The Adventures of Lee The SME Owner - 22.

Chapter 22 - The Profit Puzzle

For years, Lee had operated his business with the comfort that as long as the company was profitable overall, there wasn’t much need to dig into the specifics of each product’s performance. After all, the numbers always looked good, and he was making a healthy profit. But John, ever the pragmatist, had suggested a full review—something Lee had never done before—backcosting each product to see exactly how profitable they were.

The process was new for Lee, and it was eye-opening.

The Discovery

Lee sat down with his finance team and began reviewing each product in the portfolio. He had four distinct product categories, each with five different products. To his surprise, the deeper he dug, the clearer the picture became: not everything was as rosy as it seemed.

Two of the product categories were performing exceptionally well, generating all the profits for the company. These were the products that kept his margins healthy and his business thriving. But the other two categories? They were either breaking even or, worse, losing money.

Lee was floored. How had he missed this for so long?

It wasn’t that the products were bad—customers seemed to like them well enough. But as he and his team delved into the numbers, the reason for the profit gap became obvious. Over the years, component prices had risen steadily. The problem was, those increases had never been factored into the product costings. As a result, the sale prices hadn’t been adjusted to reflect the new costs, and the profit margins had slowly eroded.

Now, Lee was facing a dilemma. Should he raise prices on the underperforming products to make them profitable again? Or would doing so price them out of the market?

John’s Solution

When Lee brought the issue to John, the answer wasn’t clear-cut.

“This is where we need to test the waters,” John said. “Before you go raising prices, let’s see how your customers feel. There’s no point in pricing yourself out of the market. But if they see value in those products at the new price point, then you’re golden.”

John suggested talking to some of Lee’s most trusted clients—the ones who had been with him for years and valued the relationship. These clients would provide honest feedback on whether the higher price would still be acceptable or if it would push them to look elsewhere.

Lee nodded. It made sense. He didn’t want to make a blind decision that could hurt sales, but he also couldn’t keep selling products that weren’t profitable.

The Feedback

Lee reached out to his key clients and explained the situation. He was upfront about the rising component costs and the need to raise prices to maintain the quality and service they expected. To his surprise, the feedback was mostly positive.

“We get it,” one long-time customer said. “We know costs go up. As long as the quality stays the same, we’re willing to pay a bit more.”

Another customer echoed the sentiment: “I’ve been buying from you for years, Lee. If it means keeping the same level of service, I’m fine with a price increase.”

But not all the feedback was as positive. A few clients expressed concerns about the new prices, saying they would need to evaluate whether they could justify the cost compared to other suppliers. This gave Lee pause. While some were willing to absorb the increase, others might look elsewhere if the prices went too high.

The Alternative

With mixed feedback in hand, Lee turned back to John. “Some of them are fine with the increase, but others are on the fence. I’m worried about losing those clients.”

John leaned back, considering the options. “Alright, so here’s where we get creative. If the price increase is going to alienate some of your customers, let’s think about retiring those underperforming products altogether.”

Lee frowned. “Won’t that hurt my top-line revenue?”

“Maybe,” John replied, “but remember, revenue isn’t everything. Profitability is what matters. If those products aren’t making money, then they’re costing you. But here’s the silver lining: by retiring those products, you’ll free up capacity—both in terms of machinery and labour. That’s capacity you can apply to the new product lines we’re developing.”

Lee’s eyes lit up as John continued. “We already know you’re going to need new equipment and staff to handle the new products. But if you retire the unprofitable ones, that frees up space and resources. In fact, by my calculations, you could save about 45% of the setup cost for the new products just by reallocating that capacity.”

The Decision

Lee weighed the options. On one hand, raising prices on the unprofitable products could alienate some customers, even though others seemed fine with it. On the other hand, retiring those products could lead to a temporary dip in revenue, but it would save money in the long run and free up resources for the new product lines.

In the end, the choice was clear.

Lee decided to retire the underperforming products, redirecting the machinery and labour capacity to the new products that had been so well received by his key customers during the initial discussions. This move would not only save on setup costs but would also streamline production and allow the business to focus on what it did best.

The Next Chapter

With the decision made, Lee felt a sense of clarity. It wasn’t easy to retire products that had been part of the portfolio for years, but he knew it was the right move for the future of the company.

As he sat down with John to finalise the transition plan, he couldn’t help but feel a sense of accomplishment. He had faced tough decisions and embraced change in ways he hadn’t expected. But through it all, he had kept the company moving forward, stronger than ever.

The business was evolving—and so was Lee.

“Here’s to the next chapter,” John said with a grin, raising his glass.

Lee smiled, knowing that the real growth was only just beginning.