My dad once owned a chain of 20 carpet stores in Southern California but sold them ALL in favor of one single, huge carpet warehouse that specialized in low prices.
Because he made more money with that one store. Lower prices lead to more sales, a lot more sales. It’s simple economics: Offer consumers a great deal—good products at reduced prices—and they will flock to the deal.
A reduction in price is simply that—you reduce the amount you charge for something. In the process, although you will be getting less profit on each individual sale, you make up for it in increased overall sales. People love a good deal, love spending less, and that is why a price reduction does in fact lead to more sales.
That said, you need to be smart when employing the strategy of aggressive price-cutting. If you don’t do it right, it’s not only not a competitive advantage, it's also potentially a big mistake (and one that can cost you a lot more than wasting tens of thousands on a billboard).
The Pros and Cons of Discounts
While discounts and lower prices can indeed be great for both getting attention and getting people in the door—just look at Amazon, Costco, and Walmart—the danger is that they end up also cutting into your margins and potentially ruining your brand.
It’s equally true that, as the Harvard Business Review once pointed out, “a small business is not a little big business.” Walmart, Amazon and fast food joints like McDonald's have buying power and get wholesale discounts that small businesses can never match, no matter how popular the product or how clever a price-reduction strategy is employed.
And yet, it is also a fact that competition demands that small businesses be cost-conscious. Given that, there are smart ways and dumb ways to cut prices. There are pros and cons to the strategy as well. Let’s look at those so that we can better see the ways to do it right.
Cutting Prices Pros
Yes, having a price-cutting campaign can definitely generate quick sales, but the benefits can be even greater than that.
Gets People in the Door
As indicated, who doesn’t love a good discount? We all do. It’s human nature. In fact, that is why it is often said that “sale” and “free” are the most powerful words in advertising.
For many years, Amazon famously did not make a profit. That was by design. Jeff Bezos’ strategy was to be the low-cost leader and thereby create a name, and a broad customer base, for his then-nascent business.
After the world learned of Amazon, it began to concentrate more on products and strategies that created a profit. But as a way to get a lot of potential customers to learn of your business, and to get them in the door (so to speak) discounting is tough to beat.
Generates Quick Revenue
Needless to say, a tried-and-true way to get an infusion of cash is to cut prices and have a sale. Short-term discounts create buzz (witness fast food deals) and therefore improve cash flow.
Moves New or Unwanted Products
Cutting prices helps introduce new products to a bigger audience. Similarly, if you have inventory that you are “stuck” with, cutting prices on those products will definitely get them sold.
Gives You the Competitive Advantage
With lower prices than your competitors, you may be able to attract a larger majority of customers in your area. This will give you the competitive edge, and expose more people to your business. If being the “low cost leader” is your desired business brand (more on this in a moment), then deep discounts can work in your favor if you have the margins to sustain them!
Price Cuts Cons
On the flip side, cutting prices may bring you more problems than you bargained for, especially if you don't have a strategy ahead of time to recoup costs.
Sets Expectations for Lower Prices
If you consistently cut prices, it may be that your customer base will come to expect such discounts, and may even choose to wait to buy until you offer price reductions again. In fact, discounting may even become your default brand.
Damages Your Reputation
A small business might want to be known for many different things:
- Its great products
- Its superior customer service
- Its values
- Its convenient locations
But any of those will be secondary if price reductions become your primary sales strategy. Your brand will be about low-cost offers and discounts. Not quality. Not superiority. Not excellence. Discounts. Lower prices. If that is your intent, then go for it! But if not, be careful.
Turns Off Your Current Customers
While yes, everyone likes a good deal, that is likely not why your customers became your customers. They liked something about your business that was special; if low, low prices were not that thing, then your main customers may not like how much energy and effort you are putting into discounting.
In fact, you may find that the price-comparison shopper will start to become your main customer and that is usually not so desirable because all they care about are low prices. Placating that type of customer will force you to discount more and more, whether you want to or not.
And finally, your regular customers may come to even resent you for giving the sale price to everyone, or they may begin to think of your business as not so special after all.
Cuts into Your Margins
Most small businesses do not have a lot of wiggle room when it comes to cutting costs that may be needed to sustain lower profit margins. So, while aggressive price cutting will certainly get you more customers, in the short-term, those sales will likely not end up being as profitable (or profitable at all) as your “regular” sales.
Gets You into a Price War
Back in the day, gas stations that were on the same corner or same street would often have a “gas war!” or a “price war!” Each would undercut the other in an effort to get drivers to pull into their station.
And getting into a price war with Amazon is a sure loser because Amazon is able to buy products at prices no small business can match, and therefore is able to sell at prices we can’t match either. A classic lose-lose scenario!
How to Cut Prices the Smart Way
OK, so what we want is to get the advantages of lower prices, of the price cut–the shoppers, the attention, the sales–without the downsides, like the "low-cost" brand damage, the potential profit problems, less desirable shoppers, and so on.
Is that possible without being Walmart? You bet. The main idea is to offer extra value, in addition to the price reductions. Here’s how:
Offer a Discount, but with a Minimum Purchase Amount
One of the problems with a discounting strategy is that it is the one-off discount purchase that often wreaks havoc on your profit margin, brand, and customer base because it’s often tough to make enough profit on a single discounted sale. Yes, cash flow and volume increases may go up in the short-term with lower prices, but profit can, ironically, go down.
Better: Offer the discount, but have a minimum purchase number. For example, buy five and get 5 percent off, buy 10 and get 10 percent off.
Bundle Your Products
Cable companies love this strategy and are famous for it. For instance, they may offer HBO for free for a year, but only if you bundle that with mobile phone service and Internet.
Well, if it works for them, it can work for you too. Come up with a great offer—something your customers will really like—but only offer it in conjunction with the purchase of other products or services. The discount on the desired item will get them in the door, and they will buy the other thing too. That’s called a “loss leader” strategy (the loss on the sale item leads to more overall sales) and it works.
Sure, give them the sale price on the product or service, but consider tying that to another, additional, related product or service. Maybe to get the special deal they need to also buy an extended warranty, or maybe they get the first one at the regular price but get the additional one at half price.
Give the Discount only to Your Best Customers
The beauty of this idea is that, instead of diluting your brand and potentially angering your best customers by offering a discount to the world, you instead burnish your brand and make your best customers happy by offering it only to them. As much as customers like a discount, they also like being special. Indeed, making customers feel special creates “goodwill” that has numerous long-term benefits, including increased sales, word-of-mouth, and more.
Cut Prices, Yes, But Not Too Much and Not Too Often!
The bottom line is that you will keep your small business and cash flow healthy if you remember that offering lower prices doesn't mean that you have to get into a price war with other small businesses. Sure, a price cut and sale here and there can create a short-term competitive advantage, but the danger is that shoppers may come to expect it, or get used to it, or wait for it. By bundling extra value with price cuts, you can have your cake and eat it too.