Discounting 101: Good or bad for business?
Karl R. LaPan, President & CEO, The NIIC
Photo by Artem Bali on Unsplash
Macy’s marks-up products to mark them down. So the good deal at a final clearance of 75% of MSRP was never sold anywhere close to MSRP. It probably started at 67% off. Kohl’s gives you Kohl’s cash. Then, you feel obligated to spend it so Kohl’s increases its product prices during the redemption period when you go to use the cash. You still feel like you got a good deal. The bottom-line is: pricing drives behavior so what behaviors are you trying to drive?
Customers want a product that fits their wants and needs. Of course, the price is a significant factor in determining if the widget is attractive. It’s classic economics – price is the exchange rate on the value that you’ve created. That means if the price is commensurate with value, both your customer and your company walk away happy from the transaction. It’s a win-win.
But what if sales are lagging? Do you need to unload inventory? Or maybe you’re new to the market and want to generate brand recognition? Regardless of the situation, you might be wondering if offering a discount is a good idea. On the surface, discounts may be enticing to you, the seller, because they appear to provide the value that the customer is seeking for a price lower than your value metric indicates. Keep in mind, value is relative. So, your price sets the initial expectation of your product or service’s perceived value.
Let’s dive into the psychology behind discounts. The appeal of a discount is based on the first number we see to influence our decision about a subsequent price. Discounts use the original price as the basis of comparison so that the second price offered is evaluated with this context in mind.
Here’s an example:
Say you’re a photographer and you offer a package at $900 that would typically cost $1,000. Great deal, right? Though at first discounts might get more people in the door, messing with price/value proposition has consequences. That’s because you’re either promising your customers less value, or you’re lowering the value of your product in their eyes. Delusional thinking would have you believe that you will make up the lower price with volume.
Your potential customer’s perceived value of your product or service determines his or her willingness to pay. Too frequent of discounts erode this perceived value and needlessly lower a customer’s willingness to pay.
The good news is there are viable alternatives to discounting. You can achieve a win-win strategy for both your company and your customers without cannibalizing your revenue. Here are two proven techniques. While these aren’t suitable for all industries or businesses, they are worth considering as case studies:
- Create a freemium or low-cost tier: This structure allows you to target many different sections of the market without having to compromise on profit margins. This model works because when your product’s core value scales with a lower price, you to cater to more cost-conscious customers without cheapening the overall consumer experience. Netflix’s pricing model is an excellent example of this.
- Enhance the value: Instead of fixating on price, add value. For example, you might throw in a free product, service, or asset that adds value to a full price sale at no extra cost. For example, a cosmetics company might throw in a sample of a top-selling product with the order. This is a win-win because the customer gets a bonus and the company can cross-promote products and potentially drive sales. Recently, Jack Patton of Stre.me shared with me an elements of value framework that can help you sort through how best to do it since value is often hard to define and measure.
A closing note: If you lean too heavily on discounts to drive conversions, you may have larger underlying issues. Your product needs to fulfill the needs and problems in your target market. To determine if your product is “sticky,” survey your customers, and ask how they would feel if they could no longer use your product or solution. Their answer may surprise you.
If you’re grappling with this question, you also might benefit from our business coaching affiliate program or mentorship program. Tap into the knowledge and expertise of subject-matter experts, serial entrepreneurs and service providers. Mentors are chosen based on their knowledge as it relates to your needs, business challenges, and strategic fit.
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