Why Offering Discounts May Be a Major Mistake
Shoppers love a bargain. The likes of Groupon and LivingSocial wouldn’t exist otherwise, and the art of bargain hunting long predates daily-deal sites. Among the key reasons why offering discounts can be such a powerful sales tool: Most people aren’t very good at math.
Consumers’ delight in getting a steal means that sales, coupons, and other forms of discounts can give small businesses a nice cash boost. But discounting comes with considerable risks, too. A Harvard Business School article explains the pricing challenges faced by large department stores like J.C. Penney and Macy's, for example, where customers have come to expect heavy discounts.
Here are four potential problems to consider before lowering your prices to drive sales:
1. You could devalue your brand. Stephanie Bullis, a marketing manager at the virtual phone company Grasshopper, notes that there’s a fine line between promoting and diluting your brand. “We’ve learned that although offering discounts does make your service more enticing to try out, you’re also at risk for customers not seeing the real value in paying full price if they know they can get a discount,” she says. “We believe in our product, and we believe it’s worth the price our customers pay. Offering it any other way will just cheapen our brand.” As a result, Grasshopper usually only offers discount deals through partners or as part of specific promotions, such as those aimed at prospects in new markets.
2. Discount buyers may never pay full price. One of the biggest problems with offering discounts is that customers may never pay more. Moreover, that new customer you brought in with a sweet deal may not turn into a repeat customer — the best kind of customer for most businesses. A related problem: Discounts work. As a result, small-business owners can become addicted to them and damage their bottom line, notes Rich Austin, who runs a sales and management training firm. “As a business owner, you have to ask yourself, ‘Do I want my clients to buy from me only on price, or would I like to known for something else?’” he says.
3. You may get drawn into a price war. “When you sell products based on price, you are always at the mercy of your dumbest competitor,” says Bruce Kasanoff, co-author of Smart Customers, Stupid Companies. “Anyone stupid enough to lower prices too far will put pressure on you to do the same.” A protracted price war can put you out of business if you end up selling at a loss simply to keep up with the competition. For that reason, Kasanoff is not a fan of using daily-deal sites to generate sales: “They encourage small businesses to commit pricing suicide,” he says. A better bet is to tailor pricing to customers — or groups of customers — based on their specific needs, rather than pushing a one-size-fits-all approach.
4. You lose the premium-price mentality. Although it varies by business and industry, there is such a thing as the "premium-price mentality": Some consumers believe that "more expensive" means "better." Discounting usually kills that mind-set. “If everyone charges around $100 for the product and you charge $135, then the prospect is at least going to wonder why,” says Jon Tucker, senior strategist at Compete Marketing Group. “We’ve found that in many industries, the more expensive provider gets the business and the better profit margins.” (You’ll never see an Apple Store with a bright red “SALE!” sign in the window.) This phenomenon is a big part of how luxury brands come about. It helps, of course, if the product is actually better than its lower-priced competition.
You don’t have to be Tiffany or Mercedes-Benz to harness the power of premium prices. Jasmine Kaloudis, who owns a yoga business in Philadelphia, says when she offered classes at a discount, they were usually filled by one-time customers who never returned. The opposite occurred when she nudged prices higher than normal. “We teach romantic couples yoga and have found that when we slightly increase our prices, people tend to cherish and expect more from the experience,” Kaloudis says.
Stay tuned: In an upcoming post, we’ll look at discounting pitfalls that are particular to service businesses.
Kevin Casey is a business writer for Intuit and is passionate about solving small business problems.