Loss Leader

What is a Loss Leader?

A loss leader is a product or service sold at a price below its market cost. Loss leader pricing is designed to bring in customers with the hope that they will either make additional purchases of profitable items or become long-term customers one they’re introduced.

Most of the time, you’ll see loss leader pricing in one of the following industries:

• A new video game console sold at a discount price, with the expectation that customers will also buy games and accessories at full price.
• A popular grocery item, such as milk or bread, sold at a low price in the hopes that customers will buy more than just that while they’re in the store.
• A restaurant offering discounted appetizers or drinks to attract customers who will order more expensive entrees (and return if they like the food).

The loss leader strategy is particularly useful if you’re entering a new market and want to build a customer base as quickly as possible. It’s an easy way to get eyes on your product and away from the competition.

That said, that same quick start can be a double-edged sword. You’ll have significant losses if customers don’t ever buy additional products at full price, or if they’re unwilling to pay a higher one later. It can also be predatory if it harms smaller competitors who can’t afford to match the prices.

Synonyms

• Introductory pricing
• Loss leader pricing strategy
• Penetration pricing

Purpose of a Loss Leader Pricing Strategy

Loss leader pricing refers to the practice of selling a product or service at a loss in order to attract customers. When your pricing strategy is essentially “sell at a loss now, profit later,” the obvious purpose of using it is to increase your customer base and drive sales in the short term.

Customers generally want to feel like they’re getting a good deal, and they’re reluctant to try new products until they’ve proven their value. That’s where a loss leader comes in — it eliminates some of the risk of trying your product and gives them a reason to give it a chance.

Introductory pricing is commonly part of a go-to-market (GTM) strategy. And using the loss leader item alongside complementary products or services boosts sales and drives customer loyalty.

There are, however, other reasons to use the loss leader strategy:

• Brand awareness
• Upselling opportunities
• Clearing excess inventory
• Testing a new market or product
• Collecting customer data
• Developing a competitive advantage

In terms of retail and ecommerce, the increased traffic a loss leader product generates can also lead to impulse buys. Once customers are in the store or on the website, they are exposed to a variety of other products that may catch their interest. This exposure can lead to unplanned purchases, boosting overall sales.

Types of Loss Leader Pricing Strategies

Of course, loss leader pricing entails selling a product or service at a loss. But there are several different ways to do this.

Temporary vs. Permanent Loss Leaders

Temporary loss leaders are products sold at a loss for a limited time to attract customers and stimulate sales. They are often used during special promotions, seasonal sales, or specific marketing campaigns.

Examples include:

• Black Friday deals
• Clearance sales
• Holiday promos

The goal with these types of loss leaders is to create urgency and drive immediate traffic to the store, increasing overall sales during the promotion period.

Permanent loss leaders are consistently sold at a loss over a long period. In these cases, the lack of profitability is part of the strategy — the goal is to attract customers with the low prices and make up for it in other ways, such as through upselling or repeat purchases.

Examples include:

• Everyday low pricing on staple items like milk, bread, or eggs
• The Amazon Kindle, which is sold at a loss to encourage customers to purchase e-books
• Printer companies that sell printers at a loss but make up for it in ink cartridge sales

Bundle Components

Product bundling is a common strategy where a business offers a discount on a bundle of complementary products or services — for example, offering a free phone case with the purchase of a new smartphone. The goal is to add perceived value to the purchase and encourage customers to buy more products at once.

It can also be used as a loss leader strategy. By offering a bundle at a discounted price, customers are more likely to purchase multiple products in one go. And even though the individual items may be sold at a loss, the overall sale is still profitable.

This approach is especially valuable if a product with already low margins complements another with higher margins. The higher-margin product essentially offsets the loss of the other while driving up sales volume and purchase value, resulting in a profitable sale overall.

Leader Pricing

Leader pricing is a strategy in which a brick-and-mortar or online retailer offers lower prices on popular or high-demand items in the hopes of attracting customers to their store. Walmart’s price-match guarantee is a form of leader pricing.

While these items may be sold at a loss, they aren’t always sold at a loss. And their product catalog is so massive that the majority of customers buy other products anyway. In these situations, the small loss from one item is made up for in overall loyalty, since they’re making the entire purchase (and future ones) at that store.

Leader pricing works well when companies have a large product library, economies of scale, and market themselves as the kind of company that “always has the best prices.”

Inventory Clearance

Some temporary loss leaders do so to clear out old inventory. Carrying costs amount to between 20% and 30% of total revenue. At some point, it’s better to make at least some money off an item than to keep storing it.

This is especially true in fashion, where styles change quickly and items are less desirable just one season later. While the initial loss may seem significant, it’s often a more affordable option than keeping old inventory that’s decreasing in value.

Psychological Pricing

There are multiple types of psychological pricing that go hand-in-hand with the loss leader business strategy.

A few of the most common are:

• Price anchoring, by placing the loss leader next to profitable products that are significantly better in features or quality
• Charm pricing, where the item is priced just under a round number to create the perception of a “good deal”
• Bait and switch tactics, where customers are lured in with low prices only to find out that the product is sold out or not as advertised, with the hope that they will still make a purchase
• Decoy pricing, where three different products are offered at various price points to influence customers towards the most expensive option

Free Samples

Offering free samples is a classic marketing strategy that can also be used as a loss leader. By giving customers a taste of the product (literally), they are more likely to buy it and potentially other products from the company.

This approach is especially valuable for food, beverage, and beauty companies that have high-quality products that may be priced higher than their competitors. Giving away small portions for free allows potential customers to try before buying and increases the chance of a sale. The loss from the samples is made up for in the potential future purchases and brand loyalty that can result.

Subscription Models

In the subscription business model, it doesn’t make sense to price your product beneath the profit margin. In fact, it would be impossible to sustain a subscription business long-term with this approach.

There are, however, a few loss leader strategies you can implement for your subscription-based business:

• Offering a free trial period of 7, 14, or 30 days
• Discounting the first month of subscription
• Offering other services for free (e.g., a dedicated account manager for a high-ticket SaaS offer)
• Incentivizing longer-term subscriptions by discounting annual or bi-annual payments

All of these strategies can lead to a loss on the initial sale but have the potential for longer-term profitability as customers continue to subscribe and potentially upgrade their plans.

The Risks and Rewards of Loss Leader Pricing

Like any business strategy, there’s an upside and downside to being a loss leader. You’ll have an easier time bringing in customers, higher sales volume, and faster inventory turnover. Done right, you’ll also potentially boost customer loyalty.

Having a well-positioned loss leader offer also lowers marketing costs. When it’s easier to convert customers, you have to do less legwork overall.

But there are downsides you cannot ignore.

Cherry Picking

One of the biggest risks is that customers may only purchase the loss leader items without buying additional products, leading to direct financial losses. While this is bound to happen with a few customers, it happening with the majority can create serious profitability issues.

Tarnished Brand Perception

Deep discounts might harm how customers perceive your brand. They might see the discounted products as lower-quality. Or, they’ll become accustomed to paying that price and won’t buy the products at full price in the future.

Legal and Ethical Issues

Loss leader pricing is restricted or banned in some regions (including Australia, most of the U.S., and several European countries) due to its potential to be used as a predatory pricing strategy. It can unfairly disadvantage small businesses, which cannot afford to match the low prices set by larger competitors​.

Stocking Issues

Poorly planned loss leader promotions can lead to stock shortages. If the demand for the loss leader item is higher than anticipated, your store might run out of stock before you can meet the increased demand. If this happens, you have frustrated customers and potentially lost sales on other items​.

Examples of Loss Leader Pricing

To help you understand the concept of loss leader pricing, let’s take a look at a few real-world examples from different industries:

Amazon Kindle

Amazon uses its Kindle eReader as a loss leader. By pricing the Kindle device below cost, Amazon draws readers into its ecosystem, where they generally continue purchasing digital books. Since e-books are practically free to distribute, Amazon easily makes up for the loss on Kindle sales through book sales.

This strategy not only boosts sales of digital books but also encourages Amazon Prime memberships, further integrating customers into Amazon’s ecosystem.

Gillette Razors

Gillette famously used a loss leader strategy with its razors. They would sell the razor handle at a low price, sometimes even giving it away for free, with the expectation that customers would continue to purchase their high-priced razor blade refills.

Microsoft Xbox

Microsoft loses up to $200 on each Xbox the company sells. The rationale is to attract gamers to the Xbox platform where they will then buy higher-margin video games and accessories. Just like kindles and e-books, selling a digital product (video games) at high margins makes up for the loss, and then some.

Costco Food Courts

Although it isn’t profitable, Costco co-founder James Sinegal famously threatened then-CEO W. Craig Jenilek with death over his suggestion that they raise the price of the $1.50 hot dog and soda combo at their food courts.

While this is good marketing in itself, the reason for keeping the price so low is to encourage customers to come into the store and potentially make more expensive purchases. Affordable food prices bring plenty of foot traffic into local Costcos that wouldn’t otherwise be there, and the company can make up for the loss through its standard product sales.

Chevrolet Corvette

When Chevrolet first introduced the Corvette in the 1950s, it was meant to be an image-builder. The goal was to draw people into the store to look at the beautiful sports car, even though they knew they couldn’t afford it. While they were there, they’d settle on one of the brand’s regular-priced offerings.

Grocery Store Items

Grocery stores often use loss leaders to attract customers. The most common ones include:

• Milk
• Eggs
• Beer
• Paper products
• Soda
• Bananas (especially in areas far from the source)
• Frozen turkeys (around the holidays)

At the grocery store, a loss leader product is usually advertised (otherwise, how would shoppers know it’s a good deal?). It’s also located at the back of the store, to get customers to walk through the entire store and potentially purchase more items.

Advantages and Disadvantages of Loss Leader Pricing

As a business strategy, being a loss leader is not without its pros and cons. Here are a few advantages and disadvantages to consider:

Advantages

• Attracts new customers who also purchase higher-margin items
• Lower marketing costs as customers are more easily converted into buyers
• Competitive pricing against larger companies
• Builds brand recognition and loyalty
• Validates your product and brand position in the market

Disadvantages

• Potential loss of profits if customers only purchase the discounted product and nothing else.
• Damage to brand perception, company image, and willingness to pay
• Legal and ethical issues, depending on regional restrictions and overall execution
• Price wars with competitors
• Poorly planned promotions that lead to stock shortages

Best Practices for Using Loss Leader Pricing

To get the most out of a loss leader approach, use the following best practices:

1. Pick the right type of product.

Only certain types of products work as loss leaders. These are:

• High frequency and essential goods. Supermarkets use staples like milk and bread as loss leaders to drive regular customer visits. This boosts the chances of buying higher-margin items in the same trip.
• Complementary products. Use loss leaders with complementary high-margin products. For instance, sell a printer at a loss to drive profitable ink and paper sales.

2. Create urgency around promotions.

When you have a promotional offer, market it as “limited-time” to give customers a sense of urgency. Let them know they won’t be able to get the same offer if they wait too long. You can also use flash sales to attract customers quickly.

3. Place your items strategically in the store.

For brick-and-mortar retailers, stock loss leader items at the back of the store so customers walk past other products. This way, their chances of seeing something else they like once they’re in a “buying mood” are much higher.

In online stores, highlight complementary products during the checkout process, and include suggested complementary items on each product page.

4. Keep an eye on margins and profits.

Since profit margins are often the tradeoff for being a loss leader, you need to constantly look at whether your strategy is profitable.

To create guardrails, you could:

• Implement a minimum purchase requirement
• Limit the number of units sold at a discounted price
• Set an expiration date for the promotion

You also need to look at sales of your higher-margin products. Are they bringing in enough sales revenue to make up for the loss leader?

5. Verify the ethics and legality of your strategy.

Ensure that the loss leader strategy complies with local laws and regulations. In some regions, selling products below cost is forbidden by law.

Also, avoid using loss leader pricing in a way that could harm competitors unfairly. The goal should be to attract customers and build loyalty without engaging in unethical competitive practices.

6. Improve the customer experience through fair prices.

Use loss leaders to improve the overall shopping experience. For instance, free samples or trial packs can introduce customers to new products and encourage future purchases​.

You should also combine loss leader pricing with loyalty programs to retain customers. Offer additional rewards or discounts to encourage repeat business and long-term loyalty.

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