Is It Time to Raise Prices?

If you've been swallowing the rising costs of doing business, watching as soaring energy prices and exorbitant health-care expenses choke your already-gasping profit margins, you're not alone. Many entrepreneurs have been waiting and watching for cues from their industries and larger retailers and manufacturers to see whether the variable price increases would actually stick.

It appears they will. The Consumer Price Index, put out by the Department of Labor, rose steadily before flattening out, as oil prices leveled off heading into summer. This indicates that as long as oil and health-care costs continue to rise or stay level, companies are finally committing to increased prices. And small outfits, which often lag behind larger ones, are getting comfortable with the idea of following suit. "A growing number of businesses are intending to or have already raised prices," says Stuart Hoffman, chief economist at PNC Financial in Pittsburgh, which conducts regular surveys of small and midsize businesses. In the company's February survey, 50 percent of respondents said they expected to raise prices. That figure grew 16 percent over fall 2004 and more than doubled over the previous year. "It's a sign of these businesses flexing their pricing muscle," says Hoffman.

In some cases, they have to. Tony Zanoni, president and co-founder of Kitchens Direct, a home-remodeling company in Sarasota, Florida, has felt the pain of increasing energy costs. The rise in the price of gas cards he provides employees, the increased cost of the 50 to 100 deliveries the company makes along the Gulf Coast each week, and climbing freight expenses have all made their mark on his company. "It's hit us from every direction," says Zanoni, 39. "And there's no certainty to it. That's the most frustrating part." That uncertainty has made it difficult for Zanoni's team to bid on future projects with accuracy. "Without knowing the costs of fuel and freight, you're kind of throwing darts in the dark."

But Zanoni finds he can only raise clients' prices once a year, or twice at most, so he's had to hunt for operational efficiency opportunities inside the company to make up the difference. "It's a double-edged sword," he says. "If I raise too high, they'll go look for someone else, but too low, and I give up profit I could have earned."

For smaller businesses, that fine line between underpricing and scaring customers into the arms of competitors feels even narrower. That's why experts advise against simply reacting to the overall business climate and instead suggest businesses do some research before making a price change. For starters, suggests Joel Evans, co-author of Retail Management: A Strategic Approachand the RMI Distinguished Professor of Business at Hofstra University's Zarb School of Business in Hempstead, New York, entrepreneurs should track their sales and customer retention, and then look at the pricing activities of similarly sized companies in their geographical area-while being mildly alert to what larger firms are doing. Do this "not to match them, but to be consistent with your strategy," says Evans, noting that smaller companies can become overly preoccupied with matching big competitors' prices. "Yes, you need to be within the ballpark-10 percent or 15 percent-but you don't need to be matching," he explains.

And rather than lag behind large competitors' price increases, use your research to lead when necessary. "Sometimes the large retailers can actually postpone a price increase based on their large inventories purchased at a lower price," says Larry Compeau, associate professor at the Clarkson University School of Businessin Potsdam, New York, who studies the impact pricing has on consumer behavior.

Ultimately, it's important to recognize that price isn't the only reason customers choose your product or service, and if you've remained competitive at 10 percent to 20 percent above prices of the nearest large retailer, you should maintain that same ratio, says Compeau. "Consumers value what you're providing and are willing to pay a premium for it," he says, "so by not increasing your price, you're simply leaving money on the table."

C.J. Prince is executive editor of CEO Magazine.