What Is Leader Pricing?

A successful pricing strategy is essential for any small business to survive. Incorporating profit margins and marketing strategies, pricing policies create a link between customers and a company’s finances. While many strategies and creative methods of pricing are available to retailers, leader pricing, also known as loss leader pricing, involves selling items with a reduced profit margin in hope that discounts will attract additional customers to a store.

The concept behind loss leader pricing is very simple: A retailer aggressively markets prices for goods that are much lower than typically offered for that product. At times, the store may offer the loss leader product for less than its cost. The price reduction attracts customers to the store who specifically want to take advantage of the marked-down price. While they’re there, they make additional purchases. The markup of the incidental purchases helps subsidize the losses accrued on the marked down item, and, in theory, the store sees more sales and profits because of the increased sales sparked by the marked-down price.

Leader pricing can be a component of larger marketing strategies. Many retailers use loss leaders as a means to attract new customers, offering a steep discount on a popular item to introduce customers to their store. After the price returns to normal, some of these new customers may continue to shop at the store. Other times, retailers use loss leader pricing to establish their commitment to low prices, continually advertising loss leader prices on items to reinforce the idea that they offer good prices.

A retailer that engages in loss leader pricing undertakes an amount of risk with the strategy. Incidental sales of other items must recover the losses incurred by the markdown strategy, so a company’s overall pricing strategy and sales volumes of non-discounted goods must carefully take incurred losses into consideration. Suppliers may also object to loss leader pricing, as the depressed price may cause a drop in demand at other stores in the area, affecting their ability to sell the good to other retailers.

Although no ban on the practice of leader pricing exists on the federal level, many states consider the strategy an unfair business practice. Consult your state’s department of commerce to determine if the practice is banned or restricted in your state. Additionally, you should be ready to deliver the product at the advertised price, unless you sell out of it. Deliberate failure to stock an advertised loss leader or selling it at a higher price than advertised is fraud. Your state laws may also require you to provide rain checks to customers who wish to purchase the discounted item if it’s out of stock.