We live
in a price focused world. Everyone is out to get the
best deal. The bigger retail organisations spend huge
sumson promoting their sales through the media and it
would seem to the ordinary businessman that this is
the way to conduct business. “We’ll make
it up on the volume” you hear them say.
Don’t be fooled by this. Not one bit.
The fact of the matter is that most businesses on average
return about 10% on sales before tax. This means that
after deducting the cost of the goods or services sold
and all expenses incurred in running the business, there
is 10% of the original sale price left as your profit.
So if you discount say by 10% then the 10% you are giving
away is the SAME 10% you would have made in profit.
So typically, a 10% discount will leave you with no
profit.
The table below illustrates the impact of discounting.
| |
Present Gross
Margin |
| |
20% |
25% |
30% |
35% |
Discount |
Increase in sales
required to maintain gross margin |
5% |
34% |
26% |
20% |
17% |
10% |
100% |
67% |
50% |
40% |
15% |
317% |
153% |
100% |
75% |
20% |
|
400% |
200% |
133% |
For example if your present gross margin is 30% and
you give a 10% discount, you need to increase your turnover
by 50% to make the same amount of profit.
There are some good and legitimate reasons to discount,
such as obsolete or seasonal stock or specific cash
flow requirements. But there should always be specific
cut-off points for these strategies.
The big chains look at htings slightly differently.
Often they will work out how much of a particular product
they will sell at full price and how much they will
sell at a discounted price for the lifetime for that
particular product. So factored into the profit for
a particular product is the fact that there will be
some discounting. Most small retailers will discount
because their competitors are discounting and don't
really consider what it might be costing them.
One of the main reasons small businesses discount is
to acquire customers. It invariably is far more profitable
to work out some clever marketing strategies than to
discount for this reason. In reality, experience shows
that most customers attracted to a business through
discounting, rarely if ever come back again.So the payoff
in marketing is to acquire the lifetime value of that
customer not a single purchase.
Discounting in business should be dealt with very carefully.
Because it is so prevalent, small business owners get
trapped into thinking that it is a legitimate and profitable
strategy. Clearly it is a tricky area and should be
thoroughly considered before use.
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