The Internal Revenue Service defines a business as an operation with an intention to make a profit. But what makes a business profitable? The answer comes down to more than just making sales. It is found in the value you create.
What is Profitability?
Profitability can carry several modifications in definition. In one view, it is a measurement of a company’s profit related to expenses. In another, it can be a company’s ability to use its available resources to generate revenue above expenses. Overall, it refers to a company’s ability to make a profit from sales.
Profitability Comes from Value
To create demand for your product or service, your customer must perceive and understand its value. It must fulfill a need or want, or improve their lives personally or in business.
In order to create that value, a company owner must understand the needs of its customers and define the offering in terms that their target market can understand. When you understand your customer, you can create targeted campaigns to reach those who find your product or service the most valuable.
Prior to marketing, perform a market analysis:
- Look at demographics: Are you targeting men or women? What age group? Are they married, engaged, single or divorced?
- Choose a geographical location: Are you selling locally, regionally, nationally or internationally? Each market may have specific difference in how your market to them.
- What income target is appropriate: Individual income? Household income?
- How about occupation? Are you targeting business owners, employees, stay-at-home moms?
Are You Selling Low Cost or High Value?
A customer’s perception is created by the brand. If you heard that a gift came from Walmart or that it came from Nordstrom, which would you think was the better-quality and higher-value item? Nordstrom—even if it was the same identical item! That’s branding.
- Example of low-cost brand: Walmart, which purchases low- to mid-quality items in bulk and offers low prices.
- Example of high-value brand: Nordstrom, which offers high-quality items and a higher price.
Unless your goal is to sell in bulk, your path to profitability lies in the value you promote. By demonstrating the value your customer will receive, they will be willing to pay the higher price you ask. As a bonus, a higher price is often associated with expectations of a higher-quality and more desirable product.
Many business owners start out selling at low prices, perhaps not believing themselves in the value they bring. However, if they don’t believe it, neither will their customers. The key to profitability is to be able to define and communicate the value the customer will receive, and to ask a fair and sustainable price.
Understand the Product/Service Life Cycle
Almost every product or service has a life cycle, and a business owner must identify and work within the stage at which it currently stands. The four stages of a life cycle are: introduction, growth, maturity and decline.
Introduction
The product or service is new to the market—at least from your company. At this stage, you need to raise awareness of its availability and value with an investment in marketing and advertising. Often there is little competition.
Growth
People have heard of you and your product/service and if it is successful, they are purchasing it with consistent sales. You will see a growing demand and increase in production as the product grows more recognizable. This is the time to push marketing to capture the excitement and growth opportunities for maximum revenue, especially if competition is present. Improvements based on customer feedback should be made at this stage.
Maturity
The maturity stage can be the most profitable because your marketing and advertising costs have declined and you have developed efficient methods of production. However, if the market is saturated, your product/service may reach the end of its growth stage, and sales will begin to trail off or become stagnant. Now is the time to innovate to find new ways to capture sales. Gather customer feedback and look for new markets.
Decline
As the market is saturated or new products/services replace yours, you must decide whether to keep pushing sales or phase out marketing. An alternative is to create the next-generation version of your model and re-enter the four-phase cycle as “new to the market.”
At each stage of the life cycle, value must be identified in order to sustain profitability.
Increase Profitability with the Association for Enterprise Growth
If you need help identifying the value in the product or service you offer, or in setting pricing, and want to become more profitable, reach out to the Association for Enterprise Growth (AEG). Our goal is to create trusted relationships between business owners and our AEG advisors to help you grow your business, acquire personal wealth, and exit on your own terms.
To learn more about how AEG helps members grow their companies, contact AEG today.
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