When a store runs a discount promotion it hopes to increase sales, and usually it does. There are 3 types of buyers during a promotion:
Those that would not have purchased without the promotion (good!)
Those that were going to purchase at full margin but will gladly take the promotion (bad!)
Those that were going to buy in the near future at full margin but order during the promotion to take advantage of the savings (bad but less bad since money has a time value)
Those that you’ve trained to wait for a promotion (really, really bad because these look like people who would not have purchased without the promotion but if you hadn’t trained them to wait they would have been full margin customers). For the sake of my evaluation though we’ll lump these folks in with the good, because chances are you can’t untrain these people and they’ll abandon you if you stop (see Ron Johnson’s efforts to turn JC Penney into an everyday low price retailer instead of a frequent discounter).
When determining whether you should run a promotion or when evaluating the success of a past promotion you need to subtract the bad from the good in the bullet points above.
I made a spreadsheet that will help you do this. You will need to make some assumptions. You can hit file and make a copy of this spreadsheet so you can enter your own numbers:
I also made this youtube video to help you understand what’s going on.
The takeaways here are pretty obvious. Higher discounts are disastrous to profits. Having higher margins means you have more room to play with discounts.
The biggest key to success of a promotion, though, is the limit the number of discounts you can give to people who would have paid full price. The best way to do this is to not have a sitewide discount. Ideas to make sure that as few full margin customers take the deal as possible include:
Only advertise your promotion off site or selectively with a tool that looks for browser abandonment behavior.
Only advertise to lapsed customers who have made it past your usual re-order cycle without placing an order.
Use facebook or google retargeting to visitors who haven’t ever purchased. You may want to consider not making the offer to people who have visited in the last 15 days (or whatever your typical sales cycle time peaks at) as there’s still at least a decent chance they’ll buy soon via your everyday retargeting efforts.
Remember that contribution margin is what we’re after. Sales are sexy to talk about but don’t actually put money in your pocket.