Definitions

loss-leading

Loss leader

A loss leader or leader (also called a key value item in the United Kingdom) is a product sold at a low price (at cost or below cost) to stimulate other, profitable sales. It is a kind of sales promotion, in other words marketing concentrating on a pricing strategy. The price can even be so low that the product is sold at a loss. A loss leader is often a popular article. Sometimes leader is now used as a synonym for loss leader and means any popular article, in other words one sold at a normal price.

Sales of other items in the same visit

One use of a loss leader is to draw customers into a store where they are likely to buy other goods. The vendor expects that the typical customer will purchase other items at the same time as the loss leader and that the profit made on these items will be such that an overall profit is generated for the vendor.

Loss Lead item is a better way describe the concept. In that the item offered for sale is intended to lead to the subsequent sale of other items; the sale of which are achieved in greater numbers, or greater profits, or both, than would otherwise be possible without the offering of the loss lead item(s). Normally the item is offered at a price which below, not its cost; just below its minimum profit margin, or the minimum profit margin of all items which are offered for sale by the firm. The firm endeavors to maintain a current analysis of its accounts for both the loss lead and the associated items, to ensure that it monitors the effectiveness of the scheme in as near to real time as possible, thereby never incurring a net loss in overall transactions.

An example is a supermarket selling sugar or milk at less than their cost to draw customers to that particular supermarket.

Marketing academics have shown that retailers should take both the direct and indirect effect of substantial price promotions into account when evaluating their impact on profitability. To make a very precise analysis one should also include effects over time since deep price promotions may induce stockpiling, which may invalidate the effect of such product associations, typically discovered by association rule analysis.

When automobile dealerships use this practice, they usually offer at least one vehicle below cost and must disclose all of the features of the vehicle (including the VIN). If the loss leader vehicle has been sold, the salesperson has no choice but to try to sell another vehicle at regular price. If someone is not the first person at the dealership when there is a "1 only at this price" vehicle for sale, it is not likely that he or she would find the car at that price near the end of the day. This practice is a form of deceptive advertising and is illegal in some jurisdictions. It falls under the strategy of bait and switch deception tactics. Loss leader vehicles are typically new vehicles and they are almost always base models that do not bring much profit to the dealership. However, at the end of the month, provided sales have been good, the manufacturer may choose to give the dealership bonus money. If the dealership is a certified dealership, e.g., Ford "Blue Oval Certified," part of their advertising funding will come directly from Ford. This bonus/ad money will often be used to pay for the loss of profits with the loss leader. Loss leaders help generate lots of foot traffic at vehicle dealerships.

Automobile dealerships also are in the practice of selling regular-priced vehicles at a loss following negotiations with the customer while operating as a bank, generating profits from in-house financing.

Characteristics of loss leaders

  • A loss leader may be placed at the back of a store, so that purchasers must walk past racks of other displayed goods which have higher profit margins.
  • A loss leader item is usually a product that customers purchase frequently—thus they are aware of the usual price and that the offered price is a bargain.
  • Items offered as loss leaders are often very limited in number, which discourages stockpiling by customers. A retailer must subscribe to this method of selling on a regular basis in order to compel customers to make repeat visits.
  • The retailer will often set limitations on the quantity that one purchaser can make (e.g., "limit 4") and/or require a minimum dollar purchase before the sale price becomes valid (e.g., "limit 1 with $10 purchase").

Sales of related items over time

The razor and blades business model, pioneered by American businessman King Gillette, is similar to the loss leader business model. Razor handles are given away for free or sold at a loss, but sales of disposable razor blades are very profitable.

This practice is commonly used with video game console makers that sell their console units at very low margins, or even at a loss, to achieve a higher market share. They rely on profits from software sales where the markups are considerably higher. They also receive licensing fees from third party software companies. Microsoft has used this technique with the Xbox and Xbox 360. Sony has done the same with the PlayStation 3 and its predecessor, the PlayStation 2. Nintendo's Wii is sold at profit, however, owing to its less powerful CPU and lack of DVD movie support. Typically, as a console ages, the price of its constituent parts drop. Console manufacturers can use this to either generate a profit per unit, or to fund a price drop, which may make the console a loss leader once again.

In 1979, American businessman Earl Muntz decided to sell blank tapes and VCRs as loss leaders to attract customers to his showroom, where he would then try to sell them highly-profitable widescreen projection TV systems of his own design. His success continued through the early 1980s.

Inkjet printers are also often sold to retail customers below their true value and could also be viewed as loss leaders. Some of the printers, especially the entry-level models, are sold at a loss-leading price which seems apparently affordable to most consumers, but they pay the regular price for ink cartridges and specialty papers supplied by the manufacturer.

Cell phones are offered for free or at a low cost to subscribers in exchange for entering a contract that is typically one or two years. The carriers profit by retaining customers for a longer period of time, and this offsets the hundreds of dollars lost on the cost of the phone itself. These artificially lowered prices make it impossible for standalone devices and unlocked handsets to compete.

Gasoline is often considered a loss leader for the convenience stores and service stations attached to them, especially when the crack spread is close to zero or even negative. These stores rely on sales of food products and other items that bring higher profit margins. The opposite model sometimes used is to sell loss leader cigarettes and overpriced petrol and/or foods and beverages.

While albums are sold at a profit by publishers, many of the musicians contracted to create their contents gain little or no monetary benefit from album sales and broadcasting rights. Artists under such terms generally use music sales only as publicity for concerts, from which they earn the vast majority of their income.

Dealers who normally use "fruitshop" style trading methods – stocking small quantities of a variety of products – cannot compete with loss leaders by negotiating to buy larger quantities of consumables at a lower price because they still have to sell at a loss to be competitive.

Loss leaders can be an important part of companies' marketing and sales strategies, especially during dumping campaigns.

References

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