A client emailed me a link to this story on CBS News: E-Mail Coupons: The New Way to Retail, which touts the new craze of group discounts to drive business traffic. Using services like Groupon and LivingSocial, you can offer your stuff for 50% off to potential customers (the service keeps half the money of the sale). If you decide to sign up, save yourself some time and simultaneously draft a funeral notice for your business.
The Discount Anchor
The thought process goes like this: I get a new customer by giving them a discount: 50% off. They will appreciate the discount, see how great we are, and become a new customer. But that’s not how the customer thinks. They get their coupon, buy your stuff, and they like it. Then you ask them to buy again, but now you’ve doubled the price! That’s how the customer see it.
It’s called an anchor price. The first price the customer sees becomes the anchor for what they are willing to pay for that product. All future prices will be judged against the anchor price. Customers won’t think that they got 50% off the first time they purchased from you, their mind will tell them that you’re increasing the price 100% on their second purchase.
You Charge Too Much
And what are your current customers to think when you start flinging around 50% discounts on stuff they are paying full price? Are they saying,
“I certainly understand that my favorite restaurant is just trying drive new traffic and improve cash flow. I’m perfectly willing to pay full price while others are paying half of what I’m paying.”
More likely they’re saying,
“WTH? You mean I’m paying double what someone else is paying? What a rip! I want in on that deal.”
Coupon Craziness
Of course, the discount coupon companies love it. They make money selling your price discounts. For every two dollars in profit you lose, they make a dollar. And their sales pitch? LivingSocial CEO Tim O’Shaughnessy says it’s not just about short-term profits, it’s about marketing. The CBS News Story quotes O’Shaughnessy:
“…it’s really a new advertising method for them (participating businesses) that’s very, very trackable…”
Good news! You will know exactly how you lost all that money. O’Shaugnessy continues…
“They’re lowering their prices. But they’re also taking their marketing budgets to zero.”
Of course, that’s absolutely wrong. By my calculation you’re increasing your marketing budget 1500%. Do the math. The generally accepted average for marketing budgets is 5% of gross. You give up 75% of your gross to buy into Groupon and LivingSocial’s discount scheme. That’s a 15-fold increase in marketing costs.
The Discount Death Spiral
Can you really afford to sell your stuff for 25 cents on the dollar? I call it the Price Reduction Death Spiral. Probably the worse part of participating in the email coupon scheme is that you will see an increase of customers. And that’s not necessarily good news. A reduced price means a reduced profit. Reduced profits equal reduced resources. If these email coupons work, you will be serving more customers for less profit and with fewer resources.
How long is that sustainable?
What can you do instead? Check out some ideas here: What Should You do About Discount Pricing?
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