Discounts...beware

Almost every small business owner we have ever worked with has had a problem with undercharging. At a basic level this problem is about price but often even once price is dealt with, another facet persists, sometimes invisible in plain sight: discounts.

The Effect on Profit

One problem is that business owners aren't generally very conscious of the huge effect a discount has on profitability. A small business with a 10% profit is often doing well. As you can see in the workings below all that profit will be wiped out by a 10% discount.

Full Price

£100 - £60 Cost of Sales - £30 Contribution to Overheads

= £10 Profit

10% Discount Price

£90 - £60 Cost of Sales - £30 Contribution to Overheads

= £0 Profit

Invisible

Most costs to a business show up as money out of the bank. The bookkeeper records these to an account head and the business owner sees them every time they look at their Profit and Loss report.

Discounts however have no bank transaction and for this reason they are often entirely invisible. Out of sight, out of mind, the problem can persist indefinitely.

If your business does work with discounts we highly recommend making sure they are at least recorded into the Profit and Loss. Invoice sales should always show full price plus a line for discount and bookkeepers may need to be trained how to find and record discounts baked into sales reports.

Price erosion

In the very worst cases, customers come to expect the discounted price. Now there is a problem of weaning the customer off the discounted price back to full price and at the limit a problem of finding a whole new client base for whom full price is affordable / acceptable.

Varieties of Discount

One variety of discount occurs when a salesperson drops the price to achieve the sale but there are others. Another variety occurs when something extra is 'thrown in' for free, or in service industries where little extra pieces of work are given away.

Solutions

Visibility
As we have said one important first step to fixing a problem with discounts is to make it visible. A great first step is to make sure full price is always recorded in a sale and discounts show as a deduction rather than rolling everything up into one numbe. These figures then need to appear in reports.

Training
The discount is the lazy route to a sale. The harder route is by getting the customer to understand the value of what is on offer. Sales people need help with this harder route which often has the added bonus of facilitating the customer to access the value of the goods or services they are purchasing.

Those involved in delivery need support in resisting the temptation to serve without charging.

When discounts work

Having raised the alarm around unconscious discounting it is also important to say they have a place in business.

Loyalty schemes can be a great way to reward repeat custom and both sides can gain from discounts in this scenario.

End of life stock is another clear case where discounts make sense.

The important thing is that if they are used the business owner understands the cost and can see an equivalent benefit. In other words there needs to be a strong business case for their use.