Prices Based on Demand Rather Than Past Prices Go With Higher Margins

Value LeveragingNijs, V.; Srinivasan, S.; Pauwels, K. · 2007Marketing Science
Topicsretail pricing·pricing history·wholesale price·brand demand·category management·retailer margin·scanner data

Grocers set prices for many brands, and yesterday's shelf price can become the default for tomorrow's. Category management means weighing other brands' prices, demand and costs within the same product category. Imagine your team is redesigning pricing for toothbrushes and cheese across your stores. Should past prices, brand demand or the wider category guide the new prices?

In a Chicago grocery chain, category margins are higher where shelf prices rest more on brand demand and competing brands' prices and less on past prices.

Data chart

Past prices explain the largest share of movement in shelf prices

Share of the movement in a brand's shelf price over 26 weeks that traces to each factor, in percent; the middle value across brands and stores in 24 product categories of a Chicago grocery chain.

Brand's past prices50%Wholesale prices26%Brand demand (the brand's own sales)11%Category management (other brands'prices, demand and costs)8%Store traffic (shoppers buying atthe store)1%
  • The chain sees lower category margins where past prices weigh more.

A brand's past shelf prices explain more of its price movement than any other factor in the Chicago chain, and the chain sees lower category margins where it relies on them more.

Middle values across brands and stores in 24 product categories of a Chicago grocery chain, over 26 weeks, so the shares do not add to 100%; exact values are 49.6% for past prices, 26.4% for wholesale prices, 11.4% for brand demand, 7.9% for category management and 0.7% for store traffic.

Action guide

  1. Ask your pricing leaders to challenge inherited shelf prices.In a Chicago grocery chain, past prices dominate price setting, and the chain sees lower category margins where it relies on them more. Ask too whether the weight your categories give past prices, demand and costs is deliberate or an outdated routine.
  2. Prioritize demand and category context in your pricing capability.In that chain, relying more on brand demand, or on other brands' prices in the category, is linked to higher category margins.
  3. Require your team to justify categories priced for store traffic.In that chain, pricing more to draw shoppers into the store, as with loss leaders, is linked to lower category margins. Keep such pricing where your team can show that extra sales in other categories make up the lost margin, an offset the study did not measure.
  4. Review your own past prices before you invest in matching rival stores.In Denver grocery stores, other retailers' prices explain only a small share of how a brand's shelf price moves, far less than the brand's own past prices.

Evidence

  • In a Chicago grocery chain, measured over 26 weeks, a brand's past prices explain about 50% of the variation in its shelf price and wholesale prices explain about 26%. In Denver grocery stores, a brand's past prices explain about 62% and other retailers' prices about 6% (the two markets track different pricing drivers, so the shares are not directly comparable).
  • In the Chicago chain, brand demand explains about 11% of that variation, and category management about 8%.
  • What guides a shelf price differs by category in the Chicago chain. Past prices explain about 57% of the variation for a typical toothbrush brand and 45% for a typical cheese brand; brand demand explains about 4% and 17%.
  • The Chicago chain sees lower category margins where it relies more on a brand's past prices, and where it prices more to draw shoppers into the store, as with loss leaders.
  • The chain sees higher category margins where it relies more on a brand's demand, or on competing brands' prices when setting category prices.
  • In the Chicago chain, how closely a brand's shelf price follows wholesale prices is not linked to higher or lower category margins.

Key takeaway

A Chicago grocery chain sees higher category margins where it prices more on brand demand and less on past prices.

Limitations

The data cover Denver grocery stores (1993–1995) and a Chicago chain (1989–1997), and only the Chicago chain has margin data. The margin findings link pricing habits to category margins but do not show whether changing a pricing policy raises future profit.

Source

Nijs, V., Srinivasan, S., & Pauwels, K. (2007). Retail-Price Drivers and Retailer Profits. Marketing Science, 26(4), 473–487. https://doi.org/10.1287/mksc.1060.0205.

https://doi.org/10.1287/mksc.1060.0205

Exact values behind the rounded figures: in the Chicago chain, 49.6% of shelf-price variation for pricing history, 26.4% for wholesale prices, 11.4% for brand demand, 7.9% for category management and 0.7% for store traffic; for a typical toothbrush brand, 56.7% for past prices and 4.3% for brand demand, and for a typical cheese brand, 45.2% and 17.0%; in Denver, 5.5% for competing retailers' prices and 62.3% for pricing history.