3-minute read (600 words)
In some lines of business, margins are traditionally very tight (such as the grocery industry), while in others, they may be much more significant (such as electronics). To ensure that your business maintains long-term profitability, you must set the right margins for every product or service you sell.
Consider the following tips on how you can establish the right margins to ensure that you’ll make a profit.
Review the Important Factors
The margin is the difference between what the product costs to produce (including labor and overhead), and the selling price. Establishing the right margins is the first step to determining how profitable your company can be — the higher the margin, the higher the profits for the business. But you don’t want the margin to be so high that customers are scared away by your high prices. Business owners can calculate how much margin they can develop per unit or customer above their product or service cost, based on the following factors.
- Nature of Business — Margin is often dictated by the type of your business — for instance, a big-box retailer may have thin margins on its clothing, while a luxury boutique might have wider margins on clothing.
- Customer Preference — If your target customer is not budget-conscious, they may pay a higher margin for added value in your product or service. Thus, the margin of a product or service can often be established based on customers' demographics.
- Competition — By determining how much your competitors are charging for similar products in the market, you can estimate a margin on your cost. You can establish either a low or high margin above the product cost, based on different scenarios, as follows.
- High Margin — If you’ve got a higher-quality or better-performing product than your competitors, you can often add a higher margin to your product cost. If you’ve got a unique selling feature/product or you're an early provider of a technology or service that no one competes with, consider establishing a higher margin.
- Low Margin — You can sell your item at the same price as your competition at first to maximize profit while staying competitive. But you can raise your margin slowly once you establish brand loyalty with your new client base.
- No margin or pricing below market — If you're a startup, aim to encourage customers to try your products or services by offering lower prices than your competitors do. Dropping prices will help you draw customers' attention away from other businesses and increase brand awareness and loyalty. In the long run, after penetrating a market, you can increase the margin to reflect the demand of the product within the market.
- Laws of Supply and Demand — Sometimes, the market for your product or service exhibits a considerable change due to external factors, like a sharp increase in competition or a recession. In such situations, you should adjust your margin based on current market demands to provide value to your customers and maintain sales.
Business owners can also consider the following tactics to increase their margins over the cost of their products.
- Raise your prices on bestsellers — If you are selling one or more of your products at a high volume, consider raising its price to increase your gross revenue.
- Bundle pricing — Sell multiple products together for a lower rate than the combined cost of each item individually.