Loss leader pricing strategy is selling a product at an extreme discount (or even giving it away) to increase the sales of other products. Loss leading is a controversial strategy that is considered predatory by some. Some companies use it when trying penetrate new markets to gain market share. Others use it to drive sales on over-priced dependencies.
Examples:
- It’s summer and it’s hot. Air conditioners are on sale for $87 at Walmart. They’re running ads and have the lower priced air conditioners near the door when folks walk in.
- Meat, dairy, bread and other staples are discounted deeply because grocery stores know that folks will pick up other items when they come in for the cheap staples. No one goes home with just the milk or just the bread.
- A core product is sold at a loss so that add-on items can be priced higher. Think about cheap blood sugar meters with exorbitant test strips. Think printers and their pricey ink cartridges, or coffee makers requiring specific cartridge coffee.
A loss leader works when you have something customers need, or something that customers think they need.
Printers are just so frustrating, people want something inexpensive because they know they’re going to go Office Space on it eventually. (No? Just me?) They rarely look at the recurring cost of ink refills.
If you compute the cost of your coffee if you bought it in bulk versus Keurig cartridges, you’re paying a lot for the convenience of one-cup brews.
Sometimes, a product just isn’t moving and it’s time to clear the shelves for the holiday. A deep discount and selling that product at a loss for the purpose of making room for more profitable items make sense in a retail inventory-based situation. It costs more to keep a product on the shelf than it does to sell it at a loss.
In the software, SaaS or service businesses, you’ll often see loss leader pricing with discounts for the first year of a subscription, or “first month free” trial pricing. This first touch point for a customer can often have the greatest friction. They don’t know the brand, the developer, the service provider, and a lower price or a free trial can reduce the barrier for purchase.
The dark side of loss leader pricing
Loss leader pricing can be detrimental. It can cheapen the overall vibe of your brand if done poorly. An example would be giving away a product that doesn’t have a market or doesn’t sell very well in order to get people to buy something that does sell. It’s like having a discount on Maseratis but people get a free bag of dog poop for buying. It makes Maserati look bad, even if people turn down the bag of poop.
Sorry. I was thinking about loss leader pricing and how much I dislike it as a strategy while walking my dogs. And the bag of poop.
Should you loss lead?
If you’re going to use the strategy of loss leader pricing, make sure you understand how and why you are doing it. You should understand the cost of goods being sold, or the cost of having products on a shelf.
If you’re selling a software, are a service business, or SaaS, understanding your cost of customer acquisition (CAC) and the lifetime value of a customer (LTV) and how these two values relate must drive pricing strategy. As well, this ratio is a critical metric in evaluating the financial health and sustainability of these types of businesses. If you’re not sure of your CAC:LTV, don’t attempt loss leader pricing strategies until you’re sure of these metrics and what they mean.
In any kind of business, analyze how loss leader pricing affects brand perception. If you’re giving something away, does it add value to your customer relationship? Does it add value to the brand? Are people swinging by your booth at a trade show just to get your loss leading swag because it’s just THAT cool?
Anything you give away or sell for a loss must be something that the customer wants. Even crappy swag can damage a brand. Giving away things that people don’t want, whether it’s a product, service, or swag, will have a damaging effect on the brand. You don’t want your brand to feel like a flea market, garage sale, or dumping ground for unwanted items.
Know your customers, know what they want, and in all touch points, give them that.
HubSpot has some additional thoughts on the risks and benefits of loss leader pricing strategies. If you use this strategy, make sure you do your research and have predictable models of what it is you’re trying to accomplish.
