When I moved to Portland, I wanted to try something new. I chose paragliding. I had done many land and water sports but nothing in the air. Paragliding is the most amazing feeling. You are way up high with no other support than the glider. On my first day of paragliding, I flew tandem, then I did a short flight on my own from the sand dunes. I learned many things that first day: You cannot go any higher than your starting height. Getting up in the air looks easier than it is. Flare means stop. Pulling the levers steers the glider. Stopping on a dime is not the best idea.
Flying in a controlled environment with a great guide is very doable. It gives you an unencumbered view and the feeling of power and limitless possibilities. However, danger lurks with high winds at high altitudes when cliffs are nearby. You need to know the environment and your skills, work with trusted partners, know the language, and listen to the people on the ground. On my third solo try, the glider finally stayed up. I realized I was flying. A lot of instructions were coming from my instructor on the ground, and finally I heard, “Flare, flare, flare.” Once it hit me that he was yelling, “Stop,” I quickly flared, descending in a controlled but quick fashion, only to find myself a few feet from a pickup truck and the Pacific Ocean. I took my gain for the day and decided I had achieved all my goals and more and had enough. Thinking back, many of the lessons learned that day transfer to business. Here are a few.
Pricing Mindset: How High and Far Can You Fly?
Unlike a paraglider, there are no physical limits to your business growth other than the ones you impose on yourself. If you consume more cash than you are producing and borrow at a higher rate than you are earning, sooner or later you will head the Radio Shack way. In working with marketing and leadership teams, I have observed that many small and mid-market businesses limit their revenue growth with their pricing mindset. Service companies price on a cost plus “peanut-buttered” hours, and manufacturing companies price on a fixed percentage of “peanut-buttered” costs on each of their individual products.
Both of these pricing models miss the mark. What I, and many other financial experts, call the “peanut-buttered” costs are the allocated overhead-laden unit or hourly costs of production. Accountants and engineers hang onto them for fear of losing control. Charge below the per unit cost with overhead, and you will not recover your costs, one young accountant recently asserted to me. Unfortunately, I hear this all the time.
However, “peanut-buttered” unit cost misconstrues fixed costs and committed cash flows as variable costs. In doing so, it hides the true cost and cash flow consumption as well as the real contribution of each sale to the bottom line and to the coffers. Using “peanut buttered” costs and cost plus markups on sales can not only leave sales on the table, they can leave valuable cash flow there too. They can also leave a business shooting in the dark for cash flows, diving further into the red, something particularly detrimental for high-growth companies that need continuous and growing operating cash flows.
A SMART costing approach and SMART pricing strategy focuses on the true contribution margin that each sale brings to the table relative to market constraints and growth opportunities. They are not constrained by allocated costs that speak to past production levels but are focused on growing the company’s top and bottom line and cash flows. Forward looking financials do not replicate the past, they talk, they sing and reveal the financial impact of your business model to enable “SMART” pricing, investing and financing decisions.
Are you listening or acting like an ostrich?
Even industry leaders can grow complacent, lose sight of growth opportunities, and spend more than the company makes. Every company must continue to evolve. Prior to its bankruptcy filing, Eastman Kodak struggled for years to adapt to a digital world and was selling its own patents, reporting those sales as revenues and operating cash flows. In the end, it was only fooling itself (e.g., see De La Merced, NYT, 01/19/2012).
Choosing to grow, the world’s best-selling automaker, Toyota Motor Corp., recently revealed a revamped manufacturing process that will share components among vehicles. The process will be used to produce half of its vehicles by 2020 and slash costs. Once the leader in manufacturing processes, Toyota is following Volkswagen, the world’s second-largest automaker. Volkswagen launched its global manufacturing platform in 2012. A decade ago, Toyota was confident about its rapid growth, backed by sales of affordable and reliable vehicles and its manufacturing prowess. With auto sales plunging worldwide during the financial crisis, Toyota struggled with high fixed costs related to its excess production capacity from a rapid expansion as well as a series of crises. (Kubota, WSJ, 03/26/2015).
Call to Action
What are your growth options?
How is your pricing strategy supporting that growth?
Do you have growing operating cash flows you can count on to invest in your growth?
Can you forecast those cash flows on a timely basis?
Notes from the Voyage By adopting a SMART pricing mindset and using SMART costs, one midmarket company I work with increased its year to year revenue in the first quarter of implementation by 30%.
Nicole’s Notes is a bimonthly newsletter for growing companies, executives, and managers, based on 25-plus years of my adventures in business, life, and the great outdoors. I hope that Nicole’s Notes will generate conversation. I want to hear from you (nicole@nthandco.com)—how the content resonates with you, and what topics you would like to hear about. Feel free to forward and share this newsletter! You may subscribe and encourage others to subscribe by clicking here. Click here for previous issuesor to read a text version. You may always unsubscribe by clicking the link at the end of this email. Grow!
