To build a successful business, one of the most important decisions you'll need to make is how to price your products. An effective pricing strategy will lead to a profit margin that can sustain and grow your business, while pricing mistakes in either direction can easily put you out of business.
Nevertheless, there are situations when pricing your products "too low" can actually serve to draw customers and generate higher profits overall. This tactic is known as loss leader pricing. Read on to learn about loss leader pricing strategies and explore how to implement loss leaders for your business.
What is loss leader pricing?
Loss leader pricing is a marketing strategy that prices products lower than the cost to produce them in order to attract new customers or to sell additional products to customers. Companies typically use loss leader pricing when they are entering new markets or attempting to increase market share.
With any loss leader product, retailers hope that, once inside the store, buyers will also purchase other items that are being offered at full retail price. The profits from those additional purchases generally more than compensate for the losses on the one.
Loss leader pricing examples
A loss leader strategy can be used to attract customers and gain market share using numerous methods across a range of industries. Here are some common loss leader examples.
Think about all the crazy deals retailers offer on Black Friday, the day after Thanksgiving in the U.S. Starting at dawn (and even earlier at some stores), retailers will promote products being sold at a fraction of their market price as a reason for consumers to shop there instead of with a competitor.
Grocery stores often use milk as a loss leader, in part because most supermarkets have milk in refrigerated units in the very back of the store. Even if milk isn't sold at a loss, enticing shoppers into the store in order to buy milk is likely to increase sales of other products through retail psychology as customers walk back through the aisles to the registers.
Even big ticket items like electronics can serve as loss leaders in a long term pricing strategy. For instance, many inkjet printers are sold at a low margin or below cost because manufacturers can recoup their costs on ink cartridges. Similarly, video game consoles are famous loss leaders, meant to entice customers in to their product ecosystem so that console makers can sell games, controllers, and other accessories at higher prices.
For new companies (or established companies introducing a new product or service), a loss leader pricing strategy can be effective in establishing a foothold in a crowded marketplace. This tactic, also known as penetration pricing, is often executed over a long initial period, then tapered off as a brand grows its customer base.
What are cherry pickers?
Retailers using loss leader pricing may run into trouble with a set of customers known as "cherry pickers." Cherry pickers are customers who only buy the loss leaders, securing the best deals and leave without buying anything else.
These customers are an issue for retailers because they don't buy other full-price items while in the store. So the stores truly take a loss whenever those buyers shop. For that reason, many retailers have introduced limits to the quantity of sale items that can be purchased at one time.
How to use loss leader pricing in your business
While loss leader pricing is most often used in retail settings, it can also be effective for an online store or ecommerce business. Here are some ideas for using a loss leader pricing strategy in your business.
- Excess inventory: If you've overestimated demand for a product, consider reducing it to market cost or below and using it as a loss leader. This will allow you to liquidate inventory that would otherwise gather dust in your warehouse, all while potentially boosting sales of other products.
- Consumables and replacement parts: Consider products like razors and dusters. Brands like Gillette and Swiffer are happy to sell their devices at a loss because they can set a much higher profit margin for repeat purchases of replacement blades and duster heads. If your products have replaceable or disposable parts, consider incorporating loss leader pricing into your business strategy.
- Cart or product page recommendations: Just like the milk at the back of the grocery store, you can use your loss leader to drum up additional sales of other items in your store by recommending complementary or relevant products to shoppers at the right time.
- Business analytics: Loss leader pricing can boost customer activity around your website and ad campaigns, giving you valuable insight on the reach and effectiveness of your marketing efforts. By advertising a loss leader product through a sale or coupon, you can track a range of customer actions, helping you justify your marketing expenses with hard data.
For more about loss leader strategy and other pricing strategy tips, check out our article: 14 Types of Product Pricing Strategies for Retail.