Discounting Do’s and Don’ts

Marketers cannot avoid discounted sales, and consumers have come to expect them. The average shopping mall, grocery store or online shop is littered with discounted products: Tide detergent is 10% off; books are sold with free shipping; Nike sneakers are buy-one, get-one-free. Discounting is a common marketing technique that effectively drives purchase behavior. Marketers often choose to forgo some revenues in favor of increasing overall sales. Most companies provide product discounts to effect purchase decisions, but some discounting and sales practices can have a negative effect.

How should a discount be presented to consumers? Discounts are usually driven by sales events. Marketers pay particularly close attention to the amount discounted, time period, placement, packaging and promotion of the sale. This creates a promotional package that allows a marketer to build a sales event.

Underlying any discount is the pricing decision. How a product is priced is determined by a number of factors, such as cost, value and elasticity. How that price should be presented and represented to consumers is less understood. There are endless ways to present prices, and this decision will ultimately affect how a price appeals to consumers.

Researchers describe changes in purchase behavior when the same information is presented differently as “framing effects.” For example, most people believe that government spending of $1.5 billion is larger than spending $8.50 per U.S. household, yet the total amount is roughly the same. When the president wants to demonstrate a large amount of spending (say, for education), he references the total amount; when he wants to discount spending (for example, when discussing a budget overrun), he notes the dollars spent per person. Transparent, yet effective.

Psychologists have broadly demonstrated that framing effects can cause highly intelligent people to make poor decisions. Framing effects create biases and errors across all areas of decision making. Doctors have made critical errors in medical diagnoses, shareholders have demonstrated irrational behavior in the stock market, and judges have sent innocent people to jail.

Framing effects have had a profound effect on consumer choice and purchase behavior. At United Online Inc., we priced our NetZero Internet access at $9.95 per month because we found that the price point performed significantly better than more even increments, such as $9.00 or $10.00. On a more granular level, research has shown that some products perform best at $.99 versus a $.95 price point.

In another example, at MediaWorks we experimented with different pricing frames for discounted products. We found that consumers are more apt to purchase a product that is offered for free with a $4.95 shipping charge than a product that costs $4.95 with free shipping. The total purchase price was the same, but the free product increased sales.

How should a product or service be discounted? While most promotional details are carefully analyzed, less thought typically goes into how to present the economic value of a promotion. There are many ways to present the same discount, such as dollars off, added value, or a percentage off. Though these marketing promotions can represent the same discount, the impact on purchase decisions is often different.

In three recently published papers, I discuss the importance of framing effects and their impact on purchase decisions: “Categorization and Technology Innovation” (2006), “Mental Models and Online Consumer Behavior” (2005), and “Increasing Productivity through Framing Effects for Interactive Consumer Choice” (2005). This research specifically tested how framing effects can cause promotions and discounts to fail. It compared consumer interest, number of purchases and drop-off rates for discounts that were presented in dollars ($5 off), percentages (10% off) and value (buy-one, get-one-free). Even though the actual discount was the same, performance and sales differed significantly depending on how the offer was presented. Underlying this phenomenon are framing effects.

For complex purchase decisions, we found that dollar discounts perform poorly relative to providing additional product value. Dollar discounts add complexities that can reduce purchase behavior. Products such as software or automobiles are major decisions that require forethought and a comparison between significant amounts of information. These products tend to perform worse with dollar discounts because consumers must first convert the discount into true value. This provides added complexity and can lead to information overload. For that reason, framing the discount in terms of real value can increase purchases. In one experiment, we showed that framing a monthly service discount as additional months free versus dollars off increased purchases by over 100%.

For simpler purchase decisions, dollar and percentage discounts work very effectively. This is particularly true for products and services that have become commoditized. Commodities are typically compared by price alone, as all other features are identical. When price is the single driver of a decision, price discounts perform best.

Take the Internet service provider wars. Originally, Internet service varied across providers, and consumers were presented with the challenge of comparing price, reliability and feature sets. Once ISPs were commoditized, consumers began to become more price sensitive, and discount providers were able to increase market share. Today, most of the ISPs are losing customers. However, for a number of years, the leaders in the space were losing marketing share to discount providers, despite the fact that these companies were also offering steep discounts. This was a direct result of discount framing effects. While AOL LLC primarily offered free months to its consumers, NetZero and Juno Online provided pricing discounts. As a result, AOL’s market share continued to deteriorate, while NetZero and Juno maintained record growth. Framing discounts in terms of dollars off is beneficial when price is the primary determinant.

The recent research on pricing emphasizes the need to consider framing effects when determining sales and discounts. Consumer choice is driven by perceptions that do not always correspond to reality. If consumers perceive something to be a good value, they are more likely to make a purchase. If a discount does not fit with a consumer’s perception of the product offering, it will not succeed.