Pricing and Demand, or “Why is Everything So Expensive Nowadays?”

I was doing some online reading and coming across several articles that talked about the skyrocketing prices of, well, everything nowadays. Now I don’t think that this is anything particularly new, prices have been going up since forever, but it did spin my brain off into an interesting chain of thought.

Once upon a time, literally decades ago now, I did some basic economics studying in school. Now I’m not going to pretend my MBA101 econ class is going to prepare me to solve all the world’s problems, but there’s a basic lesson that’s important for you to learn if you are involved in any sort of pricing decisions at all, whether it is because you’re a business leader, entrepreneur, or even a shopper. And that lesson is understanding the price-demand curve.

So the simplest explanation is that, as things get more expensive, less and less people buy it. Well that makes sense, but the reason this is important is that somewhere along that curve is your maximum revenue and profit, and it is not necessarily to the left of the curve. You might actually make more money pricing things more expensively. If I have a basic hamburger I sell for $10, and a premium for $100, if I can sell one premium then I have to sell 10 basic burgers to make the same amount of money. But what if I’m only able to sell 7 or 8 a day, versus my one premium? It actually makes more sense to sell the premium.

(And thus my point is, I wonder if that’s what we are seeing with consumer goods pricing going up and up.)

Another place this can be seen clearly is hotels, like those fancy hotels in Las Vegas. I can have 200 rooms at $150 a night, making me $30,000, but if I also have two super-awesome penthouse suites that I can rent at $15,000 a night to a celebrity, then those two rooms have made me as much as the entire rest of the hotel that night.

So how does this matter to you? Let’s say you are selling custom products or services. It might be more advantageous to you, financially, to pursue one or two $5 million contracts than 15 or 20 $100,000 contracts. Treating this as an expected value problem can show you where to focus your efforts, and that’s the key to growing your business.

(So there’s obviously a lot more to this, having to do with probability-to-win, cost-to-win, and of course what you can actually deliver. For my hotel example, this only works if you actually book every room, every night. But that’s a follow-up post for another day.)

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