A good discount strategy can help optimize P&L performance. Increased revenue, market share, and unit volume sales. It is not uncommon for businesses to put a blanket discount in place and call it a day.
The impact of an unmanaged discount strategy:
An unmanaged discount strategy can be incredibly expensive. For example, for a one dollar discount, it is a direct reduction in profit - 1:1. Even worse, it is a greater impact to your margin. Let’s use a simple transaction where the list price is $100. From there, a $5 discount is applied. As you’d expect - that’s $5 directly off the profit. Presuming the $100 list price transaction would be 20% ($20). If the profit is reduced from $20 to $15 - that is a 25% reduction in margin. This means the presumed “5% discount” actually impacts profit 25%. That is a significant impact. With an actively managed discount strategy, the impact to the bottom line is managed vs. suffering the consequence of strategic lack.
Strategic levers for discounting:
There are various tiers to discounting. There’s the Tier 1 discount listed on the invoice for things such as a product sale, a customer segment etc. that are taken directly off of the list price. A good discounting strategy here would ensure it is applied to the right customers (remember from our last post, not all customers are the same), and for the right products and that it has a meaningful impact on sales conversions and profit targets. Adjusting these no less than annually will ensure they stay relevant to the market and remain competitive and have the intended impact on sales conversions.
Then there is a Tier 2 discount that applies to items that are off invoice, like volume discounts, event triggers etc. that result in a lower price to the customer, but on the back end of transactions. Tier 2 discounts are typically negotiated in contracts and are a result of concessions to get a contract win. The use of this strategy should be closely linked to how the customer will perform in terms of volume and product mix purchases. This can be challenging to manage, because it is further upstream in the transaction process and can require intelligent modeling and protective contract language to manage the Tier 2 discounts.
Managing your discount strategy can be as simple or complex as you want it to be. The important piece is to understand how $1 of discount translates to $1 loss in profit and an even greater percent of impact to your margin, so thinking about it as another specific investment and optimizing your ROI positions you for success.