Product pricing strategies can be a mystery for many businesses. Pricing is a critical decision for a business to make; the price at which you sell your products is one of the biggest determinants of your revenue and profitability. Strong price competition between grocery retailers is pushing down price expectations. The external landscape can be frightening; the number of food producers that have become insolvent in the UK is understood to have tripled over the past five years. So, what do the grocery price wars mean for your business?
How has the grocery market changed?
As the grocery and fast moving consumer goods sectors have expanded, new entrants have emerged globally, and new discount players such as Aldi have stepped up to challenge existing low price outlets like Walmart. These new entrants are adopting aggressive pricing strategies such as market competitive and economy pricing.
Market competitive pricing involves setting prices at a very low, potentially unsustainable level in order to quickly build market share. This strategy involves building customer awareness and associating value by offering steeply discounted prices on common purchases. In reality, this strategy can involve selling products below break-even and, rarely, below ordering cost (these products are known as loss leaders). Economy pricing is a similar strategy in that businesses focus on increasing market share and demand by offering consistently low prices. However, this strategy usually involves businesses charging sustainable prices – most products’ prices should cover their ordering cost, and average total revenue should always exceed average total cost.
This said, stiff price competition in the grocery sector is nothing new. ‘Mom and Pop’ grocers have long been concerned about the threat posed by large vertically integrated competitors. Walmart, one of the best examples of a price war instigator, shook up the United States grocery sector in the late 1980s and early 1990s. In Europe and the UK, chains such as Aldi and Lidl have threatened the position of mainstream supermarkets such as Tesco or Sainsbury.
How do price wars affect SME food producers?
As supermarkets attempt to beat competitor pricing, they are finding that the margins on many staple grocery items are increasingly slim. Owners and shareholders in supermarkets demand a profit on their investment, pushing grocery managers to cut their ordering cost. Food producers in a number of heated grocery markets report that supermarkets are offering lower prices and fewer guarantees than ever before. In some cases, major grocery businesses may attempt to require suppliers to make payments to secure shelf space, effectively insulating the grocery businesses from the impact of a downturn in grocery prices or consumer demand.
The impact on small businesses can be significant. Many small or medium sized food producers supply product to several main customers (typically the main supermarket chains). The threat of losing market access and the difficulty for food producers in ‘going it alone’ and selling direct to the consumer means that food producers tend to accept the terms set by supermarkets. Small businesses have relatively few options to combat supermarkets’ strongly competitive pricing behaviour. Some brands have successfully differentiated themselves from other products in the market, allowing them to continue to charge “premium” prices while other producers, especially those in craft or niche sectors, are exploring the possibility of selling direct to consumers.