Question: How do clothes shops make profit when they offer big discounts?

Readers Question: How do fashion retailer make profit when they offer high discounts during sales?

Everyday I walk past a leading fashion clothing shop. It seems they are always very quiet except during sales periods. During sales, you can see prices discounted by 50% to 75%. How do they make profit?

Firstly, the profit margin for fashion retailers is likely to be very high. They deal in low turnover, so when they make a sale they need a hefty profit margin. I would guess they have a profit mark-up of around 75% (This is a guess, but, it’s going to be high). Therefore, even if they sell clothes at 50% discount they are still making a reasonable profit.

Secondly, they probably factor in the fact that the majority of their sales are going to come through selling their clothes at a discount. Charging a very high price in the first place enables them to:

• Give the impression their clothes are high quality. (consumers equate higher prices to better quality)
• Sell to customers who have a very price inelastic demand and are not bothered by very high prices. Therefore, firms get the best of both worlds, they gain consumer surplus from those customers with inelastic demand, then they sell a higher quantity to customers who are more price sensitive.

Another way of thinking about this question is would it make any sense to introduce the clothes at sales prices rather than put them high then cut?

No, customers are used to the idea of sales. Some customers will only buy if clothes are in sale. They get satisfaction from feeling they have saved 50%. If they just get the sales price straight away they don’t get that same chance of achievement.

One issue is that it is difficult to objectively put a value on clothes. It’s easy to measure the price of food like bread. But, clothes can vary in price a lot. There is often a feeling a higher price means the clothing is better quality.

A final issue is that of getting rid of surplus stock. Fashion retailers will want to introduce new stock twice a year. They can’t keep last years season for ever. It is better to sell at a discount of 80% and get something for the clothes rather than hang on to the clothes.

You may think that 80% discount may discourage people from buying – why not wait until they fall 80%. But, if you go into an 80% sale, invariably the clothes are always in awkward sizes and nothing fits you. If you definitely want to get that item, you have to pay full price.