Pricing strategy objectives.
Let me share my thoughts on the primary objectives identified in the previous article.
1. Cost recovery
Whether bad times or good times, making profit is the main objective of every firm. That in other words means , earning enough income to ensure recovery of all the costs. Typically, for professional firms, most of the costs, including the manpower costs, are considered to be indirect costs or overheads.
However, for earning income, the firms use the time of their employees , managers, partners, directors to render service to the client. And that time so spent, is also expected to fetch income to the firm. Thus there is a direct linkage of cost of such people and earning of income.
Hence, it would be prudent to bifurcate the total costs of the professional firms into direct costs (i.e. Costs of the people engaged in rendering service to the clients) and the indirect costs ( every other cost).
Needless to say such bifurcation would not affect the objective of recovery of both the costs. However, Such bifurcation is considered necessary for enabling nimble decision making in different situations as we shall see later.
2. Sufficient profit
After recovery of the total costs, where income continues to exceed the costs, profit will start accruing to the firm. What level of profit is sufficient is obviously a decision that owners will have to take. Aspirations of employees and satisfaction of customers will be the most important considerations.
Following factors also may be relevant in quantifying the figure of sufficient profit-
(a) Level of competition (b) Composition of clients (In terms of size, nature of services demanded, type of entity etc.) (c) Special expertise of the firm (d) Past performance (e) Firm’s brand (f) Marketing strategies (g) Expected growth (h) Expected position in market (i) Capabilities of employees (j) Pricing policies (k) Extent of use of technology (l) Investment in infrastructure (existing and proposed) (m) Expected changes in overheads.
Defining annual growth rates for profit per employee or profit per partner with expected number of employees and partners in future, will also help make such decisions more objective.
Some firms continue to exist with an attitude of “Chalta hai” or what is described as a “Satisfactory underperformance”.
In fact many firms wither away in spite of good service, solely because of lack of focus on profit.
Pandemic would force most firms to rethink the way the firms need to be managed in future. Setting a proper Profit goal would be one of the most important step in that direction.
3. Maximum utilization of capacity
Though “Installed capacity” is normally considered to be relevant to manufacturing companies, it’s relevance in the service sector is generally not given due importance. Probable reasons are invisible and intangible output which is presumed to be not measurable. Besides heterogeneity or diverse nature of services in the case of most professionals ,also maybe an excuse for disregarding this important objective.
Capacity of a person can be expressed as maximum time that is available ( as per the terms of contract) to the firm which can be utilized for rendering services to the clients for a given period, let’s say a year .
Capacity of each person = working hours X working days
Where working hours = Office hours – lunch time etc (e.g. 9 – .5 = 8.5 hours)
Working days = days in a year – ( weekly off+ office holidays + leave )
= 365- ( 104 + 15+ 21) = 225 days
Annual capacity based on above assumptions = 225 X 8.5 = 1912.5 hours p.a.
Ascertainment of every individual’s capacity is important in view of differences in skill sets, experience, cost and ability to generate more or less revenue of different persons. Capacity utilization is an important factor in determining sufficient profit of the firm and would play an important role in tracking the performance of the firm and individuals.
To succeed, every firm would have to ensure as far as possible, 100% capacity utilization for every person.
4. Liquidity management
Quick conversion of time spent on rendering services to clients, into money should be an important objective in every firm’s pricing strategies. In fact while deciding sufficient profit, repayment obligations, periodic payments of significant amounts also may be taken into account for smooth functioning of the firms.
All these objectives need to be kept in mind while selecting the right pricing method which is discussed in the next article.