The ABCs of how your business works: P&Q
As a consultant working with small and growing businesses, I can confidently tell you that the most successful small business owners have a clear understanding of the fundamentals of their business, and can explain what they do in relatively simple terms. Over the years, I've learned that these fundamentals can be taught and summarized through use of letter pairs, and today I'm going to teach you some business fundamentals using one of these letter pairs. So without further delay, let's get into the ABCs of how your business works, starting with P&Q.
P&Q - PRICE and QUANTITY
The most essential thing to understand about a business is how it generates its revenue to bring in the money to fund operations. Any businesses' revenue can be explained by P and Q, which stand for Price and Quantity. In a single line of business, total revenue can be represented by taking the price of the product or service and multiplying it by the number sold, P*Q. Price represents the price that a customer pays for a product or service. Depending on your business model, you might think of price in a couple of different ways, such as:
What a customer pays for my product, like a piece of clothing
What a customer pays for my time, an hourly rate
What a customer pays for the results I have promised them, a desired output
Quantity represents the volume of customers purchasing your product or service. Depending on your business model you might think of quantity as:
The number of products you sell
The number of hours you can bill
The number of engagements you can complete
Some businesses may succeed by selling relatively few products at a high price, while others will sell at a relatively lower price and make up for it in sales volume. Every business model has a unique range of prices and quantities that can be used to successfully run the business.
Good business owners will know what limits are affecting their Prices and Quantities, such as:
The upper limit of my prices ultimately comes down to supply and demand as well as some other qualitative factors. At this stage in my business, I should be considering what substitutes exist for my service in my market as well as the optics surrounding charging super high prices because my current brand is built around affordability.
The lower limit of my prices ultimately comes down to business and opportunity cost. If the price is too low, I won't be able to sustain or grow the business in a meaningful way because I tend to spend some of the profits I make on additional marketing. On top of that, it wouldn't make sense right now for me to charge a rate less than what I could make at my restaurant job.
Because my business provides a service, the upper limit of my quantity is based off of my capacity to work. By charging an hourly rate, I am inherently limited to the number of hours I'm willing to work in a week.
The lower limit of my quantity is based on my ability to get by and the growth goals for my business. I need to be able to pay the bills, as well as learn and grow my business. Both of these things will require me to have at least 20 hours of client facing time per week.
When you put everything back together in the context of p and q, you start to understand how changes in the price of your product or service and the quantity of product or service you provide impact the top line of your business. With this fundamental understanding, you can start to ask yourself questions like:
At this point in my business's life cycle, does it make more sense for me to focus on my price or my quantity?
How can I increase my price without upsetting my customers?
How can I increase my quantity? Should I spend more on advertising or hire someone?
Will changes to my price and quantity have a perceived or actual effect on the quality of my results?
The answers to questions like these will give you clarity on what to do next with your business, and they all stem from the simple idea of your P&Q. So the next time that you have a chance to reflect on your business revenues, try putting everything in terms of P and Q. You will be surprised at how much you can explain with these simple two letters.