A decade ago, the U.S. economy experienced one of the most difficult recessions since the Great Depression, and the effects touched every industry, including fast-moving consumer goods (FMCG). Unfortunately, when the markets turned, many FMCG companies—manufacturers in particular—were caught off guard by the sudden rise in the cost of doing business, especially the rising cost of goods.
Now, well out of the shadows of the last recession, the cost of goods continues to rise for manufacturers. As a result, many FMCG companies are still using the same price and promotion strategies they were using to combat the effects of the economic downturn. Those tactics, however, used year after year can bring unwanted risk to your business. Here are a few things that we learned from the last economic downturn and some best practice strategies we’ve developed to implement before inflation returns.
The Vicious Cycle: Rising Costs, Price Increases, Deep Discounts, Reduced ROI … Repeat
During the recession, we learned a painful lesson about “reactivity.” At that time, the FMCG industry had been stable for a significant period, allowing trade practitioners to get by with similar pricing or promotion plans year after year. When the cost of goods went up, the industry unknowingly set off a chain of events that went something like this:
- The cost of goods went up.
- Manufacturers reflexively increased price to protect their margins—sometimes without robust analytics—and unknowingly set a vicious cycle into effect.
- As a result, brand loyalty among consumers shifted.
- Then, in an attempt to win back loyalty, these same companies overcorrected with deeper discounts and more frequent promotions that often didn’t bring in returns.
In the end, consumers grew wise to these promotional cycles. They started stocking up when deals were hot, clipping coupons, buying less per trip and visiting bulk outlets. These cycles also opened up the competitive landscape to allow room for significant private-label penetration, which gave shoppers yet another option at the shelf and contributed to private-label growth (up 2% since 2013).
Although consumers are still sensitive to price, these behaviors are not as broad reaching today as they were 10 years ago. So why are two-thirds of trade promotions still not breaking even? Let’s take a look.
Perfecting Pricing and Promotion: A Five-Dimensional Chess Game
Typically, companies formulate the price of their product by considering what it costs to make it and adding a product margin. And while this strategy may suffice in many circumstances, it is not always the best approach. It’s important to also account for outside factors such as how your strategy for one product will affect the rest of your portfolio. If you change one thing about a brand’s pricing or promotion, implications for another brand will arise.
In the case of the last decade’s recession, the industry did not account for the negative impact that price increases would have on volume or the negative impact that promotions would have on sales. At the time, manufacturers were not aware of these possible consequences because they didn’t have analytics to help them evaluate all market conditions.
Now, as manufacturers are becoming savvier about their trade spend, they’re not limiting their efforts to price hikes and promotions as they seek to protect their bottom lines and drive sales. These include “downsizing” and reformulations. When companies downsize products, they make the size of a product smaller but keep the price the same. When they opt to reformulate, they employ consumer perceptions to improve the product itself.
As change continues to shape the industry, it’s important to set up your company for financial success. To really know what is the optimal approach for driving return on investment (ROI), companies need to keep tabs on where their products are located, how they’re priced, how they’re served and, most importantly, the value they provide to consumers.
Build Pricing Strategies that Move the Needle with Consumers
When it comes to pricing, many companies typically leverage last year’s plans. While commonly used, there is a better way. To know how to move the needle with consumers, it’s important to have an understanding of how shoppers value your product and then connect that value to price. his is known as price sensitivity.
A decade ago, shoppers were willing to buy a product if it was on discount or could easily be stocked up. Today, consumers purchase products based on whether they’re of good value and quality. For example, a health-conscious consumer may consider paying more for a product if it follows “clean labeling” practices because they want to see exactly what’s in it. On the other hand, consumers purchasing over-the-counter medications may be less sensitive to price because they’re sick and can’t afford to be picky.
Five Steps to Pricing and Promotion Success
The reality is that inflation could happen any day and the cost of goods could go up again. Watch the on-demand version of our “Price on the Rise” webinar where we navigate through the ins and outs of building price and promotion strategies for a fast-paced economy, including how to:
- Develop value pricing strategies: Consider consumers’ sensitivity to price.
- Determine pricing actions: Create profit opportunities by having the right pricing strategy.
- Align price gap to private label: Be strategic in how you respond to private-label competitors.
- Re-prioritize promotions: Find promotions that are mutually beneficial to retailers/manufacturers.
- Reduce costs: Look at your supply chain to see where you can reduce operational costs.
For additional insight, download our What To Do When the Cost of Goods Goes up report.