The Impact of Discounting and How Sales People Don’t Get It!

What would happen if sales gave an average of a 5% discount on items they sold? 5% isn’t that big of a deal, right? Hey, if it helps them win the business then everything is good, right?  That is the mentality of most sales people and even most sales leaders. What they don’t realize is the impact that discount has on the bottom line of the company. That 5% could cost the company 50% of its Net Income. Don’t believe me? Check out this example:

Cost of Goods-$500,000
Gross Margin$500,000
Minus Sales and G&A Expenses-$400,000
Net Income$100,000

Say a company has $1M in revenue and has a gross margin of 50%. That means they make $500K in gross margin dollars. Then let’s say they have $400K in sales expenses and G&A (rent, utilities, salaries of support people, marketing expenses, etc.). That means they put $100K or 10% to their bottom line. It looks like this:

Pretty straightforward, right? Now let’s apply that 5% average discount across the board. That makes revenue go down by 5% to $950K. Now all other expenses don’t change. It still costs the same to make it. All other regular business expenses are the same, so now the numbers look like this:

 Before5% Discount
Cost of Goods-$500,000-$500,000
Gross Margin$500,000$450,000
Minus Sales and G&A Expenses-$400,000-$400,000
Net Income$100,000$50,000

That’s a 50% reduction in bottom line! That $50K discount went straight to the bottom line. That’s just one example of what we refer to as a “sales lever” that many sales people and leaders have not really been educated on. Another common sales lever is adding another sales person. Intuitively, most sales leaders know that it will take a while for a newbie to pay for themselves, but very few really know the impact. They simply know that the new sales person will produce more revenue than the team produces today. However, that additional $100K or so that the new person produced while they were ramping up in their first year is far outweighed by the cost in salary, commissions, training time, etc.How can this be? It seems like simple math, right? Not necessarily so. Think about your sales people. How often do they need to look at an Income Statement? How about a Balance Sheet? How often do they look at Cash Flow? In most cases, not since accounting class in college. These are not concepts that are fresh in their mind any longer. Now consider that most sales leaders were once sales people who got promoted. They are in the same boat when it comes to financial acumen. Some of the best sales leaders are the ones who really understand how every sales lever they pull affects the company’s business and can therefore make more educated decisions on what to do to help that business.CEOs, do yourself a favor and review the Income Statement with your sales leader from time to time. Teach them how their actions impact things. Sale leaders, do yourself a favor and ASK about these things. Pull information from your boss. When you need something like another person on the team or support or more marketing, present your ideas along with your understanding of how it will impact the business this year and the following years.It seems like a simple concept, but we find that it is something that rarely gets reviewed or discussed.

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