Promotions are temporary. Promotional pricing is designed to provide a temporary boost in sales by offering more attractive terms than the standard list price and options.
Unlike differentiated prices (see Differentiated Pricing), promotional prices are available to all buyers, with the possible exception of a credit check for a promotion involving better credit terms. But the same question applies to both promotional and differentiated prices: are the additional sales worth more than the reduced margin per sale?
To answer this key question, companies always test their promotion. They introduce it for a narrow slice of the market or products, publicize it, track the additional sales, and assess whether any profit improvement resulted from the discount.
When testing, the same cautions apply: be sure to publicize the promotion; be sure to track it fully, and try to determine whether the customer would have bought anyway at the original price.
Types of Promotions
There may be as many types of promotions as there are stars in the sky! Owners design promotions according to market demand and product profitability, and the only limit is their creativity. Some examples are:
|
Promotion Type |
Definition |
Objective |
| Buy one get one free (BOGO) | Two for price of one | Increase unit sales; useful when production cost is a small % of total cost |
| Loss leader | Price below cost | Attract new buyers to the product line; sell more high margin accessories or tie-ins |
| Special Event pricing | Limited time sale price | Attract more buyers now who will return later and/or buy accessories or tie-ins |
| Cash rebate | Sell for list price but offer discount via cash back | Maintain list price; offer appearance of a deal; reduce cost of discount by % of buyers who do not pursue the rebate procedure |
| Low interest financing | As stated | Maintain list price; attract more buyers via lower monthly payment; Seller pays part of interest cost |
| Longer payment terms or no payments until (delayed start) | As stated | Maintain list price; attract more buyers via lower monthly payment; seller may borrow working capital to replace delayed cash flow |
| Longer Warranty | As stated | Maintain list price; attract more buyers by reducing their perceived risk; useful when most warranty issues occur early in the life of the product |
| Free component (free razor; pay for blades) | As stated | Attract more buyers; useful when most margins result from sale of consumable accessory (blades) |
Promotion Cost vs. Lifetime Value
Promotions make financial sense when you consider the lifetime value of the customer to your business. It is worth incurring a cost (lower margin) to gain a customer who will make subsequent purchases that generate high margins. Examples are automobile servicing, blades for razors, e-book purchases vs. e-reader device, credit card interest, replacement parts, etc.
To do the math, you need to consider the cost and the gains. Costs include lost margin for those who would have bought anyway (eventually) and publicity costs. Gains include any margin on the original sale from those who would NOT have bought from you, plus the margin from their subsequent purchases, for as long as they buy from you.
How long does your average customer buy from you? For example, one credit card issuer calculated an average customer life of eight years. This issuer chooses promotions to gain new customers where cost of the promotion (such as a lower interest rate for the first year) is less than the total margins they earn from those new customers over the next seven years.
Do the math, run the test, redo the math after seeing results of the test, then launch the promotion or modify the offer, and test again.
Tom Gray helps owners save and grow their companies. He is a management consultant focused on small business and telecom, a Certified Turnaround Professional (CTP), a Certified Business Development Advisor, and a Certified SCORE Mentor. He can be reached at 630-512-0406 or tgray@tom-gray.com. See www.tom-gray.com
Tags: differentiated prices, lifetime value of the customer, promotion pricing, promotional prices, test promotions, types of promotions
