I remember back around 1977 or 1978 (man, I’m starting to sound like my good friend Jack Roseman!) I put a call into my then-business partner/controller that went something like this:

Me: Rick, it’s Ron and I have both good and bad news.

Rick: Well, give me the good news first.

Me: OK, remember that payroll we didn’t know how we were going to make? Well, we’re probably good for at least three, and maybe four payrolls now because I just closed the Edwards, Leap Sauer account.

Rick: Well that’s terrific! So what could possibly be the bad news?

Me: The bad news is that this deal will probably bankrupt us because I practically gave it away.

Does any of this sound familiar to you, dear fellow entrepreneur?

It should, because according to a couple of private studies that I recently found on the Internet, “under pricing” or “selling below cost” is THE Number One reason why businesses fail in their first three years of existence. Some call this “under capitalization.” I call it, “lack of knowledge about one’s costs” and/or, “order-filling, rather than actual selling.” Let’s look at these two ‘cousins.’

First off, “Do you really know your ‘delivered’ costs?”

A regular and very astute caller to my talk radio show called in a while back to examine this point in detail. He pointed out, and quite rightly, “very few companies truly know what it costs them to actually deliver a finished good OR service to a customer”.

“They think they know (their costs)”, he said, “but really all that they are doing is adding up the costs of the components or labor that make up the deliverable, and forget altogether their indirect (insurance, allocation of square footage, energy costs, management time and cost, etc.) as well as the really difficult-to-track costs such as expediting, field service (remember, “an ounce of prevention”), and product/market research.”

Some years ago, I was a partner in a company that implemented what are commonly called “Activity-Based Cost management” systems. Simply put, this (to the green eye-shade guys for sure) “radical” way of costing a company’s goods and services looks at both value-added and non-value-added activities across divisional or departmental lines in an effort to determine the true cost of a delivered product/service.

In many companies (printing and design come immediately to my mind) a great deal of time and cost is invested in “finding out where the job is” and/or coaxing a production manager to move that same job to the head of the line. But how is this activity allocated towards the delivered cost to the customer?

Fact is - it generally isn't. Instead, it becomes part of the general overhead and thus becomes a cost borne by ALL customers - and not just the ones who caused it in the first place!

This is where we get our $800 hammers, by the way. A plant will produce a line of products that are stamped out repetitively and then every now and then build a customized pneumatic jack-hammer that not only lines up the nails, but also deep sets them and then colors in the hole itself.

This is a complex set of activities, and since this product is only built maybe four times a year, all of said activities are not allocated towards the jackhammer, but instead shared equally with the ($800) hammer!

Because after all, what customer is going to pay the TRUE cost of the complex product (the jackhammer)?

So, we sell the jackhammer below its delivered cost and the regular hammer is slightly more expensive to everyone else.

How did we get here? Well, that’s next week’s story (“Guts and Honesty – The Only Way to Sell and Stay in Business”) - the story of how companies simply make really bad decisions as to what it is that they will deliver to the marketplace in the first place.

Once the bad strategy of making both a repetitive and a complex set of products under the same roof is accepted, salesmen then exacerbate the problem even further by lacking the courage to say “no” to the customer in the first place. This leads to them capitulating on price in order to come back to headquarters with some deal in their pocket.

Meantime, take a look at your costs. All of them. And then have an honest discussion with yourself as to whether or not you are even in a position where you can afford to win.