Giving discounts will bite you – use them with caution – TechCrunch

Startups

I’ve led a few startups in my time and I’ve led companies that from time to time struggled to meet payroll. More than once, a temporary discounted sale has saved the business — but the math shows how, while selling at a high discount can do some good for your bank balance, it can be somewhat disastrous for your bottom line. This is why.

People like a discount; and if you are a customer, it looks so simple: the price drops by 20% and you get a good deal. However, as a retailer or startup, the math is not in your favor. Let’s walk through it.

Imagine running a small importing business. You buy cheap widgets and you put a nice brand on them before attracting customers through Instagram ads and funky lifestyle images. If you buy 5,000 of these units, you can buy them from Alibaba for $9 each — and that’s a steal. Well done you.

You order 5,000 units, and you import them. You’ve now spent $45,000 on it, you’ve spent another $1,500 on shipping, 10% on import taxes, and you find that 9% of the units don’t work (this is Alibaba, after all). Fortunately, you discover this as if by magic without sending them to the end customers and having to take them in exchange for an exchange or refund.

Anyway, if you took out the units that didn’t work, and the total expenditure of $51,000, each of the working 4,550 units cost you $11.21 each. Let’s look at the cost breakdown:

You think you can sell the products for $19.99 which gives you a really healthy profit margin; now all you have to do is sell the eternal living hell of these things. For every widget you sell, you make a profit of $8.78. Impressive; congratulations, pat yourself on the back:

Of course you also have to do some advertising. You found out how to get a new customer for $3. that is real impressive, and that will of course also come at the expense of your profit margin:

From the customer’s point of view, they are satisfied. This is all she to see:

Of course, if you don’t have physical product logistics, the unit costs are probably less dramatic than these charts – but even in a SaaS business you have costs; customer support, server costs, etc. Make sure you know your cost of goods sold (COGS) before you start cutting your prices.

All of this doesn’t mean you should never do discounts either; if you have items in your warehouse and a bill is on the way, it is wiser to liquidate it and pay your bills than go out of business. Maybe you want to clear out old inventory, maybe you want to reward new customers, or you might be trying to bring in new customers. It all makes sense, but remember what it means to your bottom line to discount. Break out the spreadsheets, do the math, and don’t accidentally sell your items on a margin where it makes no sense.

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