Lesson 2: Value & Earning Power
We’ve all bought something and instantly regretted it. Whether it's a trendy overpriced latte or a new pair of Jordan’s we have all experienced the pang of regret that comes after spending hard earned money in a seemingly immature way. Whether you feel that you got your new shoes at a good price or you feel that Nike has single handedly consumed your summer’s earnings, both of these feelings relate to the concept of value.
Value is the amount an individual is willing to pay for an item or service. Value can vary from person to person or country to country. In fact, value is almost always different for each individual. For example, I would be willing to pay a decent sum of money for a durable pair of white tennis shoes. However, my friends who don’t play tennis or care for white colored shoes are likely to have a different value for these shoes. It is important to know that money has value, and each person makes their own decisions about where and when to spend their own money in order to maximize its value.
When determining value, it’s important to consider a number of different factors. Firstly, we should look at the quality of the product or service. For the most part, products that have a higher level of quality usually cost more to make and therefore are more valuable. While looking to purchase an item this may be easy to discern, but when looking at a company or a service, this is harder to quantify. Another aspect to consider in regards to value is availability (or supply). For example, the last pair of white tennis shoes in a store may increase my value for the product, especially if I had waited for my old shoes to tear in half (a situation which has, ironically, happened more than once). In terms of a business, the idea of supply and demand can govern the success of a company in the eyes of analysts (professionals who value companies based on quantitative and qualitative data). This process, known as valuation, is helpful when determining the current or future worth of a company.
As a simple example of the importance of valuation, let us consider a trip to the supermarket. Pretend that your mom sends you to buy eggs so that she can bake your favorite cake. Being the smart consumer you are, you decide to stop at 2 stores before making a purchase (your mom did not have change and is making you use your hard earned allowance money). Store A sells grade A white eggs for $3 a dozen. Store B sells the same grade A white eggs at $4.50 for 16 eggs. Based on your middle school math classes you decide to find the unit price of an egg at each store. At Store A, you divide $3 by 12 to get .25 an egg. At Store B you divide $4.50 by 16 to get .28 an egg. Given the quality, availability, and price of the eggs you can now safely complete your valuation of the eggs. Since Store A saves you 3 cents an egg, you decide that this is the best value for the item you are trying to buy. We can’t guarantee that creating valuations of companies will be this easy but the concepts of supply, demand, quantitative, and qualitative analysis remain the same.
Lastly, let’s talk about earning power. Earning power combines concepts of value with the possibility of income. Let's look at earning power by pretending you work at a local supermarket (Store B, since they sell more expensive eggs and probably pay more per hour). If you happen to be a shelf stocker, you are likely to get paid less than a manager, who is likely to get paid less than the CEO. While this may seem obvious, it's the concept of earning power that creates these disparities in pay. Earning power is the ability to earn money in exchange for work that is provided. Some of these factors include time, quality, education level, skills, and experience.
So why is it that your shelf stocking job at Store B did not pay as much as the CEO? Well, the cashiers and stockers are entry-level positions that don’t require loads of education or too many specific skills. Although an essential function of our grocery store, these jobs can be done by most people. Now let’s move up a level to the managers of the store. Their duty entails making sure the entire store runs smoothly by overlooking all the other employees and aspects of the store. This is why the manager position will require years worth of work experience and more education than our cashier or stocker. As a result, the manager will also have higher earning power and generate more income (money received). Lastly, we can look at this grocery store from an even larger view. In order for multiple stores to be functioning in various regions, the chain of supermarkets needs a CEO. The CEO (chief executive officer) is responsible for making managerial decisions and is considered the highest rank representative in a company. The CEO of Wegmans, for example, is worth $3 billion and is responsible for 106 stores across the east coast. Given your shelf stocking job does not make you responsible for over a hundred stores, it follows that your paycheck doesn’t wander into the billions.
However, if you want a raise, it's important to understand how we can increase earning power. The most common way is time. If we are paid by the hour (like 58% of Americans) we can work more hours to merit higher income. Another way to increase earning power is by improving our results. Let’s go back to our stocker from our grocery store example earlier. If this stocker got an extra $100 for every shelf he stocked, he could increase his earning power by stocking more shelves. Another interesting way to increase earning power is the quality of the product or service. If we continue to use our grocery store example, we can look at the quality of the groceries we sell. If our grocery store sells better quality fruits and vegetables, customers will be willing to pay more for our products than they will for wilted greens at another store. As a result, our store will generate more income and increase earning power. Lastly, note that education, experience, and skills are the best ways to increase earning power in the long term. As you probably noticed earlier, a common trend among higher positions was the presence of experience, education, and skills possessed by the manager and CEO. These qualities can come in many forms ranging from an advanced degree all the way to time in the workforce. Other skills such as knowing multiple languages or being good at math can help increase an individual’s earning power. Therefore, if you want a raise, be sure to present your boss with your experience, education, and skills to merit higher earning power!
While making money and increasing earning power should never overtake meaningful and purposeful work, it’s something to keep in mind as we become financially literate adults. Knowing how much we can make means knowing how much we can save and spend. Earning power is a great metric to measure your work and, just maybe, you won’t feel bad about buying that expensive latte in the future!
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Sources:
Content: https://youth.handsonbanking.org/wp-content/uploads/2019/08/InstructorGuide_MiddleSchool.pdf
Content: https://www.investopedia.com/financial-term-dictionary-4769738