Negotiating the Maze of Pricing Award Products

Copyright © 2010 by Davis Multimedia, Int'l. All Rights Reserved.
As Printed in June 2010, Volume 35, No. 12 of The Engravers Journal

     There’s no question that retailers are in business to make a profit, and there are many different factors that can affect the profitability of an awards shop. For example, a large part of your bottom line will likely have to do with the types of products you sell and, even more importantly, the amount of those products that you sell.
     Charging the right price for those products can have a huge impact on a shop’s profitability, but how does one know what the “right” price is? This question may not be too difficult for some retailers who can set prices based on industry standards or a simple formula that involves the original cost of the product and their operating expenses.
     Simple pricing strategies like this don’t work quite so easily for most R&I shops, however. That’s because most of the products we sell are either custom-made gifts or stock awards that are personalized with one or more marking methods such as laser engraving, rotary engraving, sublimation, screen printing, pad printing, etc. In most cases, determining what to charge for personalized and custom-made products is far more difficult than making them, and this explains why one of the most commonly asked questions from EJ readers has to do with pricing their products.
     I’ve been in the R&I industry for nearly two decades now, and I’ve found that pricing products has become even more complicated as more products find their way into the market and more technologies and personalization methods become available. There is no simple, convenient way to explain to newbies or veterans how to do this because there is no simple mathematical formula that works for every shop owner and for every job. For example, telling people they should charge a set amount for a plaque or a Christmas ornament just isn’t viable.
     This article isn’t meant to offer specific pricing formulas, but rather to introduce readers to some of the most important things to consider when pricing award products. This may be very helpful for anyone just starting out in this industry, but I’m willing to bet that even a handful of veterans may find they’re not charging enough for their products if they consider some of the ideas discussed here.
Do Pricing Formulas Work?
     For generations, many retail jewelry and gift shops have used what is called a “keystone” pricing formula, which simply follows the idea of marking up items to twice their original cost. So, if a product’s wholesale cost were $1, then you would simply mark the price at $2. Keystone pricing works very well for some businesses that simply turn around and place the item on the shelf to resell.
     However, for obvious reasons, this simplistic pricing strategy does not work well in the R&I industry. Before we even get into the bigger reasons of personalization and customization, there are issues such as the fact that it doesn’t account for things like shipping costs, storage, breakage, defective products and waste.
     Some of the newer pricing formulas do better reflect today’s economy by including shipping charges. For example, some strategies include “landed” plans where the cost of the product, plus shipping, is then doubled to determine a “landed keystone price.” The most recent shift to this age-old system of keystoning is for businesses to triple rather than double the cost of the product to account for breakage, shipping and overhead, which is something the engraving and awards industry has promoted for decades.
     While this formula may sound great at first, the real problem begins when a shop buys component parts, adds value to them (whether by engraving or sublimating them) and then assembles the entire product in-house. This complicates things because it moves us from a simple retail reseller into more of a manufacturing role. In this scenario, markups are traditionally handled very differently.
     Many people in various manufacturing industries say price considerations are usually based on a 600 percent increase. That may sound like a lot, but it makes sense if you consider their rationale. First, these companies buy large quantities of raw material to get the best possible price and to have inventory on demand. That means they must build and maintain larger facilities to manufacture the product. They must also hire specialists to assemble the product, accountants and/or office managers to handle the business details, and salespeople to move the product.
     Their inventory must absorb waste, breakage and the like plus shipping and storage which is often very expensive. They must provide customer service and perhaps, an educational division to teach people how to use the product once they buy it. And then there are things like insurance and taxes to consider—lots of insurance and taxes!
     One businessperson I spoke with could tell me to the tenth of a penny what every product he made cost him right down to the cost of lighting for the shop and the guy who sweeps up the floor whenever a job is done. However, most small shop owners, like myself, want an easier way to determine prices for their products that doesn’t involve struggling through mountains of data to determine the exact cost of doing business.
     Those who have done the calculations say that the general rule of thumb is that after determining the cost of your raw materials and adding 600 percent, you will typically come up with a price that’s both fair and reasonable to both parties—the consumer and manufacturer. Of course, small award shops normally don’t start out with large quantities of raw materials. We tend to purchase small quantities of many different kinds of materials such as plaques and trophy parts that have already been handled by others prior to their arrival in our shops, which puts us somewhere in between a manufacturer and a retailer who simply resells a product directly from the box.
     There are many names for what we do, from product decorators, engravers and sublimators to personalization experts, award specialists and recognition consultants. Whatever people decide to call us, the fact is that we either create custom-made products or we add value to products that already exist. That means we deal with many of the same waste issues as a manufacturer, although on a much smaller scale. The difference is that unlike most manufacturers, almost every job we do is different. We don’t make just one product or even a hundred, we manufacturer, alter or add value to thousands of different products.
     When it comes to pricing products, many retailers may have to change their way of thinking if they want to increase profitability. Most small shop owners are quick to do almost anything to get a job, and they will often use excuses for discounting items such as “it keeps my people busy” or “a little profit is better than none at all.” This rationale may seem wise to some, but if you were to figure out the cost of doing some of these small or discounted jobs you may find that there really is no profit being made at all when you factor in all of the costs of doing business. In fact, some people may even find out that it’s actually costing them to do certain jobs.
     Some retailers may see a product they can buy for $10 and resell for $20 as doubling their money. While that may be true in terms of “gross profit,” you’ll find that what really counts in this situation is “net profit,” which is the amount of money left over after everything else is considered, including shipping, waste, overhead, engraving time, etc.
     It may seem like a daunting task to try to come up with these figures, but it’s actually not that difficult if you’ve been in business for a couple of years or more. You simply take the total amount of money that came in during a single year and subtract everything that went out, which leaves you with your net gain or net loss. This is the big picture we must focus on if we’re going to be successful.
     This can be a bit more difficult for startup businesses because they must estimate many of these numbers. For those of you in this predicament, I would suggest that it’s much better to overestimate your expenses and find a bigger profit at the end of the year than the other way around.
     In recent years, I have noticed more and more award shops succumbing to what I call the Wal-Mart mentality where we think the key to being successful is buying cheap and selling our products below the competition. It may work for Wal-Mart, but I’m willing to bet it won’t work for you. Why? Because you don’t have the buying power nor the volume of sales to make it plausible.
     This is called a “price-based” business model and it’s tantamount to suicide for most small businesses. Anytime you get into a price battle with your competition, both parties are likely to lose. Unlike Wal-Mart, you’re not just selling stuff (commodities) that consumers can buy almost anywhere. You want to sell value, service, convenience, quality and trustworthiness, which are characteristics that Wal-Mart spends billions on in advertising to help draw customers into its stores.
     The reason we must steer clear of the price war mindset mentioned above is because we cannot afford to sell our products too cheaply if we want to stay in business and earn a decent living at what we do. When it comes to pricing, everyone is looking for a simple answer that applies to every situation and, as I said earlier, that just isn’t possible in our business. Learning how to price custom-made and personalized products comes from experience. There is nothing that compares to the school of hard knocks, but there are things you can do to help your cause.
     The first thing I would recommend is to try to find a mentor who has a success record—someone who can take you under their wing and teach you the ropes. This will put you miles ahead of trying to blindly feel your way through the darkness, but mentors are hard to come by. So, you could also try to substitute that by attending as many training events and trade shows as possible, as well as using resources such as training books, videos and trade publication articles.
     Keep in mind, however, that listening to one expert in the industry may not necessarily be the answer. Each individual’s philosophy may vary widely throughout the industry. For example, one person may have pat formulas for everything, others charge by the hour, the letter, the line or the job. Still others may build in special costs for assembly or for the type of machine or process being used or the level of difficulty of the job. Most people will include some discount for large quantities and many of them offer a price guarantee, discount or coupon.
     I admit that my pricing philosophy is very different than most, so I won’t try to convince you mine is better than anyone else’s. Instead, I will simply offer a couple of examples with the hope it will give you something to think about. I will tell you this much about my philosophy: I try to leave as little money as possible on the table without cheating, overcharging or manipulating the price in any way. In other words, I try to charge whatever the market will bear. I am in business to make money and I make no apologies for that. In exchange, I promise to deliver the work on time and to ensure that it’s done correctly with the highest possible quality. If that means doing a job over because there is something wrong with it, so be it.
     Before you can truly understand the cost of being in business, you must develop an operating budget (Fig. 1). One way to ensure that you make money for yourself is to include a salary for yourself. Now, keep in mind that all of the numbers in this example are fictitious, but they are certainly plausible for a startup business in this industry. Your amounts may be higher or lower, and that doesn’t matter. The idea here is to follow the logic and simply plug in your own numbers:
Explanation of Line Items
     Salary—As mentioned earlier, you want to build a salary for yourself into your budget. Make it reasonable for the size of your company and make it a priority to pay it every month just as you would for your employees. They don’t work for free and neither should you. Set the salary at whatever level you think is fair and plausible. In this case, a salary of $45,000 works out to an income of almost $22 per hour based on a 40-hour work week.
     Of course, in a startup business, the owner will likely work more like 60-80 hours each week trying to ensure the success of the startup, and the idea is that eventually, when the business is successful, they will be compensated for that. Paying yourself too much, too early, could cause serious problems and could prevent your business from getting off the ground.
     Employee costs—Salaries, hourly wages and temporary help all account for this category. Also included here are the Social Security and Medicare taxes. Add to this any other expenses such as uniforms, transportation, insurance, vacations, etc. If there are family members who work in the business but don’t receive a paycheck, you should still include what they should be getting paid.
     You can see that in our example, this fictitious startup company hired no employees, which is fairly typical for businesses just starting out in our industry. This is a tough call because if you have enough work, hiring employees can not only pay for themselves but help make you money. However, if workloads are slim, as with most startups, they can be extremely expensive.
     Rent—Even if your startup business is based out of your home and you don’t actually rent a facility, you should still include “rent” as part of your pay package. Depending on the type of company you set up, you may have the right to charge your company rent for using your property. This is a huge oversight that many new businesspeople make when working out of their own homes. Check with your accountant for clarification on this issue.
     Utilities—Even if you work out of your home, it still costs money to pay for lights, heat, air conditioning, water, etc. This must be paid by the company. It isn’t free just because you work out of your garage.
     Product—This line item will vary according to how much you sell. The important thing is to include the cost of the product, the cost of shipping it and waste to cover damaged products, misengraved products and items you use as samples in your showroom.
     A waste factor of 25 percent may seem like a lot, but if you’re new to the industry you will likely make more mistakes, and there are some product lines that are inherent to breakage. As you become more proficient with the technologies, the waste factor will likely go down. Likewise, raw products such as engraving plastic and metal usually result in considerable waste. In this example we included a waste factor of 10 percent, which is very reasonable even for established businesses.
     Office Supplies—This line item includes things like envelopes, stationery, scotch tape, staples, packaging materials, boxes, paper towels, coffee and a host of other consumables that you use in and around the shop. Don’t buy these items out of your pocket and think it didn’t really cost the business anything. Make the company pay its own way.

   
   
 

     Communications—This can be a significant expense in a business. I include the following items on my Schedule C tax form as “Telephone Expense.”
     Telephone: This should include landline phones, cell phones, pagers, 800 numbers, answering services and FAX services that are used to help run the business.
     Internet Services: This line item should include all costs for Internet service, website hosting, construction and maintenance.
     Advertising—This area of your budget would include Yellow Pages ads, web-based advertising and local advertising. The amount a small business should set aside for advertising varies, but it typically falls between 2 and 5 percent of your budget.
     Equipment—If you’re new to the industry, you may have finance charges plus a payment on a lease, purchase plan or bank loan. If you own your equipment then you should consider charging the company a certain amount as a “Capital Replacement Fund.” This would allow you to pay cash for replacement equipment when the time comes. Obviously, this amount will vary according to the kind of equipment you need, i.e. rotary engraver, laser engraver, printer, heat press, etc.
     Repairs—Equipment will eventually require maintenance and repair, as will the facility you do business in. Heating, air conditioning, toilets, lighting, carpet—all of these things require repairs, maintenance and even replacement from time to time. If you include a vehicle as part of your business expenses then don’t forget to include repair and maintenance for that as well.
     Insurance—Every business owner should protect their business and themselves from loss and potential lawsuits. Insurance that protects business owners from fire, liability, theft and worker’s compensation are some of the must-haves for any business.
     Total Overhead—This line item takes into account all of the other items listed, except the actual cost of product sold.
     Total Budget—This is the total overhead plus the amount spent on products throughout the year. This amount will vary according to how much product is actually bought and sold. The higher this number is, the healthier the company. Should the number fall below this level, the company will have difficulty meeting its budget obligations.
     Total Cost Per Hour—This number is based on a 40-hour work week at 52 weeks, which totals 2,080 work hours in the year. If your shop is open on the weekends or you have extended hours, you will need to adjust this number accordingly.
     Your business may have many other line items you need to add to this list. It’s not important how many items you have as long as you don’t leave anything out. Any expenses you leave off your list will be paid out of your own pocket!
Simple Answers Don’t Work
     If you’re still hoping for a simple answer to the question of what to charge for your products, then you’ve missed the point because, as stated earlier, there is not a simple answer. However, there is one more piece of information you should consider before determining what works for you and that is your location. It may come as no surprise that a company in a large city may have to charge more than the same type of business in a one-horse town. That’s because large cities such as Chicago, New York, San Francisco, LA, Houston, Miami and others typically have a much higher cost of living than small towns like Cadiz, OH, or Huntington, WV.
     While some may think this higher cost of living is offset by the fact that there are more people available to buy your products, the truth is that you can only make so many products in a given time. When you start adding employees to increase production, then you also add to your overhead proportionately. Big cities have some advantages, but they also bring disadvantages such as higher rent, more crime and additional taxes. By the same token, operating a shop in a tourist area might be a nicer area and allow for higher prices, but it also may limit the number of months that tourists are on hand to actually buy your products.
     Keeping all of this in mind, I have put together some examples of how to price certain products along with the reasons behind them. Again, these pricing samples are not written in stone, they are just examples for readers to consider. You may choose to charge more or structure your price in a different way, and that’s fine. The important thing to remember is, don’t leave money on the table and don’t price your products thinking that you’re making a bucket of money when you really aren’t!
8"x10" Solid Walnut Plaque
     The cost of a walnut plaque board is about $10 plus $5 shipping if you order just one (somewhat less shipping when more than one plaque is purchased). Engraving this plaque with a laser will likely take 30-45 minutes. Factor in an additional 5-10 minutes to clean the plaque, darken the lettering and package it. Then keep in mind that it took up to 20 minutes to sell the plaque and determine what was to be engraved on it and up to 15 minutes to do the layout on your computer.
     We can break this job down into time plus product, and we would get between 45 minutes and an hour of time both on and off the laser plus the $10 plaque and $5 shipping. If we use the budget example in Figure 1, our overhead comes to about $35 per hour. Take the $10 plaque, pay the $5 shipping and include $35 for labor and our net cost is $50.
     As you might notice, there are several variables in this example that could allow you to reduce cost and make more money. For instance, while the laser is engraving the plaque (30-45 minutes), you could be helping another customer or working on another project. If you have other employees or family members capable of doing any or all parts of this project then you can reduce costs by letting them do the labor at $10-$15 per hour rather than the $22 an hour it costs for you to do it. Likewise, the cost involved in selling the product may be reduced if it is sold by a less expensive employee.
     Still, by using the numbers above, it’s clear that to break even on a job like this would require a retail price tag of at least $50. Now, I know from experience that where I’m located, I can easily sell a laser engraved, 8"x10" solid walnut plaque for $50-$60, so I know I can make money by doing this job. The only question is exactly how much I will make, and that answer may not come until the end of the year when all accounts are settled.
Walnut Ink Pen
     A good, quality, walnut pen costs about $3 plus shipping. In this case, let’s assume the wooden pen is an inventory item and shipping for this one item was not the entire $5. Let’s say we purchased 10 pens to keep in stock, which means the shipping cost was 50 cents per pen. If we ordered one pen for a single job then this clearly would not be a profitable venture.
     Engraving this pen would take only about 15 seconds in the laser while the setup might take a couple of minutes. The time required to sell the product is a dangerous variable because if it takes 20 minutes to sell the one pen, profits will be much lower than if the client decides to purchase 10 pens at a time for a company recognition event. In this case, the time to sell the product would be only two minutes per pen rather than 20. Let’s figure the actual cost both ways and see how big of a discrepancy there is.
     If the customer buys only one pen and it costs $3.50 (cost of pen plus shipping) for the product, 20 minutes to sell it and another three minutes to do the setup, the overhead cost to do the job would be about $13.50 making the total cost $17. If the client bought two pens, the labor time will be just slightly more, say $18 and the total cost for two pens will be $26. If we sell 10 pens at a time, the labor may go up to about $25 while everything else remains the same, meaning that each pen costs about $6.
     Now, experience tells me that I can easily sell these pens for $20 each, which makes the first scenario marginal at best while the second and third scenarios would be quite profitable. Even if we gave a 10 percent discount for quantity in the third scenario, we still have increased our return from a loss in the first scenario to $12 each profit or $120 for the order. It is situations like these that encourage retailers to make special offers like “buy one, get one at half price” because the extra $10 can make the difference between a profit and a loss on some small orders.
Acrylic Award
     Some acrylic suppliers provide a “suggested retail” price sheet for their products, but that doesn’t mean you have to follow their guidelines. I generally use these suggested price lists only as an indicator to make sure I don’t do something stupid when I’m pricing a large order. When pricing an acrylic award, I generally want to make back three times what I paid for the product plus engraving. That will usually guarantee that I will make a profit after everything else is accounted for.
     For example, let’s take an acrylic award that costs $16. Since it ships further than my plaques, the shipping cost is just under $9, making the total “landed” cost $25. For simplicity, let’s agree that $20 is a fair price for engraving. We now have the selling price which is $16 times 3 which equals $48 plus the $20 engraving fee for a total of $68. Now, let’s figure out what it’s really going to cost to make it.
     First, we have $25 for the award and shipping, plus 20 minutes to sell the product, about 10 minutes to do the setup and another 10 minutes to run the job, totaling 40 minutes at $35 an hour for labor and overhead for a grand total of $60. We charged $68 for this job leaving us a profit of $8. Again, if these tasks can be accomplished by less expensive personnel or in less time, the profit margin goes up, but hopefully you see the tremendous hidden costs in this industry—costs that will quickly put you out of business if your focus is on discounting or simply keystoning products.
Leftover Profit
     Now let’s address what you do with that leftover profit at the end of the year. If you look at your pricing from this perspective, there should be a sizable sum here, and there are several things you can do with this money. First, you can generate a cash reserve equal to six months of operating costs. This will ensure that when a tough month comes along, you will have cash readily available to take care of yourself, your company and your employees.
     Second, you could pay off any debt you might have. Third, you may want to expand your business by adding new equipment or technologies. And fourth, if you can’t find anything else to spend it on, call it a bonus and take it home with you!
Should We Farm Out Jobs?
     Now, if the pricing schemes I’ve been discussing are true then why do so many companies, like those we farm jobs out to, use a 60/40 plan? That means you pay 60 percent of the manufacturer’s retail price and get 40 percent as profit, less shipping. How can we be expected to make any money with such a short profit margin? Sometimes you won’t, but in many cases, this isn’t a bad deal if all you have to do is place and deliver the order.
     For example, you might have 20 minutes tied up in selling the order, but you don’t have the risk of doing it wrong, breakage or labor costs. In the end, you certainly don’t make the full 40 percent, but as long as you cover the time needed to process the order, you’re going to make something for your effort. In many cases, these special order jobs can be made even more profitable by passing on the shipping costs, setup costs, etc., to the customer. In the promotional products business, this practice is quite common.
     After all of this, I realize I still haven’t provided a simple formula by which to price all of your products. So for those of you who insist on using some type of mathematical formula, I will offer two that will likely cover most of the products an award shop might sell. Don’t take these too literally and certainly don’t make them gospel. Simply use them as a starting point if you must.
     The first formula covers items such as plaques, clocks and desk items that you would order from supplier catalogs such as R.S. Owens, Tropar, Barhill, etc., where the retail price is three times your cost plus engraving. Don’t give discounts or free engraving for single orders. If you want to discount 10 or more products at a time, that’s up to you but you can’t afford to discount small orders if you really want to make a profit.
     The second formula covers items you would need to buy components for and assemble yourself. Here, simply take the cost of the various components and up the price by 600 percent.
     In both of these cases, you will need to adjust each price slightly to round it off, make it reasonable in the marketplace, etc. For instance, if your math takes a product to $18.37, you might round it up to $19.95. This gives you room to bring it back down 10-20 percent should the customer merit a quantity discount later on. Then you have to ask yourself if the price is reasonable. Does it carry a perceived value equal to what you want to charge? If not, then it may not be a good product for you to sell. If the perceived value is higher, you may want to further increase the price for an additional profit.
     There’s no doubt that pricing products right is one of the most challenging aspects of running an award shop. If you set your prices too high then you will take yourself out of the market and products will sit on the shelf. Set your prices too low and you’ll move product but make little or no profit. Most customers will pay a fair price for a quality product delivered on time. Most have learned the hard way that you get what you pay for, and if all you look for are cheap products then you’re more likely to get exactly that—poor quality along with inattentive salespeople and engravers who are unresponsive when a mistake occurs.
     Regardless of the pricing strategy used, the retail price of the products should more than cover the cost of obtaining the goods plus the expenses related to operating the business. Retailers simply cannot succeed in business if they continue to sell their products below cost. The key to successfully pricing products is to find that middle ground, which involves coming up with a price that is both fair to customers and allows you to make a fair profit for your time, equipment and knowledge.

 

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