Cost Effective?

In the first installment of this three-part series on how catalogers’ pricing strategies are evolving in response to the Web’s effect on branded products, let’s examine how catalogers have been put in this precarious situation and what they need to do to remain profitable. As the price-comparison engines turn more branded products into commodities, what’s your catalog’s best pricing strategy?

Most catalogers’ current pricing strategy is to have the lowest market price available — either matching or beating any competitor’s best price. This policy is typically supported with a lowest price guarantee. It’s becoming common for most catalogers and Web merchants to offer the same low price on branded products. You can’t sell products above the market price, and you can’t go below the floor price without violating manufacturers’ pricing guidelines or having your margin evaporate and the products become unprofitable.

With so many catalog businesses driven by strong brands, many of these brands have floor-level pricing in place. Brand vendors often pay co-op advertising allowances, which defray up to 50 percent of the marketing cost of the catalog. Catalogers need to maintain certain pricing levels to recoup co-op advertising funds.

Another major issue with a particular brand’s floor pricing is the brand manufacturers need to preserve a pricing level where second-tier distributors can realize a profit between their best price and the actual selling price of the product through the big-box retailers or mail order catalogs. The manufacturers have a vested interest in maintaining the current pricing levels. They won’t support price cutters, and they won’t pay additional co-op advertising if those sales come at the expense of diminished margin for all their distributors.

Another factor to consider with the economics of reducing price to gain sales is to recover the margin lost by cutting prices. The first effect of reducing prices overall, say 3 percent, is to reduce the overall margin from 30 percent to 27 percent as soon as prices are reduced. Taking that 3 percent margin out of many businesses can be a severe blow. It requires a very large increase in sales just to overcome the effects of the margin loss. (An example of the P&L of a catalog business before and after a reduction in overall margin can be found by clicking on the chart below.)

Therefore, sales need to increase more than 10 percent or $3 million to make up the loss in margin and maintain the same total “profit” or funds available for fixed and overhead coverage. What’s the probability that sales will grow from $30 million to $33 million driven by a 3 percent reduction in selling price? Whenever you contemplate increasing sales and profitability by cutting prices of commodity products below the established market price, know how much sales increase you’ll need to realize just to match the margin you were realizing at higher prices.

Next week, in the second part of this three-part series, I’ll provide options on how to increase sales without cutting prices across all merchandise.

Jim Coogan is president of Catalog Marketing Economics, a Santa Fe, N.M.-based consulting firm focused on catalog circulation planning. You can reach him at (505) 986-9902 or jcoogan@earthlink.net.