Can there ever be a good time to discount?

Discounting is anathema to most small business owners and managers, as I'm sure it does to you.  You know that while discounting can increase sales, it does so at the expense of profitability.  Any reduction in price reduces your overall margin, your gross profit and hence straight off you're the bottom line, your net profit.

A simple example demonstrates the impact on profitability.  These figures are entirely hypothetical, but they illustrate the principal.

Suppose you operated a fast food cart in a shopping mall.  What you are selling could be hamburgers, meat pies or whatever is popular in your locality.  Site rental costs you $1,000 per week and labour $500.  Your solitary item for sale, be it pie or hamburger whatever costs you $1.85 to make and sells for $3.85, giving you a gross profit of $2.00 per item.  Yes, I know this is simple but bear with me.

So to breakeven, that is to sell just enough to cover all costs before you start making a profit, you have to sell 750 items, a simple calculation of dividing your fixed costs (site rent and wages) by your gross profit of $2.00.

Let's look at two scenarios in our simple example when some things change.

  • Firstly, an increased cost scenario - both site rental and wages increase by 15% to a total of $1,725.  To breakeven you have to sell, naturally 15% more items.  That sounds pretty straight forward.
  • Alternatively, you bravely decide to discount your price by 15% to increase sales.  There has been no increase in costs.  Do the maths.  To breakeven now at the reduced price of $3.27 per item you have to sell, wait for it, .........40% more items.  That is a very large increase in sales.  Can you do it.  And to make a reasonable profit you will have to sell even more.  Can you do it?

So can there ever be a good time to discount?

Well, yes, in certain circumstances.  

If you can lower your cost of sales so that there is no change in your margin then, with your gross profit protected, your nett profit will be unchanged.  Effectively you are competing on costs not price.

In another situation, if your goods are slow moving and have a ‘use by date' or short shelf life, discounting can help.  For example with our simple food cart you can't sell today's food tomorrow, so discounting at the end of the day may help to recover at least the cost of the item, your variable costs, with maybe a small contribution to your fixed costs of rent and wages.  Another example would be fashion items at the end of the season, or model run-out for vehicles.

But discounting generally ?  Only if you are not in the business of making profits.  It's anathema.


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