Giving discounts is an easy way to make a sale, and a quick way to drain your profits. Simply put, discounts are damaging. They are the lazy way to increase sales rather than developing solid marketing strategies. You may generate more revenue in the short term, but discounts have a negative impact on your bottom line over the long term. Now, let’s take a closer look at why.
Impact of Discounting on Your Profit Margin.
A major disadvantage to discounting is the loss of your profit margin. Let’s say you have a product that sells for $100. Your cost for that product is $50, and overhead costs are $30. With a total cost of $80, that gives you a profit of $20.
The margin on your selling price is 20%. If you give your customer 10% off, you’ve reduced your profit margin by 50%. Now, you’re making $10 per item, as opposed to $20. You’ll need to sell twice as many products to earn the same profit.
|Current Selling price
|Total cost per unit
|Profit per unit
|Volume of sales needed to achieve a $1,000 margin
Will giving a 10% discount double your sales? Maybe, but it’s likely to be a huge challenge. And I haven’t even mentioned the extra costs generated by a high volume of sales. To support the higher number of transactions, you may have to hire additional staff to deal with the customers and/or shipments. Hence, discounts can take a big bite out of your profit in obvious and unseen ways.
You Try to Make Up for Loss Somewhere Else.
Often, businesses try to make up for discounts by cutting corners. And although becoming cost efficient is a worthy goal, when you do it to compensate for discounts, it could be inefficient.
You may have to compromise on quality to the point that you tarnish your brand.
If you are in the service industry, you may decide to reduce the things you offer to your customers. Airlines are a good example of this. Many airlines now offer multiple discounts to the consumer, but they have greatly reduced services on all but the most expensive flights. Much to the dismay of the customer, the majority of fares now charge for just about everything from baggage to leg room. Such things were unheard of 30 years ago.
You could pursue a strategy that focuses entirely on reducing the product price to attract customers. But reduced profits will discourage spending on research, development, and product improvement. It may require laying off employees. And there will be less money for developing content and marketing campaigns.
Offering discounts may have the opposite effect of what you’d expect. Instead of growing your business, you might be inadvertently limit it.
Regular Discounts Train Your Customers.
I know what you’re thinking—there are lots of businesses who use discounting regularly as part of their marketing strategies and they keep doing it so it must work. Some offer sales for just about every holiday, while others send out weekly coupons.
But I would argue they have done themselves a disservice by entering into this pattern. Customers notice discounts. The next time they want to purchase, they’ll wait for a coupon or sale.
If your business is heavy into discounts, customers won’t buy when you have a 10-20% sale because they’re waiting for a 40-50% sale. Frequent discounts train customers to sit back and wait for deals. Those expectations can hurt your business.
A good example of this is Bed Bath & Beyond. If you’re like me, you have a stack of their 20% off coupons. I never go shopping there without one. Once, I forgot to bring my coupon, and even though I made a small purchase of around $10, I felt I was cheated by not getting the $1 discount.
It’s funny that something as small as $1 would leave me feeling this way. But since I am trained to utilize discounts whenever I go there, I’ve come to think their products are not worth the sticker price. If I haven’t gotten a discount, I’ve overpaid for my purchase.
Customers Focus on Price Instead of Your Product.
The moment you start giving discounts to consumers, they begin to focus on the reduced price. The quality of the product or the service takes a backseat. If you have developed any competitive market advantage in the form of quality or other non-price factors, it can be quickly diminished when you start offering discounts.
All your past efforts in establishing a brand reputation could be lost if you shift your focus to a discount pricing strategy in the market. Even if you offer consumers a quality product worth a higher price tag, consumers will look for the discount. You will have taught them to expect it from your business.
Discount Customers are Low-Value Customers.
Businesses have different types of customers. A significant portion of your revenue will likely come from The Loyal Customers. These consumers are loyal to your brand and repeatedly purchase your products.
Loyal customers are not influenced by your competitors’ marketing or discount activity. In fact, they can have a significant impact on the growth of your business through their word-of-mouth endorsements.
Another type of customer is The Discount Hunter. These customers are motivated by the low price of your product or services. When you offer a discount, you attract discount hunters to your business. Although these customers generate turnover for your business, they are harder to please and tend to require more time and resources from your team.
When offering discounts, it has the effect of giving more importance to discount hunters than loyal customers.
For instance, loyal customers might feel betrayed if they see products they bought last week offered at a discount this week. Loyal customers are essential for your business because they will buy your product or service even if the same thing is available for a lower price somewhere else.
During an economic downturn or an event such as the pandemic, these loyal customers make all the difference to your survival by regularly buying your products and services. Instead of offering discounts, it’s better to have a loyalty reward program to encourage customers to stick with you for the long haul.
Giving a Discount Lowers the Perceived Value of Your Product or Service.
The perceived value of your product is what consumers think of your product compared to other products in the market. There is an association between the product’s price and its perceived value. Customers expect higher quality products to have a higher price.
When you offer discounts, it lowers the brand’s reputation in customers’ minds. They tend to get suspicious about the quality of your offerings. Consumers may feel that the product was not worth its original price, and that’s why you’re reducing the cost.
Luxury brands prove this theory quite well. They have been successful over the years without giving any discounts. Consumers’ perception is that these brands offer superior quality and services.
Apple Inc. doesn’t give discounts on its mobile phones. Another company that refrains from any discount is Louis Vuitton. Imagine if you started receiving large postcards in the mail touting 20% off for Louis Vuitton. Immediately your perception of the brand would drop.
Moreover, if you noticed an online discount for Louis Vuitton products, you would think those products are fake. Such is the lofty reputation of these luxury brands.
Even in a recession or a market-breaking pandemic like Covid, these brands do not offer discounts to drive sales.
Diminishing your brand has another downside. When your brand value decreases, it also influences the pool of talent that comes to your business. Prospective employees may see your business as a struggling enterprise that has to use discounts to stay afloat. Therefore, discounts not only affect brand value in consumers’ minds, but also in the minds of prospective employees.
Discounts Lead to a Price War.
When you offer discounts, your competitors in the industry will retaliate with a matching price cut. This price cut could lead to a price war in the industry, impacting your profit margins even more.
If a company starts giving discounts, others follow the lead, and it can become an endless loop. The price war ends only when one of the companies is bankrupt.
Businesses that have high capital and less debt survive these price wars. Small companies with large loans tend to face a lot of difficulties in such a war. Therefore, small businesses must avoid giving discounts to attract customers.
These price wars are clearly visible in the supermarket industry, where companies such as Walmart, Costco, and Target keep cutting prices. Amazon has also engaged in these price wars by offering grocery products online.
When you offer deep discounts, it may increase your market share in the short term, but it will greatly reduce your profit margins. In this scenario, the customers may win big, but you may pay the cost with the demise of your business.
Customers May Stockpile Products If You Give Discounts
Giving discounts can cut into your profit in other ways. A great sale may inspire your customers to stock up on regularly used products while the price is reduced. Unless the items are limited, they may buy all they need for the year at the discounted price, and you will miss out on full-price sales from these customers you would have gotten later in the year.
Plus, they won’t need to regularly visit your website to purchase, and therefore, won’t be tempted by other offerings they might have added to their shopping cart.
Inconsistent sales—high during discount days and low the rest of the time—presents another problem. Inventory management becomes difficult due to the radically changing sales volume throughout the year.
Discounts Condition the Sales Team to Focus Only on Price.
Discounts not only train your customers to expect cheaper prices, but they also train your sales staff to think with a discount mentality. Suppose your sales team is aware that your business is open to discounts. In that case, they may be inspired to follow this pricing strategy instead of persuading customers to buy at the original price.
Sales teams may find it easier to sell products by offering discounts, and thus, they could lose their negotiating skills with customers in the long run.
In a large organization, it’s difficult for sales teams to keep the pricing straight when there are different price structures due to discounts. If different customers receive different discounts, it could lead to chaos, especially if you have a large customer base.
When you keep prices fixed, there is more clarity for the sales team. They are not confused about who gets what discount. Take discounts off the table and sales staff can get back to the basics—focusing on the attributes of your product.
The Problem is Not the Price but the Lack of Knowledge About Alternatives.
The idea of discounting tends to pop up when you can’t think of another way to increase revenue or attract customers. But there are other ways to crack this nut.
- You can add value, perceived or real, to your product or service.
- You can increase awareness of your products or services using additional advertising or public relations campaigns. Sure, it costs money, but as we’ve clearly shown, so does cutting your prices. However, money spent on advertising will add to your success in the long run, discounts will not.
- Increase awareness of your online presence. Work to increase the Search Engine Optimization (SEO) of your online content. Use social media such as Twitter, Facebook, and Instagram to push that content and market your business.
You can reach a wide range of markets through these initiatives instead of relying on discounts to consumers.
Break the Discount Habit.
As you have seen, discounting your products or services doesn’t do you any favors. I suggest breaking the discount habit by going cold turkey.
Make sure everyone in your business knows the new rule: “No Discounts – Period.” (You could make a poster and hang it on the wall.)
Instead, focus on the value proposition of your business instead of the price factor. In today’s competitive environment, your business must focus on the quality of your product and the service you can provide to the customers. Stand out from the competition with effective digital marketing.
And above all, refrain from giving discounts so that you can work on increasing the long-term viability of your business.