Underpricing: the signs you charge too little

Underpricing is charging less than the work needs to fund the business. It rarely looks like a pricing problem from the inside. It looks like being busy all the time and never having money.

Here's how to spot it, and the math that makes raising prices less scary than it feels.

Five signs you're underpriced

1. You're booked solid and the bank account doesn't show it. Full calendar, thin margin. You've built a job that's hard to step out of.
2. Nobody pushes back on price. If every prospect says yes, the price isn't doing any filtering.
3. Gross margin is low or sliding. Costs went up the last two years and your price didn't move with them.
4. You can't afford to hire the next person for delivery. The work pays for you doing it, not for someone else doing it.
5. You set the price by looking at competitors. Then you're pricing off their costs and their mistakes, not yours.

Two or more of these and price is the first place I'd look.

The misread

"If I raise prices, I'll lose clients."

You might. The question is how many you can lose before it costs you anything. Owners almost always guess too low.

The math

Say a client pays you $1,000 a month and it costs you $600 to deliver. (Made-up numbers.) That's $400 of gross profit, a 40% margin.

Raise the price 10%, to $1,100. Delivery still costs $600. Gross profit per client goes from $400 to $500. That's 25% more profit from a 10% price change.

Now the question that matters: how many clients could leave before you're worse off?

• 100 clients at $400 = $40,000 a month in gross profit.
• At $500 each, you need 80 clients to make the same $40,000.

You could lose 20 out of 100 clients and make the same money, with 20% less work.

The formula, if you want to run it on your own numbers: the share of clients you can lose and break even = price increase ÷ (gross margin + price increase). Here that's 10 ÷ (40 + 10) = 20%.

The thinner your margin, the more room you have. At a 25% margin, a 10% increase lets you lose 29% of clients and break even. That's why underpriced businesses have the most to gain.

Why it happens

Most of the time it's one of three things. You set the price when you started and never revisited it. You priced by the hour and got faster, so you now earn less for the same result. Or you're afraid the price is the only reason people buy.

That last one is worth sitting with. People buy confidence in the outcome and less time to get it. If price were the only reason they bought, they'd already be with the cheapest option in your market.

Run your own numbers

The free PPA Calculator shows what each client actually leaves you after what it costs to win and serve them, channel by channel. If the number per client is thin, the price is usually part of why. About three minutes.

Your move this week

Take your three most common services. For each one, write down the price, what it actually costs to deliver (hours times what those hours cost, plus anything else the job uses), and the gross margin.

Then run the break-even formula for a 10% increase. Find out how many clients you could lose before it hurt. I'd bet the number is higher than your gut says.

Busy isn't the same as profitable. Price is usually the difference.

FAQ

What is underpricing? Charging less than the work needs to cover its own cost, fund the business and pay the owner. It usually shows up as being busy with little money left over.

How do I know if I'm underpricing my services? Look for a full calendar with thin margins, almost no pushback on price, a sliding gross margin and no room to hire for delivery.

How much can I raise prices without losing money? Divide the increase by your gross margin plus the increase. At a 40% margin, a 10% increase lets you lose up to 20% of clients and still make the same gross profit.

Should I price based on competitors? Use them as a reference, not a rule. Your costs, your margin and the result you deliver should set the price.

What's next after I find I'm underpriced? Raise prices on new clients first, then on existing clients with notice. See how to raise prices without losing customers.