Markdown Depth for Retailers: The Key Determining Factors

In the fast-paced world of retail, finding the right balance in pricing is nothing short of an artform at times. It is a precarious act, where a single misstep can lead to dire consequences. Imagine this scenario: you are a video games retailer and you’ve got a stock of ‘Baldurs Gate II,’ and they are not moving as briskly as they used to, now that the highly addictive ‘Baldur’s Gate 3’ is selling like hotcakes. A price markdown seems like the solution, but here is the dilemma – price them too low, and your profit margins take a hit, while setting the markdown too high leaves you with stagnant inventory that’s gathering dust. This tug-of-war between the desire to clear stock and the need to protect your bottom line is where the markdown depth becomes crucial. 

With more than a decade of experience, Pricefx is dedicated to leveraging retail sales data, enabling automated pricing procedures for our retail partners. Our expertise empowers retailers to adapt swiftly with close to real-time price adjustments, ensuring they stay agile and proactive in safeguarding their profitability. 

In this article, we embark on a journey to unravel the essential factors that retailers must consider when determining the optimal markdown depth, ensuring that your pricing strategy not only clears old inventory but also maximizes profitability. So, let’s delve into this delicate balance, exploring the key elements that guide pricing decisions, mitigate risks, and pave the way for retail success. 

Why Should Retailers Consider Markdowns? 

A markdown is a reduction in the price of an item (usually, but not always) due to its inability to sell for its original selling price. How much the reduction will be is defined as the ‘markdown depth.’ 

Markdowns are permanent reductions in price at the end of a product’s life; there are other reasons to reduce the everyday price (to sell more, be competitive in the market, etc.)  or to run a short-term promotion (drive traffic, clear a short-term inventory imbalance, create incremental margin, or gain funds from manufacturers, etc.). Most often, markdowns (or also referred to as clearances are intended to clear inventory which you never intend to reorder, 

The primary motivations for markdowns usually revolve around the need to tackle overstocked items, manage seasonal transitions, or create space for new product versions. Depending on your strategy, the objective of the markdown can vary.  

For instance, if it is a clearance event, the goal is to swiftly sell off existing inventory, which is a common tactic in the fast-fashion industry. In contrast, you might aim for a controlled sell-off over a specific time frame, focused on phasing out products over time.

Heading back to our initial video gaming retailer example, consider the scenario of releasing a new and upcoming PlayStation version (PlayStation 6) while still having unsold PlayStation 5 units in stock.

 

To make room for the new product and ensure a smooth transition, a well-executed markdown strategy comes into play. By offering a discount on the remaining PlayStation 5 units, you not only clear out the inventory but also lay the foundation for the upcoming product launch. 

For instance, if it is a clearance event, the goal is to swiftly sell off existing inventory. This strategic maneuver aligns with the seasonal shift while optimizing sales, thereby illustrating the importance of tailoring markdowns based on your precise retail goals.

What Factors Should Retailers Consider to Determine Optimal Markdown Depth?

How much your markdown will be is defined as the ‘markdown depth.’
But to reach the ‘just right – Goldilocks’ zone for your markdown depth there are several factors to consider. Determining the optimal markdown depth is a multi-faceted process influenced by a variety of critical factors. These variables align with your specific retail goals, whether you are aiming for a swift clearance event, controlled sell-off, or a balance between maximizing profit and inventory turnover.

Let’s delve into the key factors that significantly shape the determination of optimal markdown depth:

• Clearance Goals: Markdowns often target clearing out overstocked items or seasonal products. You need a clear goal, a specific clearance date, for which the markdown strategy should align. For example, imagine a furniture store with a surplus of summer-specific items like sunbeds as summer transitions into fall. The optimal markdown depth is crucial to selling these items within a specific timeframe, making space for the next season’s inventory.

• Thresholds and Markdown Ladder: Markdowns are rarely applied with specific percentages like 7.19% directly on the shelf. Instead, you most often move within markdown “ladders,” such as 5%, 10%, 20%, and so on. These thresholds impact the visual discount customers see. Balancing these thresholds based on your strategy is vital, whether you are aiming to rapidly sell items or maintaining profitability.Check out the handy article below to learn more in general about pricing ladders in the retail industry.

• Inventory Level and Age: Consider how much inventory you have and how long it has been sitting on the shelves. The age of inventory influences the depth and frequency of markdowns, especially as customer demand shifts over time.

• Product Demand Patterns: Customer behavior can differ significantly based on factors like urban versus countryside locations, seasonal trends, or market events. Understanding these patterns allows you to tailor markdowns for specific stores and assortments. For instance, sunbeds might be a hot commodity in summer months in rural areas where houses with gardens predominate but less relevant in urban settings where apartment living is the norm with little outdoor space for sunbeds.

• Market Trends and Competition: Keep an eye on market trends and competitor pricing. Your markdown strategy should reflect your position in the market. Pricing too high compared to competitors could hinder the effectiveness of your markdowns.

• Profit Margin and Business Goals: Consider your overarching business goals. Do you aim to sell off items at any cost, or do you prioritize profitability while extending the clearance period? Balancing these objectives is crucial to ensuring your markdown strategy aligns with your business’s financial goals.

• Assortment Goals and Category Management: Your assortment strategy directly impacts markdown decisions. Category managers and pricing managers collaborate to determine the best approach. Assortment goals, from store-specific items to broader brand strategies, play a significant role in crafting effective markdowns.

• Channel Strategies: Markdowns can differ based on your sales channels. Online markdowns may be more subtle, while in-store discounts are typically more straightforward. Tailor your markdown approach to each channel’s preferences and customer behavior.

Navigating these complex factors requires a delicate balance to optimize markdowns for each unique situation, enhancing profitability while meeting your retail objectives.

How Can Pricing Software Assist in Determining Appropriate Markdown Depth & Cadence?

Pricing software is a formidable ally for retailers striving to strike the perfect balance when determining the appropriate markdown depth and cadence. It acts as a powerful data-driven decision-making tool, considering a multitude of factors that influence markdown effectiveness. Let’s explore how an efficient pricing software solution assists retailers in navigating this complex terrain:

• Variable Inputs and Granularity: Retailers have different strategies for markdowns. Some may prefer gradual reductions, while others opt for a few significant discounts. For example, you might implement a 10% markdown for 1 week, 20% for the next two weeks, and 40% for the last week. Pricing software allows retailers to input their preferred markdown ladder, the number of markdown steps, and the timing between them. This flexibility ensures that retailers can align markdown strategies with their inventory, customer behavior, and business goals.

• Demand Patterns and Elasticity: Pricing software enables retailers to analyze demand patterns comprehensively, including price elasticity, a crucial factor in understanding how price changes impact customer behavior. By considering elasticity, the software assists in setting appropriate markdown percentages. For instance, if historical data indicates that a 10% discount led to a significant increase in sales, the software can recommend similar strategies for specific products or categories.

• Market-Specific Factors: The software does not operate in isolation; it considers market dynamics such as seasonality, special events (e.g., Black Friday), and regional variations. These factors heavily influence customer buying behavior. Imagine a retailer planning markdowns for winter clothing. The pricing software may recommend deeper (or shallower) discounts around the holiday season, aligning with increased customer demand.

• Store Specific Schedules: Retailers may find they have different levels of inventory, and consumer demand, at each store.  The software can recommend different markdown schedules by store, region, zone, or chainwide.  The user should have control over the level of granularity at which the software recommends the schedule.

• Integration of Historical Data: Pricing software leverages historical transactional data, including previous markdown performance and promotional success, to make informed recommendations. If a specific product historically sells well during mid-season markdowns, the software can suggest similar strategies for comparable items.

• Accurate KPI Calculations: The software crunches the numbers, combining user-defined parameters with historical insights. This integration results in accurate Key Performance Indicators (KPIs) that guide retailers in making educated markdown decisions. These KPIs encompass factors like stock levels, stock turnover rates, pricing elasticity, and more, providing a comprehensive view of the impact of markdowns.

User Control and Prediction: While the software provides data-driven recommendations, it also empowers users with manual override capabilities. Retailers can fine-tune the suggested markdown strategies based on their unique insights or specific goals. Moreover, the software offers predictive capabilities, allowing users to forecast the actual outcomes of the recommended markdowns.

Choosing the Right Pricing Software

Now you know that in the fast-paced and competitive retail environment, pricing software like that offered by Pricefx is an indispensable tool that helps retailers adapt, make data-driven decisions, and determine the most appropriate markdown depth for you and your business at each step in the process. By seamlessly integrating variables, historical data, market trends, and user input, this software ensures retailers strike the right balance between maximizing profit, inventory clearance, and meeting customer demand.

But if were only that simple. Now you have identified that you need pricing software, you need to discover – what to do – but critically also – the mistakes to avoid in choosing pricing software.

Before discovering the right pathway, learn all about the mistakes to avoid in setting sail on your pricing software adventure in this handy article below:

On the other hand, if you have already had these honest and frank internal conversations in your organization and you are looking to get started with Pricefx, talk to one of experts today.