look for ways to increase the volume of their business. But, as we have seen from the example above, an increase in volume comes with additional costs and that adjusting your pricing could be a way to achieve the same, or better, results for your business.
The aim of this learning guide is not to convince you to immediately raise your prices. Without a thoughtful and rigorous strategy, that would be a mistake. However, we do hope that you have taken from this is that price is an important, and often overlooked, mechanism for achieving greater profitability.
In subsequent learning guides on this topic, we explore a number of important frameworks with which to approach your social enterprise’s strategy to pricing. As a next-step, we encourage you to read our learning guide on conducting a break-even analysis.