April 24, 2018

Free Shipping + 30% Off ... That's A Deal!!!

Here's our situation from yesterday.
  • Three items at $35.00 = $105.00 demand.
  • 30% off = $31.50 discount.
  • Net Sales = $105.00 - $31.50 = $73.50.
  • Cost of goods for three items at $17.50 = $52.50.
  • Gross Margin Dollars = $73.50 - $52.50 = $21.00.
  • Shipping Revenue = $10.00.
  • Shipping Expense = $8.00.
  • Net Shipping Revenue = $2.00.
  • Total Profit from the Order = $21.00 + $2.00 = $23.00.
  • Order Increase = 1.50.
  • Total Profit = $23.00 * 1.50 = $34.50.
  • Profit at Full Price = $54.50.
This is the point in the script where the CFO enters the picture ... she's not happy that profit never recovered. Sales aren't increasing enough, either. The Board (or the Owner) are upset.

What does the marketer recommend?

Free Shipping on Orders > $100!!!

So now we have 30% off plus free shipping. Somebody in marketing jumps up and down ... "we're competitive" ... they can't wait to measure conversion rates in real time. And conversion rates improve. 

Our situation changes ... we get a 20% bump in orders, so that's a good thing. But ...
  • Three items at $35.00 = $105.00 demand.
  • 30% off = $31.50 discount.
  • Net Sales = $105.00 - $31.50 = $73.50.
  • Cost of goods for three items at $17.50 = $52.50.
  • Gross Margin Dollars = $73.50 - $52.50 = $21.00.
  • Shipping Revenue = $10.00 (for half the orders, $0 for the rest) = $5.00
  • Shipping Expense = $8.00.
  • Net Shipping Revenue = -$3.00.
  • Total Profit from the Order = $21.00 - $3.00 = $18.00.
  • Order Increase = 1.50 * 1.20 = 1.80.
  • Total Profit = $18.00 * 1.80 = $32.40.
  • Profit at Full Price = $54.50.
We're losing more money now than before.

Order volume is up 80%.

Profit per order is down by 67%.

Total profit is down.

The customer has been trained to love discounts/promotions ... when you don't run discounts/promotions orders fall off of a cliff.

Now your CFO is really corked off.

To achieve more profit, the CFO asks the merchandising team to develop new items with better gross margins. We'll explore that issue tomorrow.

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