The process of pricing products correctly is vital to a company’s bottom line. Yet price-setting is not always a high priority, nor is it the specific responsibility of a single department within a company. This phenomenon can be observed across industries, ranging from health care and consumer goods to telecom and finance. Marketing is sometimes in charge of pricing, while in other cases finance assumes the task. When a company does not have a defined pricing strategy, as is often the case, no one is accountable for pricing decisions.
The four Ps of marketing are familiar: product, place, promotion and price. Marketing’s ownership of, or at least involvement with, the first three is a common arrangement, but pricing is not ordinarily included. This may be because the first three seem to be more appropriate tasks for a person with a creative marketing background, while price is considered a quantitative issue, more suitable for someone who enjoys analyzing spreadsheets. This view may explain why finance is so often the default choice to make decisions about pricing. However, if a pricing strategy is to make sense, it must work for consumers or they will stop buying the product. If this happens, it will not matter if a price satisfies a theoretical profit model. Decisions about any of the four Ps should always be focused on consumers. There are three major reasons why marketing and marketing research should take ownership of the last P of marketing.
1. Market research understands the state of the market, particularly in terms of communication with consumers. Pricing is an element of brand communication and must be in sync with the primary message. Communicating luxury through advertising while pricing at a discount would be a serious error. Communicating value and charging a premium would obviously be even worse. There is an argument to be made for allowing profitability restrictions to determine how a product is priced, but it is also important to consider consumer reaction to a price or a change in price. Ad hoc research is frequently necessary to assess consumer responses to the launch of a new product or to predict the effects of a price increase on consumer interest. Mark-ups and profit margins are part of any calculation of theoretical profitability, but neither can provide any information about the likelihood that your customers will switch to a lower-priced competitor.
2. Building on the first point, retail sales are moving online, and the online environment is subject to much faster change than traditional brick and mortar. Decisions of all kind must be made quickly, including how products are priced. Digital and real-time conditions are driving real-time pricing moves. Therefore, pricing decisions should be made by those who observe and understand the digital consumer, and marketing has the most information about this consumer. With access to big data, more intuitive analytics tools, and other monitoring avenues such as Web traffic and social media means, marketing is able to continuously tap into the experiences of consumers.
3. Control of pricing will turn marketing into a profit center. All of the other Ps involve risks but rarely yield significant returns. Optimized pricing can make a tremendous positive impact, especially in a highly competitive market. While big data analysis has become the central element of pricing over the last five years, historical data in isolation is an insufficient basis for modeling. Customer opinions remain important and are accessible through customer panels, surveys, and even mobile phone apps, among other options. The combination of contemporary and traditional pricing methods will generate insights that represent the best of both worlds.
It is, of course, beneficial to draw upon all the expertise within a company. It is also important to perform the back-end calculations that ensure that sales are profitable. That said, marketing should take the lead in creating a pricing strategy that puts consumers first as part of a larger cohesive strategy.
Markets have changed
A product portfolio may include many items that address a diverse assortment of consumer needs. Some of those products will perform well, while others may not. In many cases, markets have evolved since a portfolio was first assembled and a strategy initially outlined. Pricing changes have probably occurred in the category during this time as well, possibly made necessary by changes in the cost of goods.
Because markets are constantly changing, brands must continuously reevaluate, adapting portfolio strategies to maintain positioning and progress toward financial goals. Portfolio adjustments have consequences in both the short and long terms, so examining all options and the pros and cons associated with each, is necessary to make the best choice. Marketers have a unique position within the organization, and their perspective is a critical element in informed pricing decisions. Among other contributions, marketers can help brands avoid making these common strategic errors.
Mistake #1: Relying too heavily on trade promotion. Trade promotion is one of the most important drivers of volume in most fast-moving consumer goods (FMCG) categories and can be incredibly useful in moderation. It can be quickly activated (especially in the case of temporary price reductions), and it often drives significant volume peaks. Because of its high visibility and close proximity to the point of sale, it represents a strong link between execution and sales. However, it does involve risks.
First, consumers may expect a sustained promotion price to continue indefinitely, causing some to protest when prices return to pre-promotion levels. Trade volume may be far less incremental than it first appears. The promoted product may exhibit a strong sales growth during the promotion, but the increase often comes at the expense of other products in the same portfolio. Consumers may transition down from higher-priced tiers and never return. Consumers stocking up on sale items may constitute another deceptive source of lift, creating a short-term bump that subtracts from future volume.
Addiction to pricing promotions may train consumers to delay purchases until the product is on sale. The promotional price thus becomes the de facto permanent price. It is difficult to use models to predict the long-term effects of promotions, but experience teaches marketers to expect future consequences.
Mistake #2: Cutting off the incremental assortment tail. Removing products that perform less well from a portfolio creates shelf space for new products. However, a focus on sales rate may obscure the product’s incremental contribution to the portfolio.
A better strategy is identifying the comparable items within the portfolio. Delisting an item that closely resembles another portfolio offering will likely shift sales to the latter one, since either product would probably meet the same consumer need.
Most marketers know adding a close-in line extension does not attract a new audience. Instead, it usually cannibalizes the base business. However, some overlook the fact that incrementality is also involved in the delisting process. Most purchasers of a close-in line extension that is delisted will flow back to the base business. On the other hand, discontinuing a small but incremental platform would be expensive, and consumers might turn to competitors or away from the category entirely.
Mistake #3: Disregarding price thresholds. A brand risks losing sales when a price is raised and particularly when that price crosses a certain threshold. This psychological barrier is the reason why many end in 99 cents instead of being expressed in even dollar amounts. Marketers find this idea relatively straightforward and intuitive. However, it is also important to consider competitive context. A price can be viewed from two perspectives, in absolute terms and in terms of the gap between it and the prices of competing products.
No brand exists in a vacuum. When a brand evaluates a new strategy, it must consider the impact it will have on the category as a whole. For example, increasing the price of a top seller might sacrifice some unit sales to drive margin. A large increase in price might actually reduce the number of consumers who even walk down the aisle, hurting sales across the entire category. Before implementing a strategy, consider its possible unintended consequences.
Mistake #4: Forgetting who stands between you and your customer. CPG manufacturers often invest a great deal of time, money and resources optimizing a portfolio but fail to consider the priorities of retailers. When a manufacturer conducts pricing research, it often focuses on the purchaser. This is appropriate but insufficient. The retailer is a key stakeholder in the center of the relationship. If retailer interests are not addressed, all the effort invested in a new strategy may prove to be ultimately irrelevant.
A brand must think through the effects of changes to its portfolio on the overall category for the retailer. If a scenario benefits both the brand and the category, the retailer is much more likely to be enthusiastic.
Retailer consultation is especially difficult in developing markets, where distribution can be highly fragmented among many small, privately owned businesses. In this situation, the brand should anticipate retailer responses to changes in wholesale pricing, bearing in mind the fact that small retailers may offer products at straightforward, rounded price points. A price increase to the retailer that seems small from the brand’s perspective may produce an unintentionally drastic price increase for the consumer.
Mistake #5: Changing size without considering value. In the eyes of the consumer, less is ordinarily less. But sometimes less is experienced as more. Conventional wisdom tells us that any reduction in size that is not accompanied by a lower price can alienate customers, especially if the change is visually noticeable. But sometimes a profit-enhancing “downsize” can be framed as beneficial to the consumer, as in the case of convenience packages.
A reduction in size may be less obvious to consumers than a price change. This approach also allows a product to stay within its promoted price group, simplifying implementation. At best, consumers may notice the loss in value. At worse, customers may feel like they’re being cheated.
However, if the brand can add another kind of value to the consumer experience, customers may be willing to pay more for a smaller quantity with added benefits. In the snack category, convenience packs are ordinarily more expensive by volume than their corresponding base items. However, these packs are easier to transport and reduce the likelihood that an unconsumed portion will spoil, so consumers happily pay the premium.
This phenomenon is not limited to the snack foods industry. Despite the fact that coffee pods and their companion devices cost many times more per serving than other methods of preparing coffee, they continue to grow in popularity. The convenience of preparing a hot cup of coffee with the push of a button justifies the price differential.
If a pricing strategy is to succeed, it must work for consumers. The best way to achieve that goal is to ensure marketing participation in portfolio decisions.