Dollars and sense: The ins and outs of offering discounts
At a glance
Here's a snapshot of the advice from our interviewees:
- Discounts work best as part of an overall sales and marketing strategy rather than an ad-hoc reaction.
- Think long-term. What will the profit margin on an item average out to across its lifetime?
- Understand your gross margin, markup and breakeven figures before offering discounts.
- Consider if discounts align with your business's brand.
Consumers are seemingly hard-wired to rush to sales, unable to resist the lure of a discount – especially at this time of year.
However, according to Dr Greg Chapman of Empower Business Coaching, small business owners need to be measured before hanging up a sale sign.
“I’m not a huge fan of discounting,” he says simply.
His major concern – the trap of hard work for little return – has been experienced by Debra Kinney during her two decades of owning DeBra’s, a specialty lingerie, swimwear and sportswear store for fuller busted women.
“We’ve run sales where turning over a heap of money resulted in only a slightly lifted bottom line and a heap of stress,” she says.
How, why and when to offer discounts
First things first. In order to engage in a sale without losing precious money in the process, you need to understand your gross margin, markup and breakeven figures. With all this information in mind, consider if a discounting campaign would harm those numbers or help them.
Business Victoria offers this helpful example.
“For example, if your gross margin is 40% and you decide to discount your goods or services by 5%, you’ll need to increase your sales volume by 14.3% in order to make a profit.”
With this information in hand, you’ll know if you’re making an informed decision that will benefit your business in the long run.
“Those who are early in the business owning game tend to offer ad-hoc discounts,” says Chapman. However, more seasoned small business owners, he says, often will take a more strategic approach.
“At a basic level, you need a reason for a sale that makes sense to customers,” he says. “The end of financial year will make sense for some and for others it might be Valentine’s Day.”
Chapman emphasises that discounts work best when limited in time or scope, appealing to people’s dislike of missing out.
But what kind of discounts should you offer? Some people suggest it’s better to offer an exact amount off (i.e. $50 off) instead of a percentage, as it can appear more upfront and genuine. In an article for Forbes Magazine, Craig Simpson, owner of Simpson Direct, unpacked some 2008 research on this very topic.
“The results of the test were quite clear. The $50 off coupon generated 170% more revenue than the 15% off coupon, and its conversion rate was 72% higher.
“Interestingly, however, with [email] subject lines that clearly stated the offer as either 15% off or $50 off, the open rates and click-through rates were pretty much the same for the two versions. This means that people were opening both emails, but responding better to the $50 off coupon.”
Consider your sale strategy
Kinney has become more strategic over the years, partly to avoid the risk of discounting making it harder to sell at full price in the future.
“We used to offer a particular sale twice a year and it became obvious to customers,” she says. “Now, I try to not be predictable.”
In saying this, she says that jumping into seasonal discount trends is likely a pretty safe bet as customers are primed to participate and in need of affordable goods in the lead up to Christmas or Back to School season, for example.
At times, reactive discounting has worked for DeBra’s. “For example, when there’s a heatwave, I will offer something to reward customers who make the effort to come in.”
Chapman stresses that premium service businesses probably shouldn’t offer discounts, as you don’t want to dilute your brand. He also encourages businesses to consider the ‘average profit’ of a product over its life.
For example, when an item is first stocked, its profit margin might be a higher 50% but you might only expect to sell 10 items. Once it goes on sale, the profit margin might decrease to 10% but you might sell 30 items during this discount time. Predicting and reviewing your average profit across the different price points can help you evaluate the success of your discount strategy.
Discounts won’t make everyone smile
It’s tempting to assume everyone will be delighted by a sale, but this is not always the case.
“You need to consider the customer who purchased just days before the sale started,” says Kinney. “At sale time, there’s always someone who is disgruntled.”
Discounts can be seen as a tried and true way of enticing new customers, but Chapman warns not all customers are created equal.
“Discounting can attract the wrong type,” he says. “You think you’re getting a new customer but, if you never see them again once you lift prices, you’ve given away all that margin for what?”
Chapman and Kinney suggest considering a customer’s lifetime value to your business. They both encourage having genuine reasons for sales and then communicating clearly about the offer as ways of maximising customer satisfaction around sale time.
Don’t discount the upsides
With a strategy in place, there can be benefits of a sale that reach beyond a spike in sales.
“If you’re buying more over the year from a supplier, it gives room for negotiation,” says Kinney. “So, in the long-term, there is potential to reduce the cost of goods.”
An unexpected but welcome benefit to DeBra’s joining the growing trend of Black Friday sales occurs at a team level.
“Sale time is a fun time,” says Kinney. “It’s stressful but there’s a massive buzz that pulls us together as a team.”
Each November, Kinney joins her 19 staff packing orders. “New ideas emerge as a result of me spending time working in the business rather than on it.”
Chapman’s final advice: “There are times when you should offer a discount,” he says. “But you don’t want to develop a reputation as a discounter, so you need to consider sales strategically.”
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