Perhaps it’s a sign of tough times. Perhaps it’s because consumers and clients have become conditioned to ask for discounts. But unless your business is based in Patpong Night Market in Bangkok and you are selling imitation Louis Vuitton handbags that cost you next to nothing to make in the first place, discounting can have dire consequences on your costing strategy and your bottom line.
So many sales people use discounts to make the customer feel special, to clinch the sale because customers like to think they have scored a deal and beat the system. When times are tough, a sale is a win and wins are hard to come by.
But discounting costs you more than you think. It’s time to approach discounting from a financial and scientific point of view, rather than an emotional one.
The reality is that discounting costs you money, and this is money straight off the bottom line. Let’s look at an example of a product that you sell for R100 to make a gross profit of R15. If you offer a measly 5% discount on the product and sell it for R95, you will make a R10 profit. On 5% discount, your profit has dropped by 33%. A 10% discount means your profit drops by 66%. When you offer your customer a discount on the full price, you are offering a discount on your profit. And can you really afford to be 66% down?
To understand the true cost of discounting, you need to crunch some numbers to understand the increase in sales that will be required to compensate for your discounting strategy. The following chart reflects the percentage increase in volume of sales required to maintain your total gross profit when you offer discounts.
As demonstrated in the above table, a 10% discount on a product with a gross profit of 20% means that you will need to secure 100% more sales to maintain your total gross profit. Essentially, you will need to run twice as hard to stay in the same place.
In addition to the cost to your bottom line, discounting conditions the customer to de-value your product or service. Your price will never be taken at face value and you create an expectation that the price will be reduced on request. You run the risk of giving the impression that your product or service is out of date, of a low quality or undesirable by others.
Discounting also gives the impression that your normal prices are a rip-off. You only need to look at the Persian carpet market to see that the massive discounts they offer are a farce.
Price is an exchange rate on the value of the product or service you offer. In other words, price is what the purchaser is prepared to pay. So, a much better strategy is to ensure that your customer sees the value in what they are paying for. Sell quality, benefits, and service to boost value and defend your premium pricing. Offer guarantees and warranties to demonstrate confidence in what you are selling.
A customer who is not prepared to pay full price is not a profitable customer. Do you really want to attract this type of client to your business?
There are always going to be price sensitive customers and buyers. It is a good idea to offer entry-level products or services for customers who focus on costs. Here, it’s not about a discounted price, it’s about offering the product or service without the added value.
When price is a sticking point for your customers, find ways to source, manufacture or purchase your products or services cheaper rather than reducing your profit margin.
There are very few instances when discounting is a good business practice:
- Perhaps when perishable goods are about to go off, or when stock is not moving, and you simply aim to recover costs.
- If it is important for your business strategy to rapidly gain market share.
- When cashflow can be boosted with upfront payment for a discounted rate, eg: offering 10% discount for annual fees deducted in advance rather than monthly payments.
Snap out of using discounting as the solution to your lead generation problems. More sales at a lower profit margin is often a less successful strategy than fewer sales at your normal profit margin. It’s likely that a discount strategy costs you more than you make.
Crunch your numbers!