The Discount Multiplier

Every sales rep understands that a 20% discount reduces revenue by 20%. Almost none of them understand that a 20% discount on a 70% margin product reduces profit by 28.6%. The relationship between discount and profit destruction is non-linear because costs do not discount. Your hosting bill does not shrink when you cut a deal. Your support team does not work fewer hours. Only revenue decreases — and since profit is the thin layer between revenue and cost, every discount dollar comes directly from that layer.

Profit Impact of Discounts by Gross Margin:
──────────────────────────────────────────────────
Discount    60% GM    70% GM    80% GM    90% GM
──────────────────────────────────────────────────
  5%        -8.3%     -7.1%     -6.3%     -5.6%
 10%       -16.7%    -14.3%    -12.5%    -11.1%
 15%       -25.0%    -21.4%    -18.8%    -16.7%
 20%       -33.3%    -28.6%    -25.0%    -22.2%
 25%       -41.7%    -35.7%    -31.3%    -27.8%
 30%       -50.0%    -42.9%    -37.5%    -33.3%
──────────────────────────────────────────────────
Formula: Profit Impact = Discount % / Gross Margin %

A 30% discount at 60% margin destroys
half of the gross profit on the deal.

1. Calculate the Profit Multiplier Divide the discount percentage by the gross margin percentage. That is the profit destruction factor. At 75% gross margin, a 15% discount destroys 20% of profit (15/75 = 0.20). This formula should be in every sales rep's head before they enter a negotiation. It rarely is.
2. Calculate the Recovery Revenue To recover the profit lost to a discount, you need additional revenue at full margin. The formula: Recovery Revenue = Discount Amount / Gross Margin %. A $30,000 discount at 75% margin requires $40,000 in additional full-price revenue to break even. That is a deal and a third just to get back to where you started.