Trade promotions and discounts are a huge part of the consumer goods industry. Consumer goods companies spend hundreds of billions of dollars annually on trade programs. Yet, the return on investment on most trade dollars spent is insignificant, thus fuelling a long-standing debate regarding the effectiveness of trade promotions.
Without trying to add to the discussion, there are some considerations that practitioners should keep in mind to make better promotional decisions. Firstly, it is essential to understand what trade promotions are and why the consumer goods industry is drawn to them, given their questionable return.
What is a Trade Promotion?
A trade promotion is marketing aimed at increasing or creating demand for products based on special pricing, display fixtures, demonstrations, value-added bonuses, etc.
Why Rely on Trade Promotions?
In our line of work, we often hear clients saying:
- “I need an incremental or deeper activity to grow volume/share.”
- “We did that promotion last year! We need lapping activity plus new events.”
I call this the “salesman perspective,” it most often stems from volume or revenue targets that sales teams are tasked with exceeding. It is easy to see how this situation can get out of control and inflate the number of trade dollars being spent. This mentality often leads to unintentional consumer consequences such as “stocking up” on promotions/sales or “waiting” for promotional offers. These repercussions are worsened by price comparison technology,—which compares prices across multiple retailers—and also, retailers who offer “price matching” in their stores.
Given traditional sales mentalities and the mounting pressures of technology and competition, the incentive to improve the efficiency of promotional spend has never been greater. Many companies spend millions of dollars on trade promotion management and optimization tools, while others engage consultants to build statistical elasticity and incrementality sales models in-house. Both are great options, but before breaking out the checkbook or taking an advanced multivariate statistics course, there are some simple questions and analyses that anyone can ask and execute to make better promotional decisions. These questions and analyses are based on four promotional pillars.
The 4 Trade Promotion Pillars
Simply, depth is the level of discount that is offered. Depth is essential because too small will not drive customer purchase while too much may surrender value. For example, Best Buy has a $20 discount on an Apple iPad priced at $789.99. Undoubtedly, the number of incremental purchases of this iPad cannot be significant given the size of the discount in relation to the price and, in most cases, the iPad would have sold at the regular price anyhow. This type of cut is the equivalent of leaving $20 on the table with every sale.
Conversely, if the offer is too deep, it can destroy the perceived value of the product that exists in the marketplace. For example, Ben & Jerry’s ice cream. Almost everyone is familiar with its ooey-gooey flavours with fun names. The benefits of Ben & Jerry’s brand over private-label competitors are obvious. However, when they are promoted from $4.99 to $2.50, they are equivalently priced to their bland private label counterparts, thus diminishing their value. Do they need to give away so much value to increase sales? To help guide this depth decision, remember to:
- Use competitive benchmarks. There are no winners in a price war.
- Check the profitability. There is no excuse for negative profit.
- Ensure the brand position. Selling premium products at or below the price of private label offerings can destroy long term value.
Frequency is how often a promotion occurs. The "salesman perspective" tends to increase the frequency over time, but this is a dangerous game to play because there is no going back. Promoting too often can drive customer behaviour to only purchase when there is an offer. A classic example is JC Penny's attempt to eliminate their promotional flyers and move to an 'Everyday Price' structure. The company experienced a massive backlash from the market when customers stopped coming to their stores. JC Penny shopper's ingrained behaviour was too big an obstacle to adapt to the new 'Everyday Price' structure.
This approach also brought forward another issue, the "New Price" effect. Over time as promotion frequency increases, the effectiveness of individual offers decreases because customers eventually perceive the promotional price to be the actual price. To help guide frequency decisions, remember to:
- Use Competitive Benchmarks.
- Measure Post Promotion. Dropping volume post promo is a sign of loading.
- Track Windows/Weeks. Knowing this can help prevent promo escalation.
Promotional timing refers to the period in which the promotion occurs. Almost every industry has peak and non-peak sales periods. Determining the volume that would have been sold without a promotion, and the incremental volume because of a promotion, is the key to being successful. But, this is hard to determine without a Trade Promotion Management System, Trade Promotion Optimization System or advanced statistical modelling.
Tempering with common sense is a must. For example, a light beer brand spent thousands of dollars offering a free gym membership when buying a case of beer in the month of January. What the brand managers failed to consider for this promotion was that gyms naturally see their highest volume in January when beer sales are usually the lowest. The potential for repeat sales or customer retention was slim, considering the correlation between fitness and beer consumption. I cannot help but think the beer promotion would have been successful at a different point in the year, perhaps one with fewer fitness-focused resolutions.
To help guide the frequency decision, remember to:
- Understand Key Selling Periods. It might make sense to promote or hold prices in these periods based on what is sold regardless of promotion.
- Execute in parallel. When promoting price, try and line up to marketing spend.
Mechanism/Communication are exciting things emerging from behavioural economics. More companies are starting to test the limits of how promotions are communicated to customers. Is "Buy One Get One Free" more or less effective than "50% off" or "$2.50 off"? The goal is to increase volume lift with less investment. Unfortunately, it is difficult to understand the best mechanism and communication without statistical analysis and research tools. Exploring these ideas is best when an organization already has a good grasp on the basics of depth, frequency and timing. Some simple things to guide the communication decision are:
- Test and Learn. Try a different mechanism or communication.
- Use Best Practices. Many companies are doing this work and investing heavily. Look in the market and find some best practices.
The simple considerations around depth, frequency, timing and mechanism above are a great starting point to improving your promotional effectiveness. When analyzing results, the typical metrics of volume, share and revenue improvement are extremely helpful in identifying success. But, sometimes, these metrics are deceiving, and you need to broaden the scope of consideration to include more metrics. So, without further ado, three additional or bonus metrics to manage your trade promotions.
3 Bonus Trade Promotion Metrics
Bonus Metric 1: Portfolio Mix Impact
Portfolio Mix Impact is the normalized impact of trading customers up or down within the portfolio. For example, if a promotion switches customers from $10/unit net revenue to a $5/unit net revenue, the mix impact is -$5. This metric is important to watch to ensure cannibalization is kept to a minimum when promoting.
Bonus Metric 2: Incrementality
Incrementality is the number of sales that would not have occurred without a promotion. Incrementality helps identify the cost/benefit of a promotion – incremental contribution margin versus incremental promotional spend.
Bonus Metric 3: Margin Pool
The margin pool/revenue pool is the percentage of revenue of the total sale price. For example, if a product is sold at $5 but purchased from the manufacturer at $2, the manufacturer's revenue pool is 40%. Revenue pool helps identify the level of investment from all participants to generate incremental sales and help guide joint business planning.
In conclusion, price and trade promotions are complicated! Getting them right is not always easy and, almost everyone has a slightly different approach. For those who are not focusing on improving promotional spend, start now! You do not need a fancy system or software. Start with the basics we've highlighted above, then work to improve over time.
If you are considering trade promotions in your organization, I encourage you to work with a partner who will help you build internal capabilities, ensure you're approach is sound, and that you are hitting targets.
ABOUT THE AUTHOR Michael Stanisz is a Partner at Revenue Management Labs. Revenue Management Labs help companies develop and execute practical solutions to maximize long-term revenue and profitability. Connect with Michael at [email protected]