The economics of discounts

Discounts are considered be a major driver behind high-volume sales and acquiring customer loyalty. As some of the major e-commerce players start their sale season, we take a look at the maths behind it

E-COMMERCE SALES

IN 2007, when Flipkart — the posterboy of India’s e-commerce industry — received its first order for a book, it offered a 10 per cent discount to the buyer.

While that discount may not have been part of an effort to drive sales at the time, the online retail industry has since heavily depended on discounts as a strategy to expand its consumer base via sales which are announced every few months.

US online major Amazon, which has committed an investment of $5 billion in its Indian operations, kicked off its Great Indian Sale on Thursday, which will last till Sunday. The sale features discounts as high as 70 per cent on fashion and lifestyle products, 3040 per cent discount on home appliances, while consumer electronics including mobile phones have deals with 50 per cent discount. A company statement said on Wednesday that discounts on fashion products would range between 60-70 per cent.

Gurgaon-based marketplace Snapdeal, which is reportedly in the process of being acquired by Flipkart, also announced a two-day sale from Thursday to Friday, offering up to 70 per cent discount on categories including home furnishings, fashion and electronics.

More often than not the burden of discounts is borne through funding received from venture capitalists and private equity investors — a point raised by traditional retailers that led to the commerce ministry disallowing online marketplaces from offering price reductions on goods listed on their platforms. However, this hasn’t stopped discounted products from being available on marketplaces.

“The regulation says that marketplaces cannot fund the discounts. What the companies do is they reduce the commission they take from sellers in case of discount sales. That’s how they play a role in pricing. The platforms also ask sellers to offer discounts, and compel them later to undertake marketing expenses, delivery charges,” said Satish Meena, senior forecast analyst, Forrester Research.

A senior analyst with a domestic research firm, on condition of anonymity, said that unlike previous sales, this time around the focus of e-commerce companies would be on targeted categories. “Over the past several years, these firms have collected data of what has worked for them, and what hasn’t. At least for Flipkart, which might have recently raised money, overall finances are still tight, and it has to ensure that not a lot of the proceeds from the funding are burnt on steep discounts,” the analyst said.

Flipkart’ Big 10 Sale is scheduled to commence on May 14 and last till May 18.

“Overall, discounting is going down because of lack of funds and saturation in the market. It cannot be similar to 2014 and 2015 because platforms don’t have that kind of money now. Sales now will be targeted and logical, because now there are only two big players. Firms will focus on retaining the customers rather than having to re-acquire them over and again,” Meena concurred.

“The objective of the sale is to increase sales volumes, and the biggest sales according to value in our market right now is happening on smartphones and apparel. On smartphones the commission that they get is already on the lower side, and they further reduce it to push volumes during the three-four day period. On apparel, margins are high. This time the platforms are also pushing for home appliances, there will be some products in these categories that will have discounts so that customers come and start exploring it. Most of the volume will come from smartphones, consumer electronics, and apparel including footwear,” he added.

However, considering that the marketplaces have thousands of sellers that list their products on these platforms, they do not solely bear the brunt of discounting that goes as high as 90 per cent in certain cases. So how does one manage to buy a product with a maximum retail price of over Rs 3,000 at less than a third of its marked price?

In certain cases, a retailer explained, larger apparel brands look at clearing their stocks by themselves offering discounts. Although those price cuts do not cross a certain threshold considering the company has a brand identity to maintain. In these situations, a liquidator acquires large stocks from the company at 20-30 per cent of the original retail price. The liquidator then puts up the stock for sale at online marketplaces keeping only a small margin to clear the stock. While this stock may be an older trim of what is available in the market, the retailer said, the items may not always be defective in nature. This largely holds true for items in the apparel and fashion categories.

Individual sellers, which also may include certain smaller ones, sometimes face an issue of visibility on e-commerce platforms considering they don’t have enough firepower to offer discounts as steep as some of the larger sellers and private labels owned by the companies. A spokesperson of All India Online Vendors Association (AIOVA) said that visibility was very important for sellers, and that notwithstanding the reduction in prices on their products, the sellers also have to pay the platforms for advertising and marketing expenses.

“Sellers are being forced to give discounts, and pay money for visibility in order to compete with private labels,” the spokesperson said. The AIOVA, which is a group of 2,000 sellers on various online platforms, also wrote a letter in March to the Competition Commission of India, alleging predatory pricing by marketplaces through their private labels.

Apart from sellers, online marketplaces also get into sales agreements with brands that market consumer durables such as air conditioners, refrigerators, washing machines, etc. “This time the platforms are also pushing for home appliances, there will be some products in these categories that will have discounts so that customers come and start exploring it,” Meena said, adding that by selling online through marketplaces, the larger brands do not have to get involved with multiple channels such as distributors, retailers, and therefore end up making a better margin, which can be used for giving discounts.

In its ongoing sale, Amazon India is offering up to 30 per cent off on air conditioners of various brands, while offering up to 20 per cent discount on refrigerators. It will also sell some television brands at a discount of up to 45 per cent.

However, several consumers buying white goods online have taken to social media to complain about the difference in prices of the products available on certain marketplaces and the listed price on the specific company’s website. The aforementioned analyst said that this is called channel differentiation. “Just so that discounts can be offered, the prices are marked up. This is a traditional concept that the offline retail chain has relied on for long to create an ethos of a sale,” he said.

Meena said that while some consumers make the effort of comparing prices, most do not. “This is something very generic to retail both online and offline. Some customers may compare prices, and may end up buying offline. The platforms don’t do it across the board. They do it on products for which it is difficult to reduce the prices. There’s no way for me to compare each and every product with the offline price,” he said.

Considering that e-commerce volumes are only a part of the total retail pie, experts have also pegged that discounting strategies are expected to be in the front seat, going ahead, to drive sales. However, discounting may have mellowed down compared with the past. According to a research by Redseer Consulting, e-tailers had clocked a gross merchandise value of Rs 13,500 crore, selling more than 65 million units during the last sales that occurred during the festive season of September-october.

Flipkart’s director Smrithi Ravichandran was quoted by PTI as saying: “We have been preparing for months for this sale. It is a big event for us. During the sale, we expect about 5X of the usual number of transactions we see on our platform on any given day”.

‘Discounting is going down because of lack of funds and saturation in the market. It cannot be similar to 2014 and 2015 because platforms don’t have that kind of money now’