Q. Adrian, I have a client that lives and dies by discounting. Whenever sales are slow (which for them is around 80% of the time), they resort to discounting their services by 25% or more. They do get more business when they do that, but their profit margins are down year to year. What do you think about discounting as a revenue-generating strategy?                                         

 -Derek Sloan

Hi Derek,

When any small business feels the need to increase sales, they immediately think the best way to accomplish that goal is to discount their prices. Every day you see the products and services offered at discounts ranging from 10% up to 70% in some cases.

According to a new study published in the Journal of Marketing, businesses that discount is missing the point.

The latest research has discovered that shoppers much prefer getting something extra for free versus getting something cheaper. The main reason is that all consumers want to feel that they’re getting the best deal… and unfortunately, most people struggle when it comes to calculating fractions. They have no way to actually determine whether a percentage discount is truly a good deal for them or not.

For example, consumers fail to realize that a 50% increase in quantity is the same as a 33% discount in price. They overwhelmingly assume that receiving the higher quantity is a MUCH better deal. When tested, researchers sold 73% more hand lotion when it was offered in a bonus pack than when it carried an equivalent discount.

This numerical blind spot remains even when the deal clearly favors the discounted product. In another experiment, researchers offered consumers two deals on loose coffee beans… 33% extra for free… or 33% off the regular price. The discount is by far the better deal, but the consumers viewed them as being equal.

Studies have shown one major way retailers can exploit consumers’ ignorance when it comes to discounting is to bewilder them using double discounting. Researchers found that consumers are more likely to see a bargain when a product has been reduced by 20%, and then by an additional 25%… versus one which has been reduced by 40%. Although both of these discounts are exactly the same… consumers overwhelming chose the double discount as the best deal.

But here’s what you really need to know.

Most business owners discount their prices without properly preparing a strategic plan of action. A strategic action plan is a collection of tactics that are implemented in a predetermined sequence in order to produce a specific outcome. You MUST implement a pricing strategy that will produce the appropriate end result for your business… which is to increase your profit margins. The process we’re teaching you here will enable you to do this.

To get you in the proper frame of mind, it’s important that you realize that when a prospect considers buying what you sell, they all want the exact same thing… the best deal. It doesn’t matter if it’s a stick of gum or a new car, we all want to know we’ve gotten the best deal we could possibly get. However, the best deal doesn’t mean the lowest price. It means the most value for the price we pay.

Most small business owners mistakenly assume everyone is shopping for the lowest price.

In reality, most of them are… but only because the sellers give the buyers no other choice. You see, if all the sellers look exactly the same… in other words, they all offer the exact same product or service… then the only value proposition left to a buyer is the price. Want proof?

Just look in an old Yellow Pages if you can still find one…or better yet, Val-Pak. All the ads look the same. They place the name of the business at the top… a “menu” of that business’s products or services in the middle… and then their contact information at the bottom. Believe it or not, this is done deliberately by the advertising representatives that design the ads. They want all the ads to look alike. Why?

Because they know all too well that prospects buy value, and by designing all the ads to look the same, the only major value proposition left to the prospect is the business offering the lowest price. Unfortunately, the prospect simply doesn’t have the time to call every business listed and ask them what they charge. The advertising reps know this.

They also know when the prospect realizes they don’t have time to call everyone listed, they automatically default to a secondary value proposition… which is the size of the ad itself. The reason… most prospects believe that the bigger the ad, the more stable and reliable that business will be. Back in the day, this provided the Yellow Page company with a huge sales advantage. You see, they tracked the results their customers got from their ads, and statistically, an ad twice the size of another ad generated double the number of leads.

They then presented these statistical advantages to their customers the next time their ad came up for renewal and used it to convince that customer to double the size of their ad as well. Naturally, the Yellow Page company doubled their revenue on that specific client.

The real key to success in marketing is to offer more value than your competition.

Prospects will pay twice the price if they believe they’re receiving four times more value. Unfortunately for the vast majority of small business owners, they truly believe the price is the sole determining factor when prospects make a buying decision. Then to add insult to injury, they begin to “discount” their price and end up destroying their profit margins. This may shock you, but do you realize if you discount your price by a mere 10% you now have to sell 33% more just to break even?

For example, if you sell a widget for $100, and you have a 30% profit margin, then you end up making $30 for every widget you sell. That means your cost basis for that widget is $70. If you discount that widget 10% and sell it for $90 instead of $100, your cost basis is still $70. Now you’re only making $20 in profit instead of $30. You now have to sell 33% more widgets to get back to your original profit margin.

But consider this… when was the last time you saw a business offer a measly 10% discount? Most of the time they offer 20% to 40% discounts… and then they scratch their heads wondering why they’re going broke. And to add even more bad news on top of this already bleak scenario, did you know that the latest research shows that discounting doesn’t actually impact a prospect’s buying decision unless that discount is for 40% or more?

The closely guarded secret that successful businesses don’t want you to know is this.

STOP discounting and instead… innovate your business so you offer more value than your competition… even if that means increasing your price. Discounting destroys profit, and profit is the lifeblood of every business. I know businesses that today are making well over $2 million dollars in annual revenue… and yet they fail to make a profit. Then they sit around asking themselves how they can dramatically increase their revenue.

WHY would you want to increase your revenue when you don’t get to put any of it into your pocket? Increasing your revenue without generating a profit is a death sentence for any business, and yet they all assume that increasing revenue is the key to business success. It isn’t! Increasing profits is the key… so STOP discounting.

When you discount your price, you lose the full value of every dollar you discount. That $100 widget being sold for a 10% discount now comes with a physical cost of $10 to that business. Instead, what if that business added a complimentary product or service that cost that business $10… but had a perceived value of $50 to the prospect? And instead of selling that $100 widget for $100… they now offered the $100 widget plus the $50 bonus for a total of $120. Which offer looks like the best value?

That’s why smart business owners will add value to what they sell… and then increase the price accordingly. As an example, let’s say a restaurant offers you a 25% discount on your favorite meal that costs $40. The restaurant next door has your same favorite meal at the exact same price but they include a bottle of wine and your dessert for free. Which restaurant would you do business with? The vast majority of people select the restaurant offering the wine and dessert. After all, it’s the best deal, isn’t it?

The restaurant offering you the 25% off your $40 meal is a savings to you of $10. But at the second restaurant, the bottle of wine is listed on the menu for $25 and the dessert is $6. Therefore you perceive that you’re saving $31 instead of $10. That’s quite a deal.

So now you’re asking… how can the second restaurant afford to make such a lucrative offer? They can do it because they know their costs. That $25 bottle of wine only costs them $8 wholesale. And the $6 dessert… maybe $1 wholesale.

The first restaurant… by offering a discount… physically loses $10 cash. The second restaurant only spent $9 and yet still created the perception that their customer was receiving much more value for their money. In this example, both the restaurant and the customer come away winners.

And once restaurant #2 promotes this offering in their marketing, they will create a market-dominating position. After all, who will want to pass up receiving $31 in free stuff on a $40 meal? And yet the restaurant is spending less overall than the restaurant providing the discount. This is one reason I’m not a fan of discounting as such. Naturally, you must consider your circumstances and the situation, but overall, you’re much better off offering something with a high perceived value but a low cost to you overall.

The key is to create added value in everything you do. Prospects and customers DON’T buy based on price… they buy based on the value they receive for the price they pay.

Derek, have your client focus on creating added value and they will soon dominate their competition.