discount

“Ouch! It Really Hurts”: The Erosional Power of Discounting

In a recent study published by Harvard Business Review* they looked at how common discounting is in the B2B industry. They found that 48% of organizations, when providing a discount, offer discounting between 10-24%. The question is, did they know how much margin they actually gave away? Let’s look at a scenario.

If you are selling a B2B offering where you have a 60% gross margin, let’s look at what a 24% discount actually does to your profitability. Below is a diagram showing your sale and how much your gross margin is with no discounting.

Discount - What Happens

Giving a Discount is Not Always Smart.

What will a 24% discount do to your profitability?

When sellers and buyers talk about discounting it is most often referring to a percentage of the total sales. In this case, taking off 24% of your topline means that your new sales price is 76 instead of a 100.

What just happened is that you gave away 60% of your Gross Margin (24 out of 40)!

Now, since we have only addressed gross margin, meaning that we have deducted the direct costs associated with the production and delivery of whatever is sold, we still have to take into account common general and administrative costs. These are all the indirect costs, typically expenses like Sales & Marketing, Office Expenses, Management and R&D. The next question is, was this a profitable sale when all of the organization’s cost are taken into account?

What power has your organization delegated to the salesforce when it comes to discounting? Have you equipped them with the knowledge and understanding of what they give away when they are discounting the price?

In the given example, even if we take the lower end, a 10% discount, it is still giving away one quarter of the gross margin.

Percentages are powerful and small changes on the total price may have a huge impact on your bottom line. If you want to explore more on how small changes can have bottom line impact, try out this on-line profit simulator (also available as an app for ipads in the Appstore). It also allows you to enter and play with your own organization’s numbers.

*HBR Jan-Feb 2015 The Downside of discounting

Learn more about what happens when you give a discount: Try out the Celemi Profit Simulator  that we originally developed for IKEA.