Discounts are the most common pricing strategy used by companies to drive sales, new product trials, win over competitor customers, liquidate slow-moving inventory, attract new customer segments, and so on.
NB: This is an article from Revenue Management Labs
However, introducing discounts without a sound pricing strategy can lead to long-term negative effects.
Here’s how discounting can have negative implications on your business in the absence of data-driven decision-making:
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1. Hurting Customer Perception:
Excessive discounting over time sends the message that the value of your product/service is lower than the regular price. For example, if a specialized accounting firm discounted its price to compete with an automated tax provider, the accounting firm’s service would be perceived as the same despite their expertise, customized service, and long-standing relationships. Be cognizant if discounts undercut your brand perception.
2. Starting Price Wars:
A price war is when two or more rival companies discount prices of competing products/services with the sole objective of winning customers/shares from their competitors. As the term war indicates, this dynamic often escalates with competitors having to discount more deeply and frequently to maintain customers. price wars is huge losses in profit, confused customers, and destabilized markets.
3. Waiting for Discounts:
Discounting influences customers’ shopping behavior – it shifts from purchasing based on customer needs to purchasing only during promotions and discounts. Companies find themselves trapped in running discount campaigns routinely to generate sales. For example, German hardware store chain Praktiker ran a 20% discount campaign every other month inciting customers to only purchase during discounted pricing, which ultimately forced their closure.
Discounted V/S Regular Volume
In the above example for a fast-moving dairy product, 84% of sales volume moved in 20 discounted weeks versus the other 80 weeks that were at regular price.
4. Unfair Pricing:
When a customer transacts they are assuming that they are buying at the best possible price. Finding the same product/service at a reduced price later, leaves the customer feeling taken advantage of. For example, some customers buy airline tickets months in advance; if they find the same tickets from the same airlines later at a cheaper rate, this causes them to believe they were cheated.
5. Compromised Quality:
Huge sums are spent on promotional campaigns which if not properly managed can hurt margins. Discounting can prove to be a drag on your profits and in the long run impact your ability to invest in innovation, marketing, customer development, etc., hindering companies’ ability to meet customer needs and create value over the long term.
6. Cannibalizing Sales:
Customers may stockpile when the products/services are discounted. This results in customers receiving a discount on products they would have otherwise purchased at regular pricing. A key aspect to assess cannibalized sales is known as category expandability. Categories that are expandable prompt customers to consume more when they stockpile. For example, a customer who normally buys one bar of chocolate per week may be incented to buy 3 bars. As opposed to saving these bars and consuming them over the next 4 weeks, it’s expected that a large portion of customers will simply consume the product faster and be back to normal consumption the next week. Discounts in expandable categories are more attractive given the incremental volume versus placing discounts in non-expandable categories like diapers (despite how many boxes you have it is hard to use them faster).
Discounting strategies should be built to support your long-term corporate goals. The financial trade-offs associated with discounting should be clearly defined, and routine post-analysis should be conducted to understand the impact of the discounting actions ensuring returns are maximized and in line with corporate objectives. If not properly considered it is easy to fall into the 6 dangers above. Our team at Revenue Management Labs enables your organization to find the balance between creating value and offering incentives, guaranteeing maximized returns from your discounting strategy.