Many factors affect product pricing
by Deborah Jeanne Sergeant
Many producers don’t know how to price their goods, especially among different points of sale. That’s why Will Jaquinde, sustainable agriculture instructor at Tollgate Farm and Education Center at Michigan State University, presented “Pricing Products for Different Markets” as a recent webinar.
Farmers need to establish sustainable businesses. “Pricing is just one piece of that,” Jaquinde said. “We’ll try to pull pricing as its own entity, but it’s tied to the finances of the whole farm and with your personal finances and what you hope to make for a living.”
He said many producers don’t even think about what they plan to charge until they are ready to go to market – and that’s a big mistake.
“Think about price well before you have a product in your hand and well before we have bills and employees we need to pay,” Jaquinde said. “Once we have bills, employees, product and a market, we just want to get it sold.”
That can cause underpricing as producers feel pressured to get money as quickly as possible. Jaquinde said the goal of pricing is to maximize profit; however, other goals can also influence how a farm operates.
Pricing strategies can include value-based pricing, which Jaquinde said is based on what the consumer believes the value should be. The loss-leader strategy attempts to sell products at a significantly lower price to attract customers. This strategy relies on sales volume. Penetration pricing provides a means of breaking into markets (such as the restaurant market) at a low price point with the intention of raising the prices later. Predatory pricing or undercutting means that a farmer sells at significantly lower prices than the competition. The pay-what-you-want strategy allows customers to set the price. This strategy is usually one used by farms with a goal of addressing social issues like food insecurity.
“You need to know your costs,” Jaquinde said. “It doesn’t matter which pricing strategy you use. You won’t know it’s effective unless you know your costs. Don’t base it on what the wholesale account can give you or the prices others are selling for at the farmers market.”
The cost-plus pricing strategy “is really straightforward,” Jaquinde said. It takes the cost to produce and adds the profit margin to arrive at the price. Jaquinde said it’s simple and covers the costs; however, it’s also relatively inflexible and doesn’t consider competition and consumer factors.
To determine the margin, farmers need to look at their long-term personal and business financial goals. These should include a rainy day fund and capital improvement fund.
“We could use it to fund a capital improvement so we won’t need to use credit or lenders,” Jaquinde said. “We need to be able to calculate that.”
He wants farmers to remember that not all product gets sold because of the effects of crop or product loss, disease, flood, drought, weeds, predators, low quality, overproduction or market variability.
He likes to make spreadsheets to organize farm financial data. The Microsoft Excel software allows users to easily add columns of figures and replicate formulas among spreadsheets.
“You need to sit down and think what might go wrong and how big of a rainy-day fund you’ll need,” Jaquinde said. “This will change. In year one, it will be different from year five.”
For example, a new farm making $30,000 its first year may set aside $5,000 for a rainy day fund; however, a farm making $50,000 will need more.
“In year one, we’ll struggle to make costs,” Jaquinde said. “By year two, we might build some profit margin in. By year three, we need to make up for year one. We’ll need a larger profit margin. We need to constantly be reevaluating to see if we can make these goals.”
Jaquinde said many farmers don’t figure in a salary for themselves when beginning their farms – and that it’s a big mistake. “A lot of beginning farmers throw themselves into the farm. They may work 90 or 100 hours and then not pay themselves. Five dollars or $3 an hour will not equate to staying in business long-term. That’s a major reason that many farms fail.”
Some farmers try to do it all instead of focusing their time on high value, skilled tasks while outsourcing or minimizing low-value tasks that others can complete more efficiently or for less money.
An enterprise budget may not be a document that a farmer presents to a lender, but this document can help a farmer make better decisions.
“You can see if these products are taking you towards your financial goals,” Jaquinde added. “If you can build your own enterprise budget, you can understand how much you need to charge.”
Farmers need to determine fixed versus variable costs. Fixed costs do not increase as production scales up. Variable costs increase proportionately to production.
“If you grow more tomatoes, your mortgage won’t go up, unless you rent more land,” Jaquinde said.
But as a variable cost, the farmer growing more tomatoes would need to buy more seed or seedlings, fertilizer and pest control measures. The costs of utilities will go up too.
Figure out what each employee (including yourself) should receive as pay. Roles with higher levels of training and responsibility will receive more pay.
“Different tasks may have different people do it, like a manager might have to do pesticide application but weeding is more like field hand work,” Jaquinde said.
Jaquinde said, “Look into taxes with your payroll. Hopefully, you’ve done your own personal accounting so you know what you need to receive as pay. You’ll need to pay for healthcare and retirement too.”
Using another farm’s budget may seem easier, but it’s not. “Building the budget yourself is useful because you know your costs,” Jaquinde said. “No one knows your operation better than you. Look at other ones, but if you try to use another one, it will make your head spin.”
Farmers should also look at the payback period – how long their operation will take before it will recoup the fixed costs of the operation.
By organizing their data, farmers can set a budget. The budget helps them make decisions that create more data.
“The data tell us not just the price, but where a price is competitive,” Jaquinde said. “If it is not competitive anywhere, discontinue the product.”
To select the right market, farmers need to understand the differences among various markets. Farmers can dictate the price this way. The highest price will be the CSA and farm stand. In the middle is the farmers market, small wholesale and restaurant markets. The lowest prices will be through selling to medium to large wholesale markets.
The goal of the CSA is to “give excess ‘value’ to customers,” Jaquinde said. Farmers selling through the CSA model need to remember to leave a profit margin. Since customers pay up-front, farmers lower their own risk and reduce their need for lenders, credit and debt.
For these reasons, “95% of our production goes to the CSA, yet we still know our profit margin because that’s what it takes to be successful.”
Those seeking to enter the farmers market model should visit the market the season before regularly. They should record the prices they see, talk with vendors and with the manager of the market. It’s also helpful to note the traffic of that particular market.
Small, local wholesale markets might include restaurants and food hubs.
“These are sales to grocery chains, large institutions and through conventional marketing arrangements,” Jaquinde said. “There are things cropping up that are more accessible to smaller farmers.”
The biggest issue for beginning farmers is determining yield and what volume is appropriate to achieve their financial and quality of life goals. “It is very difficult because yield data is highly variable,” Jaquinde said.
Talking with other farmers can help producers know what they can expect. Jaquinde advised recording yield data and pricing each year to compare with subsequent years, but farmers should also understand that will change rapidly as they scale up the operation.
Recording information is important because “you won’t remember later,” Jaquinde said.
He also said many farm organizations are working to help farmers adapt to current times by doing things like building online platforms to help farmers deliver.
“Start checking those resources out and start adapting,” he said. “We don’t produce something that people will use less of because of this. How do we adapt our marketing and how do we market and expose folks to local, healthy food? My hope is people will start to understand the importance of local food at a time like this.”