Having spent the past few years cutting prices to deal with weak consumer demand, the likes of Procter & Gamble (P&G), Unilever, Mondelēz and Nestlé are now shifting strategy and upping prices, hoping improving economic conditions and a focus on innovation will convince shoppers their brands are worth the investment.
The focus on pricing was clear in consumer goods firms’ latest quarterly results. The talk was of how price rises were both necessary because of external factors, including rising commodity costs, and possible due to a growing emphasis on marketing and innovation.
Charging more for products helped both Unilever and Nestlé boost underlying sales by 3.8% and 2.8%, respectively, while Mondelēz’s net revenues declined 3.7%. P&G, meanwhile, experienced its strongest quarter in five years with organic sales up 4%.
So far, the price rises have been gentle and the effects for consumers will largely not have been felt yet. The plan at P&G, for example, is to increase the price of Pampers in North America by around 4% and on Bounty, Charmin and Puffs by 5%, with these increases coming through slowly over the rest of the year and early into 2019.
But the commitment to pass on costs to consumers signifies a change in strategy from all four, which were previously more concerned with keeping prices down to combat the rise of Amazon, as well as disruptors, and retain customer loyalty.
This pricing strategy also isn’t a short-term move, with Unilever’s chief financial officer Graeme Pitkethly telling analysts: “I see pricing being a key feature of the entire sector through the balance of the year and in 2019.”
Why is pricing so important now?
One of the ‘4Ps’ of marketing (along with product, promotion and place), pricing is a key tool in a marketer’s arsenal, yet Marketing Week columnist Mark Ritson believes it is often forgotten despite arguably being the most effective lever for driving profits. Brands often shy away from increasing prices within a competitive market so that customers don’t defect to cheaper brands and they lose volume sales and therefore market share.
Over the past couple of years, P&G in particular has tried to combat lower demand and increased competition by reducing prices. Yet Martin Deboo, a consumer goods analyst for Jefferies International, believes the big FMCG firms have overplayed the impact of market forces on their brands.
“There has been a lot of discussion about Amazon on the one hand and discounters on the other, which are squeezing pricing power out of the industry. [The Q3] results suggest that fear is overdone,” he says.
“Brands are more durable than people think and large brands losing share to small brands is dubious as long as pricing stays within reasonable grounds. Unilever has increased prices by 1% and Nestlé by 0.9%. These aren’t big numbers relative to history and won’t squeeze the consumer too hard.”
If marketers can change a brand’s comparison set then they can significantly increase willingness to pay.
Richard Shotton, Manning Gottlieb OMD
The choice by FMCG companies to raise prices now is largely due to circumstances, with rising commodity costs, inflation and foreign exchange rates all forcing their hand. The exact reasons vary slightly, with Nestlé citing higher packaging costs whereas Unilever noted the price of crude oil and the strength of the US dollar compared to other currencies.
P&G, however, believes that even without these external factors it would be able to raise prices, suggesting there is now stronger demand for products meaning it is more confident with raising prices largely thanks to lower unemployment and higher wages.
Innovation also plays a key role. P&G has shifted to an “irresistible superiority” product strategy that aims to raise standards across the supply chain, from ingredients to product to packaging. Other brands also point to major innovations that enable them to charge more, for example Unilever’s launch of a Dove-branded hair mousse and Nestlé’s introduction of new sparkling water products.
The problem with pricing
Despite the positive quarterly results, Unilever, P&G and Nestlé remain cautious as consumers are yet to feel the impact of rising prices. P&G’s chief financial officer Jon Moeller noted in this quarter’s investor call that he is expecting pricing to negatively affect volume and that “there will be volatility with these pricing moves”. But he said the company will “simply have to adjust as we go and as we learn”.
Unilever’s Pitkethly echoed this sentiment, telling analysts: “We do think that with the higher levels of pricing that are going to be required we will see a rebalancing [of revenue] toward more price and a little less volume going forward.”
Both comments point to one of the challenges around pricing: that higher value sales often come at the expense of volume sales. There is also the risk of being forced to discount more if, for example, the whole market doesn’t raise prices or shoppers cut back on spend. Retailers might also push back, as happened very publicly a couple of years ago when Unilever tried to push through price rises and Tesco suspended online sales of its brands in response.
Too much discounting has its own issues: it can lead to promotional wars, an erosion of brand equity and loyalty can drop. Promotional offers mean users focus on price and forget about the quality of the product. Also, if marketers see price as a contract with the customer, when brands discount it leaves those who bought the product at retail price with a broken promise, again meaning decreasing loyalty.
Despite these fears, if brands can reduce consumers’ price sensitivity there can be big advantages. As Richard Shotton, Marketing Week columnist, head of behavioural science at Manning Gottlieb OMD and author of the book The Choice Factory, explains, marketing and innovation can drastically change the way consumers view price.
He says: “These results demonstrate the benefits that brands can reap by reducing price sensitivity. That’s fascinating because marketers can use behavioural science to boost shoppers’ willingness to pay. The most relevant insight is ‘price relativity’, the idea that perceptions of value are relative, not absolute. If marketers can change a brand’s comparison set then they can significantly increase willingness to pay.”
Brands are more durable than people think and large brands losing share to small brands is dubious as long as pricing stays within reasonable grounds.
Martin Deboo, Jefferies International
He uses the example of Nespresso, which has managed to set its competition up as takeaway coffee rather than filter coffee made at home. And he suggests other brands should consider doing something similar when bringing new products and innovations to market.
“Nespresso sells in distinctive pods that provide the right amount of coffee for a cup. Because they’re sold in that unit we compare their price to other places selling by the cup – Costa or Caffè Nero. When compared to the £2.50 Costa charge, Nespresso pods costing 30p to 37p feel like a bargain,” he explains.
“But stop for a second and remember when they launched. If Nespresso had sold its coffee in standard packaging the natural comparison set would have been other brands of roast and ground coffee, like Taylor’s or Illy. Its price would have been judged against the norm for other coffees – roughly £4 for 227g. Even with tens of millions of pounds of advertising it could never have persuaded consumers to pay £34 for a 454g bag. But that £34 figure equates to 7p per gram, exactly what it is charging now.”
Shotton’s example shows that marketing can have a significant impact on how products are perceived by thinking about how they are positioned and in what competitive set.
Consumer goods companies also need to be careful in how they navigate the line between pricing and loyalty. With economic worries such as Brexit on the horizon, consumers could become more careful with their spending again. Brands have to ensure that customers remain loyal to their brands and don’t defect to cheaper, smaller and more nimble brands that might take advantage of the current climate.
As pricing strategies start to diverge and the effect is fully felt in the market, marketing will become even more important to explaining why consumers should part with their hard-earned cash.