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Promotional Pricing…click click boom

November 2012 Pricing

After engaging in a brief conversation on “promotional pricing” with a business operations executive at a global manufacturer in consumer goods industry, I was inspired to address some misconceptions discussed and provide further insight on how firms in the B2B space implement profit-enhancing promotional pricing tactics.  First of all, promotional pricing should be viewed as a means to price segment according to consumers’ willingness to pay, not as a pure promotional strategy.  Promotional pricing strategies that are effectively designed and executed improve profits in the long-run by allocating price concessions to on-the-fence potential customers with more elastic consumer behavior while maintaining normal pricing points for loyal buyers.  The art of accomplishing such desired consumer responses rests in the creation of a relatively sound price segmentation hedge.

Instead of offering theoretical advice on how price promotions should be designed, when they should be used, and how often they should be used, let’s delve into an applied case and investigate the specifics.  Remington Arms, LLC, a subsidiary company of the Freedom Group, manufactures an assortment of sporting good products for hunting, sport shooting, military, law enforcement, and government markets.  Currently it has several price promotions in the form of rebates available to end consumers of weaponry and complementary products.  See Figure 1.1 below for an example rebate for Remington Nitro-Steel Load 12 Gauge 2 ¾ Length ammunition.

Figure 1.1

 

Remington Arms participates primarily in the B2B market space with limited exposure to direct consumer transactions only in the form of their online marketplace (does not sell guns or ammunition in the online store).  Remington sells products to 8 major accounts, including Wal-Mart, Bass Pro Shop, Cabela’s, etc. and a multitude of smaller retailers.  So how does this rebate work?  Let’s say a consumer walks into a Bass Pro Shop on 09/01/2012 and purchases a box of Remington Nitro-Steel Load for a waterfowl hunting adventure.  At the point of sale, the consumer receives the product and information regarding the mail-rebate of $2.50/box.  Let us regress from the end transaction and evaluate the back-end work flows contributed by Remington (Manufacturer) and Bass Pro Shop (Retailer).  Figure 1.2 portrays the flow of information and products between manufacturer, retailer, and end consumer.

Figure 1.2 Mail-in Rebate Model

One can follow the information flow and product flow decisions between Remington, Bass Pro Shop, and a consumer according to this model.  Let’s look a Remington’s Nitro-Steel Load rebate under this model to derive each participant’s incentives and determine if their approach is strategically aligned with its counterparts.

The consumer seeks to gain the most utility for every dollar spent on Remington Nitro-Steel Load.  Of course other dimensions go into consumer choice such as loyalty, product compatibility (Remington gun and ammo), complementary products, competing offers, etc.  When it comes down to it, certain customers may be influenced by price promotions to purchase, purchase more than usual, or possibly switch brands.  Also they are faced with the opportunity cost of time sacrificed in order to mail in the tangible rebate form.

A retailer, such as Bass Pro Shop, usually benefits the most from price promotions if they can anticipate expected demand.  Forecasting potential volume purchased by consumers in the retail setting due to rebates offered by the manufacturer and stocking up correctly to satiate demand can payoff.  Retailer’s contribution margins on Remington Nitro-Steel Load are untouched and they profit handsomely from increased volume and complementary product sales.  The only risks retailers run in terms of cost are missed forecasts estimates of volume purchased resulting in excess inventory cost and possible unwarranted advertising costs.

The information feed is from the manufacturer down and is strategically built on how it anticipates consumer response in terms of purchasing behavior and trusted retailer intuition.  The rebate structure’s primary purpose is to stimulate demand during a specific time frame by encouraging any consumer in the market for ammunition to purchase the Remington brand solely on the price concession.  According to any basic economics text, a decrease in price, holding all other factors constant in the model, increases the quantity demanded for a product.  The rebate redemption rate is the key hedge that determines the efficacy of the price promotion.  Remington is anticipating that less price-sensitive consumers or more time-sensitive consumers will not take the time to actually go through the rebate process, which in turn will preserve margins.

Life is good…or is it?  On the surface it seems everyone wins: the consumer receives a lower price for the Nitro-Steel Load, Bass Pro Shop moves significant quantity and receives complementary sales, and Remington increases sales in the B2B market space.  Did executives at Remington Arms effectively design this rebate for long-term profitability or are they just giving away margin?

Sometimes it is constructive to infer industry-best pricing practices by observing firm’s pricing failures and offering remedies to such incidences.  Remington’s price rebate on Nitro-Steel Load, as well as the majority of their price promotions, is not strategically designed to maintain their value proposition.  We will ask a few simple yet insightful questions and see how their current price promotion measures up.

Is the price promotion uniquely targeted?

Remington’s rebate on Nitro-Steel Load is not targeted.  This rebate does not serve as a price segmentation hedge, more like a sieve.  It allows any consumer regardless of loyalty, previous buying behavior, or willingness to pay, to purchase at a discounted price.  The only form of segmentation hedge that exists is the rebate redemption rate aimed at the less time-sensitive consumer.  The current rebate fails at addressing the marginal customer case and becomes a standing discount.

Is the price promotion temporary?

The rebate on Nitro-Steel Load lasts for 5 months.  The excessive length of the price promotion resets the reference price of the product to consumers in the long run.  Consumer perception of price will be engrained in their memory due to the long standing price discount.  It is likely for consumers to balk or switch brands when normal prices return in non-promotional time periods.

Is the price promotion special?

Remington offers price promotions during hunting season which can be argued as special.  Consumers anticipate such promotions due to the onset of hunting season and make purchasing decisions accordingly.  An expected price promotion provides incentive for consumers to accrue product which cannibalizes long-term sales.

The question at hand…

How can a firm like Remington design an effective price-promotional strategy to augment sales? 

Remington needs to bolster the price segmentation hedge within their price promotion to ensure it is primarily focused on the marginal consumer.  A more targeted price promotion designed to capture “on the fence” customers or competing brand consumers should be the focus.  A proven tactical approach to encourage brand switching is direct mail or email to non-Remington customers including incentive codes to be redeemed in retailer stores for purchasing Remington brands.  Such consumer contact information can be obtained from retailers with loyalty programs who keep track of customer purchases.

Price rebates received by customers after listening to in-store or online demonstrations of products help consumers connect with quality aspects of the good and gain more appreciation for the brand.  This tactic helps convert non-followers or marginal customers to purchase when armed with a better understanding of product attributes.

Another means of price promotion aimed at brand switching is trade-in or proof of purchase of competing brand.  Offering price concessions to customers who prove they are using your competitor’s product gives way to converting a consumer’s brand choice by offering a trail at a discounted price.

Waterfowl season across North America state-by-state lasts on average only a couple of weeks.  The current price promotion length of 5 months is quite excessive and should be tailored down to a time frame more consistent with the event.  In the Nitro-Steel Load case, a price promotion starting a few weeks before the start of the season and lasting for the duration (Max = 1 Month) would be more appropriate.  A month-long price promotion would be viewed as a single event and any price cut would be seen as temporary.  The likelihood of such price discount becoming a consumer reference price would drop accordingly.

Remington could also explore a promotional bundling opportunity to encourage loyal consumer behavior.  For example, a consumer purchasing a 12-gauge waterfowl shotgun receives an amount of Nitro-Steel Load ammunition in the total purchase price.  Not only does this enhance intra-product-category sales, but supports long-term brand purchasing and less deterioration of perceived price of bundle components.  A shotgun sale is considered durable and the ammunition non-durable.  A consumer begins with a Remington shotgun accompanied by Remington ammunition and becomes accustomed to that combination throughout the life of the shotgun.  This product pairing inspires loyal customer purchasing of ammunition in future consumption decisions.

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About the author

Curry W. Hilton is a senior pricing analyst at Wiglaf Pricing and economics lecturer at Elon University. His primary research interest focuses on price segmentation, negotiations, and firm strategy.

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