Last night a friend called me to explain that one of his clients was using discretionary discounting to bring people in the door. And it succeeded! The problem was that they came in the door and left. Yes, they took advantage of the initial deal, but then would not make the commitment for the next level of service. He had to do something, so he offered a second discount for his next level of service. And so it goes, by offering discounts you train customers to wait for the next deal to make a buy decision. This process delays the buy decision and lowers the prices you actually capture.
But doesn’t discretionary discounting give sales the flexibility to close more deals? In our experience, the answer is no. For most of the last decade I have worked with Bo Di Muccio at TSIA in evaluating pricing practices in professional service organizations. As part of that work we looked at a correlation between closings and discretionary discounting. There was no correlation. Some companies discount a lot, others a little or none, the close rates are about the same. In the end, discretionary discounting, though widely practiced, is for the most part a bad habit. What we do know for certain is that discounting harms margins. Higher discretionary discounting correlates with lower margins.
Discount Pricing Strategy
Let me share an alternative approach that has been called Strategic Discounting or a Discount Pricing Strategy. The key idea is to decide what you want your price incentives to accomplish before you go to market. After all, isn’t the purpose of incentives to drive behavior? And doesn’t it make sense to make these decisions before you get into the shark tank of negotiations when you are more likely to give away too much?
Those of you that know me personally, know that I love to dance. Two or three days a week you will find me somewhere in Denver doing a foxtrot, salsa or swing. My studio is called Colorado Dancesport and I want to use their pricing model to illustrate pricing that works well with sales.
To begin, there is no discounting. Instead there are discrete price levels. The first level is a starter package at $25. For that you get 3-25 minute private lessons plus a two week pass for all the group lessons you can handle. Level 1 gives potential members a low risk way to try the offering. That said, they still have to pay something. Note this is for starters, it is not to be repeated.
Level 2 is the bridge. The objective is to leverage your initial experience into a willingness to pay more. If you choose to go on, now you have 6-45 minute lessons and the price is $250. Again you have the option of taking the group classes. Both the service level and the price per lesson has increased. The student is learning to pay more. Again, this is only offered to students after level 1 is complete. This does not appear in the published pricing.
Level 3 is membership. There are 3 levels of membership, each level includes certain privileges, including discounts on private lessons. You can pay full price for private lessons or you can buy a membership and pay less. The incentive is to trade up and pay more so that you receive higher levels of utilization at more favorable pricing overall.
In sum, this is a strategic approach to offering price incentives that encourages trial and renewal, while growing new members’ willingness to pay. If you plan to use price incentives to encourage sales, answer these 3 questions:
- What behavior are we trying to drive?
- How do we design that incentive so that it achieves the desired effect without opening the door more broadly?
- Is our short term incentive consistent with achievement of long term pricing objectives?