For many smaller businesses, the pressure of generating sales never stops. For many, this means continually offering discounts to attract and entice customers. However, this strategy can be very dangerous if you do not have a good understanding of the price-cost relationship because lower prices may mean lower overall profits, even on higher volumes.

Pricing is an art. Good pricing considers:

1. The cost to make and deliver the product or service
2. The desired profit margin for effort and investment
3. Competitors' pricing and market reaction
4. Current market conditions
5. Your financial position - how deep are your pockets?

Pricing and discounting is also about:

1. Desired or projected image of your company or product
2. Where ‘premium pricing' can be maintained
3. Customer appreciation of quality, value or price
4. Sensitivity of demand to price increases and decreases
5. Where your product or service is in its life cycle - infancy, maturity or decline
6. Impact of promotional and advertising effort

The following table shows the impact of a price discounting policy:

If your business is operating on a 30% gross profit margin and introduces a 10% discount sale (10% discount on gross revenue), you would need to generate an additional 50% in sales volume to maintain that 30% profitability level.  The key to the successful adoption of a discount strategy is to ensure that costs are also reduced, otherwise the increase in sales will be cancelled out by a decrease in profitability.

This is what happens if you increase prices:

In this scenario, if you increase prices by 10%, you could afford a reduction in sales volume of 25% without impacting on profitability. Of course, there may need to be strong justification for the price increase, such as added product features or services.

Sales discounting can be a valid business strategy at the right time and in the right situation. However, it can be fatal if you do not understand its relationship with costs.

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