Do CPG Companies Really Have Control Over Pricing?
Recent news about Church and Dwight indicate they are raising prices. But which price? The end customer price? The price to the retailer? The price to a wholesaler? And how? Are they raising the end customer price or reducing discounts and rebates thereby raising the final price? Or worse, maybe they are raising customer prices but increasing discounts and rebates to leave themselves poorer. Which price and price differences can Consumer Packaged Goods (CPG) companies actually control, and what does the report of higher prices really mean?
What can a CPG control and what must be taken as a “given” from the market? Which price should a CPG use as its benchmark for comparing different channels and retailers? Which price points should a CPG attempt to manage?
It’s been said that if you can’t measure it, you can’t manage it. For some CPG companies, it is worse, we don’t even have a clear definition of what the “it” is that they are supposedly managing. Let’s fix that.
Fundamentally, there are three key prices any CPG should attempt to manage, yet reports indicate they manage none of these directly.
Aspirational End-Customer List Prices
The first price point to manage, the one which should set the “true north” for end customers, retailers, wholesalers, and salespeople alike, is the aspirational end-customer list price. In the U.S., this is often called this the MSRP, or Manufacturer’s Suggested Retail Price. In the EU, this is often called the RRP, or Recommended Retail Price.
We and others in pricing simply call it the aspirational end-customer list price because that is what it should represent: the aspirational (or best expected) price an end-customer will pay regardless of the channel. It is called the list price because this is the top-line list price for the product from which coupons, discounts, or competition between channel partners may lower the price paid by end-customers.
Any price above the aspirational end-customer price would be due to some strange issue with the specific means of purchase. Generally, end-customers will pay less than the aspirational list price. At times, due to the exigencies of the timing, place, and situation of purchase, end-customers may pay more.
For an example of charging above aspirational end-customer list prices, hotels may charge $15 for a can of Pringles in the minibar, but the aspirational price may be only $2.00. The wide variance is due to the exigencies of the hotel minibar business, and has nothing to do with Pringles nor Kellogg Company, current owner of the Pringles brand, nor the value of Pringles. It is a result of making Pringles available in hotel rooms through the minibar.
CPG companies should, unilaterally, set and communicate their aspirational end-customer list prices. This serves as a communication tool to channel partners and end customers of the value of the product. It also sets the true-north for setting commercial policy across products and channels.
Setting and communicating aspirational end-customer list prices is not the same as enforcing them. Minimum Advertised Pricing (MAP) policies and other tools may be used with an aspirational end-customer list price, but they definitely don’t have to be. Generally, CPG companies don’t enforce end-customer pricing, and it isn’t in their interest to do so.
But even if they don’t enforce it, they should identify and communicate it, because the aspirational end-customer list price is a key tool in managing the expected value proposition to end-customers
The second price point to manage is the invoice price to channel partners. Invoice prices will typically vary between channel members, and even between circumstances related to individual transactions.
CPG firms vary prices between channel members for many strategic reasons. One of the better-known reasons is related to volume, but this creates potential violations of the Robinson-Patman Act. Other reasons might relate to purchase timing or position within the channel.
For instance, one might expect the invoice price paid by a wholesaler to be less than that paid by a distributor, and the price paid by a distributor to be less than that paid by a retailer. Each different channel position may get a different invoice price precisely due to the different channel functions they provide. Similarly, one could imagine situations where the price paid by an online channel to be different from that paid by a distributor, and that offered to end-customers directly through the company website to be different than that to a retailer.
Alternatively, a CPG company might have different invoice prices to companies that order via a salesperson than those that order electronically via Electronic Data Interchange (EDI).
These different invoice prices result from, or in, different discounts from the aspirational end-customer list price.
The third price point to manage is the pocket price. Pocket prices are the prices captured by the CPG after all other forms of discounts, rebates and promotions away from the aspirational end-customer list price are considered. In the U.S., we might call this the net price. In the EU, they often call this the triple-net price. We and others in pricing simply call it the pocket price because, after taking into account all other sources of price variance, this is what the company is left with in its pocket.
Pocket prices vary greatly from invoice prices because they include rebates and promotions. Rebates paid to retailers and distributors for business performance can be significant. Similarly, logistics rebates and payment terms will drive a wedge between the invoice prices and pocket prices. These rebates reflect the strategy of the CPG firm. They also reflect areas where the CPG firm can more efficiently shift distributional activities from itself to its channel partners.
Alternatively, end-customer coupons and rebates come at a cost. A full understanding of the pocket price on a product would include the costs of these coupons and rebates in its calculation.
Aspirational End-Customer List, Invoice and Pocket Prices
These are the three key price points every CPG should manage: Aspirational End-Customer List Prices, Invoice Prices, and Pocket Prices. Unfortunately, they tend to manage none of them directly.
Instead, marketers at many CPG firms manage “Average Selling Prices.” But what is that? Is that the average pocket price or the average invoice price? (It is generally but not always the latter of the two.) And does it relate to the end-customer price?
Pricing research can measure, through consumer surveys and other techniques, the optimal aspirational end-customer list price. But going from the consumer survey data to “average selling price” at the invoice level requires a translation.
Other forms of pricing research can show, at times, the elasticity at the invoice level, and therefore a suspected invoice price optimum. But elasticity at the invoice level is by no means the same as elasticity at the end-customer level—and the two price optimums may be, at best, poorly correlated.
As for all discounts and rebates, at many CPG firms these are managed by sales. This leaves sales to tradeoff differences between discounts and rebates, promotions and allowances, and all sorts of other channel management questions. Usually, they are given a “budget” for managing these allowances.
These channel management issues of discounts and rebates can make any “price optimization using invoice data” a red herring. Moreover, the use of the “budget” may not reflect the strategy behind a brand. And, when most finance people look at the price variances, they will want to reduce them when, in fact, price variances were intended to be strategic tools to drive profitability. Unfortunately, since no-one outside of sales really understands the sources of these price variances, and the application of the budgets, these allowances may simply look like profit leaks to the rest of the firm.
Worse, treating all allowances within a budget can short-change the important conversation regarding pull-advertising budgets and push-distributional budgets. Ugh.
So instead of really managing the overall price waterfall at the end-customer, invoice, and pocket price, many CPG firms manage “average selling prices” and “allowance budgets.” It works, sort of. But sort of NOT.
When I talk to some CPG managers, they feel they have no control over allowances and cannot possibly reduce them, and they have no real control over average selling prices because the represent “what the market will bear.” Neither of these sentiments are true. Rather, they are the results of managing pricing through the wrong lens.
When I talk with some manufactured-goods managers selling through distributors to end customers that are using end-customer list prices, invoice prices, and pocket prices, they feel they have some control over prices and pricing. Specifically, they have some management over how they interact with distributional channels. This is the result of managing pricing through the right lens.
CPG companies can have greater control over pricing if they use the right lens: the lens of aspirational end-customer list prices, invoice prices, and pocket prices.