When to Sell Products at a Loss
Contrary to popular belief, not every item sold needs to generate a profit. A loss leader is a deliberate pricing strategy in which a product is sold at a loss because it is priced below its market cost. This is normally done because the sale can result in improved sales of complimentary products and services. This is often used by retail stores to attract new customers into the store with the expectation that they will buy other products on display in addition to the product being sold at a loss. The profit from the other products sold will offset the loss being sustained on the loss leader.
Good marketing analysis involves evaluating the impact on profitability from such a promotion both in direct and indirect terms. To be as accurate as possible, the long-term effects of the promotion should also be taken into account. This is important because substantial price reductions may well induce the customer to buy in bulk, thereby depressing demand in the long term.
The loss leader should be a product which is preferably bought frequently so that customers realize that they are getting a bargain in terms of price. They are often placed at points in the store where customers have to walk past higher margin products in order to get what they are looking for (ideally increasing sales of these other products as well). Quantities can be restricted to discourage bulk buying of the loss leader.
It is also helpful if these products have complementary products that also need to be bought (that are not discounted). For example, printers are often sold at a loss because manufacturers expect to make up for the loss through the sale of consumables such as cartridges and paper. Similarly, pet stores will sometimes sell pets at a small loss because they know that consumers will also be purchasing complimentary products such as collars, leashes, food, cages and toys for their pets.
When to Sell at a Loss
There are several situations in which loss leader pricing strategies are appropriate. First, as previously discussed, this pricing strategy is often used in order to get customers to buy more profitable complimentary goods. Second, it can be used in a situation where you are overstocked on a particular product or stuck with inventory which does not seem to be moving, treating it as a loss leader can help get rid of excess inventory. By discounting the price, in addition to generating extra cash flow, you can also free up shelf space to be used for more popular products. And third, it can also be used to increase public awareness of your brand and inducing new potential customers to visit with the hopes of converting them into becoming your customers.
Loss leader strategies can prove to be profitable but there are some sensible precautions that you should take. For instance, you should ensure that you do not lose money overall as a result. You should also be sure to check with the manufacturer because many of them will not allow their products to be sold below the cost to produce it or at prices below what it is sold at elsewhere. But if used correctly, pricing products at a loss could be a successful tactic in a retailer's arsenal.
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