Discounting can kill your business. Few business leaders or entrepreneurs realise that the biggest cost in their business can be something that doesn’t even show up in their accounts, writes Robert Clay of Marketing Wizdom. It’s the cost of giving discounts.
When you’re doing a lot less business than you should be doing, or you’re failing to hit your targets, or you’re under-utilising your potential or your capacity or you’re failing to fully exploit your investment in products, services, stock, equipment, facilities etc. it’s all too easy to push the panic button and offer discounts just to get more people through the door.
In most cases these discounts make no difference to the number of people who come through the door. But even if they do, these, or any other form of discounting, can turn into a serious and very expensive mistake. Let’s examine the dynamics …
If you have a 20% gross margin now, and you’re tempted to discount by 10%, you’ll have to DOUBLE your sales just to stand still. If you have a 30% margin and you discount by 10% you’ll have to increase your sales by 50%. If you discount by 20%, you’ll have to TRIPLE your sales.
Yet a lot of businesses throw discounts around as if they were confetti. By doing so they jeopardise their very existence because discounts are a significant business cost in just the same way as the rent, rates, payroll and other overheads which DO show up in their accounts.
A while ago I came across a business that was having a hard time. They had already done everything they could think of to reduce costs, yet they were still struggling to make £50K profit.
The key to transforming their results lay quite simply in a number that appeared nowhere in their accounts. Their invoiced sales of £2.3 million were actually made up of £3.8 million at list price, less an average discount of 40%.
These discounts were just “given away” by their sales people, without any control or authorisation procedures, and were costing the company £1.5 million a year. To make matters worse, much of this uncontrolled hand-out was completely unnecessary.
They soon established that they could reduce their average discount by one quarter to 30% with no significant loss of customers. The considerable sum they saved in discounts gave them an immediate profit boost … and by controlling their discounts they went from profits of £50K to a much more respectable profit of nearly £450K—an instant nine-fold increase.
Do you give away unnecessary discounts in your business? If so, how much higher would your profits be if you started controlling your discounts right now?
If people come for your price, they’ll leave for someone else’s
There are certain times and situations when discounts are appropriate and can make a dramatic difference to results. But discounts are also frequently offered by rote when there is no real need for them at all. Some people just seem unable to sell their product or service without offering an enticing discount … and if that happens in your business, it’s costing you a small fortune and also cheapening your image.
By offering or giving discounts for no good reason you not only make a rod for your own back, but you can suffer many other knock on effects. Unnecessary discounts are wasteful, indiscriminate and inefficient because they reward all customers, even those who end up buying less than before.
Once a discount has been given unnecessarily, customers often expect to continue getting it for years. They will then fight tooth and nail to preserve their current discount rates, and for many of them it becomes a crusade of pride and principle.
Perhaps worse, by discounting you educate your customers to become price shoppers. And price shoppers show no loyalty. By definition, price shoppers simply don’t come for the price, then stay for your product or service. They come for the price. And when a competitor offers them a better price (bear in mind that someone somewhere will always be able to undercut you), they leave you for the price … and often never return.
Discount customers don’t buy you, or the quality of your product or service. They merely buy your price tag. They’re not loyal to people and companies; they’re loyal to price tags.
Discount customers don’t refer people to you. For one thing they rarely stay around long enough to form a proper impression of you or your product or service. For another they are not likely to be good judges of quality. If they were good judges of quality they would know that most economies are false ones, and that few people discount their product or service by choice.
It’s also hard to build a satisfying business with discount customers. They don’t value you or your product or service, and by continually trying to get you to charge less, they’re communicating that your product or service is not worth to them what it is to you. You really don’t need customers like that, but businesses take them on by the millions every day. Then they wonder why their work and their income are not more satisfying.
For every company like Wal*Mart, Costco, Dell and easyJet that succeeds with a discount strategy (aided of course by their scale of operations), a hundred others fail. Companies who discount when they shouldn’t are usually the first to die. Don’t be one of them.
For all these reasons and many more, your business should never be built on discount customers.
So what’s the answer? Charge what you’re really worth, and stick to your guns! Easy to say, but harder to do … or is it?
As long as you’re not selling a commoditised product or service, it shouldn’t be hard to charge what you’re really worth.
The key is to appreciate is that your marketplace probably doesn’t understand the value and benefits you’re offering, at the level that you do. There’s a good chance they don’t understand the implications or the impact of your product or service on their lives. Discounting for the sake of it won’t help them to understand what makes you better or different.
But educating them better than anyone else does to appreciate, value and desire your product or service, and the benefits it offers can not only entirely eliminate the need to discount, but will also allow you to charge what you’re really worth. The effect on your gross profit of putting your prices up (or reducing your discounts) can be phenomenal:
If your present margin is 30% and you raise your prices by 10%, which many of your customers probably wouldn’t even notice. You could afford to lose 25% of your business before it impacted negatively on your profits and bottom line.
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Well said.
I have often argued to the manufacturers of goods that I sell, that the 6-8% over wholesale some of the internet marketers sell at destroys the “value” of the goods those manufacturers make. Because as you say, they customer then sees that as its future cost and expects it to be no more later on.. as a matter of principle.
The problem however, is when a respectable firm (which I consider my own to be) offers a greater service, and actually answers the phones for tech support etc., it is sometimes seen as “gouging” by the public when a 15% or 20% markup is made.
So we then STOP selling certain products which have been exposed at certain markup levels and the manufacturer loses as well.
You’re right. Fortunately you can counter that tendency by educating your marketplace effectively. I’ve worked with a number of very commoditised, price driven industries (e.g. vehicle leasing) and took the decision that we just wouldn’t play the “who sells for the best price gets the business” game.
Instead we created a very compelling and comprehensive story which was used as the basis for all subsequent marketing. People bought into the story, understood the value of the entire offering, including the service they received, and price became a non-issue … as long as people understood that they were getting value.
These articles might be useful for you:
http://marketingwizdom.com/archives/category/foundations/unique-selling-proposition/behind-the-scenes-story
I will be posting some other articles up here in the near future that will add to this.
Robert,
As my business coach continues to remind me and I drill it into my clients, this issue is all about “self-esteem” and believing the value of our products and services. And, adding to that a way to clearly and succinctly articulate that value to our prospects and clients.
Keep up the good work. Skip
Thanks Skip. Interesting observation, I’m sure there’s lots of truth in it. Articulating value and educating prospects and clients are key components in avoiding unnecessary discounting, charging what you’re worth, speeding up buy-in, and many other facets. Check out my articles on telling your story, which is very much at the centre of this.
Cool post, just subscribed.
Great post – thanks for such fab insight!
The reverse situation is about to impact on the legal industry with the introduction of alternative business structures and a focus on value and price re structuring. The traditional time costing is about to be decimated by the client seeking value – fixed fee products are here to stay. This may not be in the client’s best interest – conveyancing suppliers have been engaged in a price war for 2 decades with the introduction of bucket shops and a huge increase in negligence claims.
How interesting, Lynne. In that case legal firms need to learn how to articulate the value of what they do. You might want to check out some of the articles on telling your story here: http://marketingwizdom.com/archives/category/foundations
Thank you . Your articles are compelling.
Glad you like them Lynne.
Great article, really sound advice. We don’t tend to offer that many special offers, or heavy discounts in our retail business. We find, as you indicate, that our expertise and advice play a much greater role in establishing loyalty with our customers and earning their trust, than having heavy discounts on offer regularly. Aside from anything else, we work on pretty low margins in our trade already, so discounting would seriously negate any potential profitability of increased footfall.
Ben Hodgkinson´s last [type] ..TheWineyard- The forgotten cost of discounting Marketing Wizdom http-tco-c32UGzQ via @marketingwizdom
Thank you for that vote of confidence, Ben. I agree completely that in this day and age it is expertise and advice that add value to what you do. In an age where it can be so hard to get either, you stand out from the crowd when you do offer them. And people will happily pay more for that quality input.
Just what I needed to read today as I am currently setting some price points on mt services. These discounts really crush the profit margin when you are selling time in a consulting capacity.
A very good article – with some very sound advice which I will remember to keep in mind.
…excellent really and it’s been a good reminder, thank you for that.
We’ll share with our business community.
Best,
Ky Ekinci
Co-Founder
Office Divvy
Brilliant article – thanks
I really agree with the emphasis on encouraging people to focus on price.
Hello Maxxy, I appreciate your taking the time to leave a comment. Thanks.
This analysis is also very relevant to the software as a service business model. Many companies get a pot of money, then give away their product for free. This trains their “customers” that the product has little real value.
Then when the money runs out or the investors want their profit, they are forced to start charging. They’ve attacted the wrong customers, so they lose most of them or create a severe backlash.
I like the approach of 37Signals. Create a product with value and then charge enough to make your profit. If you can’t sell it, it doesn’t have enough real or perceived value.
The math around discounting is amazing. Going to share this with my business partners. Thanks.
Thanks for your thoughts Doug. I’m entirely with you on the 37 Signals approach. They have an amazing model, and the products are excellent too. They have been a mainstay of our business for some years and I am always holding them up as a role model in the SAAS arena.
Interesting articles – I would be fascinated to know your views on how this applies to the book business …
The book business is clearly under a lot of pressure right now and a lot of traditional publishers—and their traditional retail distribution channels—are already finding it hard to survive. They may discount to maintain sales. But they will likely only hasten their demise by doing so. Discounting is corrosive in any business environment. They need to get better at marketing and using all of today’s channels to add value so that people are prepared to pay a commercially viable price for the product. They will have to go through the same process of reinvention that just about every other business is having to go through right now as our business landscape changes.
Interesting article – interested to hear what your take is on our main bone of contention, which is that the “pile em high, sell em cheap” approach is what seems to be powering the growing dominance of the major chains.
Your points about the discount customers, who shop on price, are very true, and yet these seem to be the norm nowadays. We try to educate people that there are hidden costs when they use nationally recognised brands – who keep prices low and discount lots by pressuring suppliers and then by dominating the marketing sphere, they prevent smaller businesses from getting a word in.
Of course, most locally-focussed businesses will have a hardcore of committed customers who continue to shop there for the quality of the product, the service and the knowledge they are supporting a local business. But, if these customers are growing more rare (and in these straitened times, they do seem to be), what can smaller independents hope to achieve when confronted by the aggressive tactics of national chains and a growing proportion of customers shopping according to price?
Fascinating articles, as always.
Thank you for your excellent comment. While I agree that discounting is rife, I also wonder what that’s doing for the long term survival of those businesses. Apple, Waitrose, John Lewis and others, have shown that people will happily pay for really good products and services … the secret is to put the customer first; abide by a set of values that do that; add as much value as possible; and educate people so they appreciate the value they’re getting. Do that and you won’t have to descend to the “pile ‘em high, sell em cheap” approach that is probably killing a lot of the businesses who practice it. You also get that hard core of committed customers. Make sense?
Robert, I’m concerned this makes discounting sound like a mistake in all cases. For multiple product or SKU companies, discounting can be an effective way to encourage trial, increase basket size, turn slow inventory, or fix an error of purchasing. Even in single product or service companies, discounting, I believe, can be an effective way to attract new customers and even to gain or foster loyalty (I sure know I appreciate it when a vendor to whom I’m loyal offers a discount from time-to-time and I don’t think I automatically expect that price forever – I think it’s all in the way the vendor sells it).
To your point, however, the challenge may be in knowing where discounts are being applied needlessly and killing margin. I work for a company that helps manufacturers improve profit, and discounts are an area we frequently look for sources of margin leakage, so they’re definitely something to keep an eye on. I think it’s a matter of having a good, sound reason for applying them rather than just avoiding sales rejection.
Regardless, it’s certainly a good discussion to have, so I’m going to post a link to your article on our LinkedIn company page along with some of my arguments – hopefully get a discussion going!
Thanks,
Rod.
Hi Rod,
Apologies for the delay in responding. I have been away for a few days. I agree that there are times when discounting is appropriate, or strategic reasons for it. As you say, there needs to be a sound reason for applying it. I will have a look at your LinkedIn company page.