Understanding the Impact of Welcome Codes

Most brands offer welcome discounts to encourage a customer's first purchase. However, few take the time to analyze whether these discounts ultimately help or hurt profitability. Let's explore how to evaluate the impact of welcome codes and assess their long-term financial effects on your brand.

Origins of Welcome Discounts

Welcome discounts were initially popularized by multi-brand e-commerce sites, such as NET-A-PORTER. These retailers often had agreements with brands that restricted them from adjusting individual product prices or offering specific discounts. To work around these limitations, they introduced welcome discounts on a customer's entire cart —aiming to attract more new customers and gain a competitive advantage.

Downsides of Welcome Discounts

DTC brands later adopted this strategy, believing it could deliver similar results. But at what cost? Many cite benefits such as increased email subscriptions and higher first-order conversion rates as key reasons for offering welcome discounts. While these advantages may be valid, it's important to consider the significant downsides as well:

• Conditioning Customers
  Customers who purchase directly from a brand do so out of conviction. As a brand, you hold pricing sovereignty—your products cannot be found cheaper elsewhere. However, offering discounts from the very first purchase conditions customers to expect reduced prices. Once customers associate your brand with frequent discounts, they are less likely to buy at full price. This behavior negatively affects their LTV and undermines your brand's profitability.
  
  
• Punishing Loyal Customers
  Repeat customers often encounter pop-ups, chatbots, or banners promoting discounts exclusively for first-time buyers. This can feel like a penalty for their loyalty, discouraging them from purchasing without a discount or prompting them to sign up with a different email address.
  
  
• Impacting Profitability
  Welcome codes are not discounts on sales, but on profit! Welcome discounts reduce your contribution margin, not only on the first order but potentially on subsequent orders as well. Customers conditioned to purchase with discounts often erode your margins over time.

Profitability Impact

To understand the impact of welcome codes on profitability, let's consider the following example:

Let’s assume the brand’s average order value is $100.

• With a 10% welcome discount, the profit margin is 27%.
• Without a welcome discount, the profit margin increases to 34%.

So far, this calculation seems straightforward, right?

However, if the brand's goal is to generate $1 million in contribution profit, achieving it without a welcome discount would require nearly 30% fewer orders.

While some brands argue that welcome discounts help lower customer acquisition costs (CAC), it's essential to test this assumption and analyze the data to validate its impact. As mentioned earlier, your brand has exclusive ownership of its products. Customers visiting your website already exhibit strong purchase intent. Since they cannot buy your products elsewhere, offering a discount may not be necessary to convert these visitors into buyers.

Also, reducing CAC through a welcome discount may balance the first-order contribution profit, but the long-term impacts on LTV and overall profitability should also be carefully considered.

In our example, the CAC of welcome code customers must be reduced by 40% to offset the loss of profit:

Assessing Your Welcome Discounts

Let's put this into action and evaluate how welcome discounts are affecting your brand:

1. Segment your customers
   Isolate customers who received welcome discounts from those who did not:
   
   
   
   If you'd like to refine your segmentation (for example, since customers may also use a "subscribe and save" coupon on their first order), consider segmenting by welcome codes only.
   
   
   
   
2. Analyze customer segment metrics
   • Compare the number of customers who redeem your welcome offer on the first order. Is the welcome discount as essential for driving new customer purchases as you initially thought?
     
     
     
     
   • Evaluate the segments based on:
     • Purchase Frequency
     • Time Between Orders
     • AOV
     • LTV
     • Product Return Rates
       
       
3. Test different strategies
   Experiment with offering discounts selectively, then measure the effect on overall profitability and customer behavior.