Holding a limited-time sale at a discount has saved a business more than once, but doing the math shows how, while selling at a deep discount can improve your bank balance, it can be disastrous for the bottom line.
People love discounts; And to a customer, it seems so simple: the price drops 20% and you get a great deal. However, as a retailer or start-up, the math is not in your favor.
For example, a small import business: buy cheap widgets and have them fancy branded before attracting customers through Instagram ads and trendy lifestyle images. When you buy 5,000 of these units, you can buy them for example on Alibaba at 9 euros per unit, and that's a good bargain.
Therefore, continuing with the example, 5.000 units are ordered and imported. So far he spends 45,000 on purchases, another 1,500 on shipping and 10% in import taxes and finds that 9% of the units do not work (this is Alibaba, after all). Luckily, as if by magic, you discover this without sending them to end customers and having to take them back for an exchange or refund.
In any case, minus the units that didn't work and the total expense of 51,000, each of the 4,550 units that did work cost him 11.21 each. Let's take a look at the cost breakdown:
You think you can sell the products for 19.99, which is a very good profit margin. For every widget you sell, you make a profit of 8.78.
Of course, you also have to do some advertising. After analyzing different actions, a new customer can be acquired for 3. This is again a very positive value and of course that will also affect the profit margin:
After a few months, sales start to slow down significantly because there are other people investing in the market. Although not worrying, discount policies usually begin to be applied. At first, you try a 10% discount. That first discount usually works out pretty well. But the competitors are still in the market, so a more aggressive policy is chosen. First with a 25% discount, then with a 40%…
For the client it is a great opportunity:
Customers notice that prices are falling and sales are increasing
At some point, you notice something: it's only lowered its price a bit, but it's not making that much money. What happened? Well… The thing to remember is that you are giving discounts not on the sale price; you are giving your discounts from your earnings. All other costs remain the same.
As soon as you start looking at the numbers more carefully, you'll see why maybe the discount wasn't such a great idea. Sure, lowering the price from $19.99 to $14.99 is only a $5.00 difference… but your profits have plummeted from $5.78 per unit to $0.78. That… is not a business.
Of course, if you don't have physical product logistics, the unit cost is probably less dramatic than these charts, but even in a SaaS business you will have costs; customer support, server costs, etc. Make sure you know what your cost of goods sold (COGS) is before you start cutting your prices.
Also, all this does not mean that you should never discount; If you have items in your warehouse and a bill is coming up, liquidating it and paying your bills makes more sense than going out of business. Maybe you want to liquidate old stock, maybe you want to reward new customers, or maybe you're trying to attract new customers. It all makes sense, but consider what offering a discount means to your bottom line. Break down the spreadsheets, do the math, and don't end up accidentally selling your items with a markup where it doesn't make sense.
