Skip navigation

The New Science of Pricing

Riesbeck Markets has re-priced, re-assorted and re-signed its stores to successfully blunt the impact of Wal-Mart supercenters that entered its 100-mile-wide region of Appalachia six years ago. Wal-Mart was the trigger point, said Richard Riesbeck, president and chief executive officer of the St. Clairsville, Ohio-based regional chain. We were a modified high-low with better actual everyday prices

Riesbeck Markets has re-priced, re-assorted and re-signed its stores to successfully blunt the impact of Wal-Mart supercenters that entered its 100-mile-wide region of Appalachia six years ago.

“Wal-Mart was the trigger point,” said Richard Riesbeck, president and chief executive officer of the St. Clairsville, Ohio-based regional chain. “We were a modified high-low with better actual everyday prices than most chains, but consequently features that weren't as deep. We went EDLP, more prominently in Center Store than in perishables, before the first supercenter opened. We realized we had to be willing to sacrifice a few gross basis points of margin in order to compete or else risk dramatic sales declines.”

As scenarios like that facing Riesbeck play out at supermarket chains across the country, retailers are increasingly turning to everyday price cuts as part of the solution. Underlying the trend is a new appreciation for the pull of price — when linked to consumer demand and format expectations, and supported by lower cost structures. And while price reductions can underscore retailers' particular value to consumers, the efforts can quickly place them in risky, unfamiliar space, sources said.

One result: high-low operators that go partly EDLP, for example, may only be willing to go low enough to be in the game against Wal-Mart, dollar stores and other competitors. They need not match them cent for cent as long as they lift other aspects of their total value premise to attract shoppers.

While this is an increasingly common goal, it would be dangerous to underestimate the difficulty of walking this line, retailers and consultants told SN. To succeed, one needs to be close enough to discounters yet separate from other conventional food stores in price image.

The current formula rests on a consumer-centricity and sophistication that distances today's re-pricing from past approaches such as coupon wars. To compete smartly today requires consumer insights, effective messaging so shoppers give stores proper credit for their initiatives, and lower product acquisition and operating costs that make lower prices financially feasible, sources said.

At Riesbeck Markets, lowering prices meant an overall gross margin reduction of around 1% across the entire store, Richard Riesbeck said. “Wal-Mart's effect on us varied by local market and the type of store we had nearby,” Riesbeck said. “Our stores with more perishables were generally affected less.”

In what became a typical pattern, a Riesbeck store would lose 10% to 12% in sales in the first year of a new supercenter nearby. The store would begin to fully recover sales and customer counts after the second full year, and it would be incrementally ahead of initial levels after the third full year, Riesbeck described.

The chain managed to drop prices largely through vendor cooperation. “Many were willing to lower product cost to us in exchange for our commitment to lower the retail price and hold that position as long as the cost didn't change. They were hoping for more velocity and clearly got it,” said Riesbeck. “Vendors that have become part of our EDLP procurement program have seen substantial volume increases in their brands.”

Another benefit to EDLP vendors, he added, is favored status as the chain manages its 80/20 rule in category facings. “We want to expand facings for their brands that rank among the top 80% of performers in their categories. Also, if their brands are in the bottom 20%, where they'd be more prone to being culled, we'll give them second and third chances to lift performance,” Riesbeck said. “Of course, we're not willing with one sweeping motion to eliminate the bottom 20%. We're very well aware that one or more of those items might be a favorite of a productive shopper.”

Riesbeck said he was determined not to let the new pricing strategy change the customer experience in Riesbeck stores. The most noticeable changes on the selling floor are special-buy signs and tags that clearly mark each Center Store aisle, he said. “We were cautious not to create an ad message or a positioning line that would represent us as being the type of retailer we're not aspiring to be. We were very conservative.”

Where Riesbeck went EDLP, it “tried wherever possible to adjust retail pricing to be within 10% to 12% of Wal-Mart's price on an identical item. If we had no identical brand item, that's where we'd rely on private label for the price comparison. For example, when Wal-Mart came in, we noticed that on national brands of cereals we were priced $1 a box higher. We had to do something, and that was the EDLP proposition we made to vendors,” said Riesbeck, who also serves on the Food Marketing Institute board of directors. “We notice over time that if we move retail prices on key items close to theirs, they lower theirs further. Conversely, if we ease up on ours, they do likewise. They want to maintain a certain separation, and it varies by store.”

Private label is an important part of Riesbeck's EDLP strategy, he continued, but that got complicated when former supplier Roundy's sold operations to Nash Finch. “We currently rely more on regular brands, partly because Roundy's sold its distribution center to Nash Finch 18 months ago, and while Nash Finch private label is doing well, it isn't as well known yet,” he said.

To further lower prices, Riesbeck also sought to control any expense possible, from labor to perishables waste, the latter resulting in an assortment cutback largely in produce and bakery “to synchronize with true demand levels,” he recounted.

Yet the optimal pricing solution will differ by markets, competitive challenges and store formats.

Communicating Price in Context

With Wal-Mart now expanding its supercenter concept in Ontario, price is part of the response from Loblaw Cos., the traditional market leader and Canada's largest food retailer.

Loblaw is currently embarking on a program to underscore for consumers the different value premises of each of its store formats, and then to lower prices “where it makes sense within each format,” said Liz Margles, vice president, corporate communications for the Toronto-based retailer.

According to Margles, the job involves communicating on one hand the breadth of offerings in a full-service or upscale market, and the value of a hard-discount concept likely to have less variety on the other. “Go into Fortinos or Loblaw, you'll find a dozen kinds of mushrooms,” she said. “It's unfair to compare their prices against a hard discounter, which may have one or two.”

Margles added it was “too early to say” where price reductions would occur within each format.

“We're looking across the board at strong repeat items people buy every week that increase basket size on key grocery value items that affect people's price perception, as well as fresh and core general merchandise, which in our analysis are at least 10% above or below competition's price,” she said.

Price cuts are part of a program that will concurrently raise private label's share of food sales at Loblaw from its current 25% up to 30%, more than double that of any other Canadian food retailer, she said. Loblaw hopes to achieve that through innovation in President's Choice, the chain's popular array of 4,000 SKUs, with many sub-brands such as Blue Menu, the trans fat-free line launched last year with low-fat, high-fiber, low-salt or low-calorie attributes, as well as other creations, such as the Mini Chefs food line for kids.

The multi-pronged program will also improve fresh food merchandising and revamp the Real Canadian Superstore banner in an effort to generate free cash flow of $250 million (Canadian) within three to five years, Margles said.

“I'm not aware that we've done any other price-lowering programs of this magnitude before,” she added. “The discounter effect is one part of it, but it's really a combination of internal and external factors driving this. We're in a new competitive environment with some other retailers who've stepped up in areas where we've traditionally been recognized.”

True Hybrids

Green Hills, a Syracuse, N.Y., independent, has escalated the concept of hybrid EDLP to a new level, said CEO Gary Hawkins. Long recognized as a loyalty innovator, Green Hills has introduced what Hawkins described as “a next-generation hybrid EDLP merchandising model — EDLP pricing on Center Store and staple items, and personalized marketing and pricing on other products tailored to each individual customer.”

The system is based on SmartShop, “a marketing platform that allows us to provide personalized offers to each individual customer or household,” Hawkins explained. “Think of SmartShop as providing each customer with their own personalized ad flier each week, based upon products that are of interest to them.”

Positioning the program as “everyday low prices on the products you need, personalized savings on the products you want,” Green Hills has done away with weekly specials and temporary price reductions. “Any product on which we offer a savings is either in our EDLP program or in SmartShop,” Hawkins said. “This model has proved very successful for us, as we now have approximately 50% of our customers enrolled and taking part in SmartShop.”

Pittsburgh-based Giant Eagle views its four rounds of price reductions between November 2004 and September 2006 as “the flow of business, the way we operate to compete with discounters and dollar stores. It was imperative that we look internally and work with vendors to reduce prices every day, not as a temporary program,” said spokesman Dan Donovan. “We're not opposed to helping vendors promote items where it makes sense, but we can't let any brand marketing get in the way of our primary corporate focus of lower everyday prices.”

So when Giant Eagle runs trade events, it does so with “a conscious effort that anything we do with vendor partners on promotion should have no effect on the efforts we make with them to find efficiencies and cost-saving opportunities year-round to be able to lower everyday prices,” Donovan added.

Indeed, vendor participation has enabled Giant Eagle to go EDLP on close to 8,000 Center Store items so far, including some that have been reduced more than once. The chain claims $122 million in annualized customer savings as a result. This has sharpened its price image, aided further by the $4 per 30-day-supply program for 314 different generics in pharmacy (which many drug and supermarket chains adopted after Wal-Mart started the trend). On the strength of this and a variety of high-quality perishables, as well as store brands and pharmacy appeal, the chain of 227 supermarkets and 122 GetGo fuel sites has lifted market share, basket size and customer traffic, he contended.

The difference here is that in addition to EDLP, the chain runs its Advantage Card loyalty program with added incentives of weekly specials and a popular FuelPerks gas-price reduction program based on qualifying in-store purchases.

Caution: Falling Prices

The backdrop for these pricing efforts isn't kind to supermarkets. Congress is considering the first federal minimum wage increase in a decade; credit card interbank fees continue to put a strain on supermarket expenses; and sales competition comes increasingly from dollar and specialty stores, as well as supercenters and warehouse clubs. Moreover, consumers feel more price-sensitive, since they're now pinched by higher energy costs, depressed home values, stock market volatility, worry over terror and the beginning signs of inflation, sources said.

“Consumers have a much stronger perception of what value is than ever before. That's because they have so many alternatives, and there's so much information at their fingertips,” Tony Schiano, outgoing CEO, Giant-Carlisle, Ahold's Pennsylvania-based banner, told SN earlier this year.

Giant has built customer trust as an EDLP operator over the past 35 years. But Schiano said he sees a major challenge for chains swinging this way now: “It's very hard to go from high-low to EDLP. It's a very scary move. It's a big change in thinking, in merchandising, in the way you approach suppliers and in the way you advertise. A lot of people try it and don't have the stomach for it. They kind of throw in the towel, because it's painful at first.”

Giant's Northeast sister chains, Stop & Shop and Giant of Landover, Md., however, are among the EDLP movement's most high-profile devotees. Those banners began a new everyday-low-price program late last year, using cost reductions and edited selections to lower prices department by department. Their strategy is based on a similar program effectively deployed to turn around results at Albert Heijn, Ahold's Netherlands flagship banner, Ahold executives said. Ahold is using lower prices in conjunction with an existing loyalty card program.

Despite the leap of faith it takes to go hybrid EDLP, Hawkins of Green Hills argued chains can benefit from doing so: “It allows innovative retailers to play to their strengths, while providing a pricing ‘comfort level’ to their shoppers. We need to look no further than the success of Wegmans and Ukrop's against Wal-Mart.”

One other recent convert is Schnuck Markets, St. Louis, which cut prices as much as 25% on more than 10,000 Center Store items, after doing so with 3,200 SKUs a year ago, and after reducing shrink and other internal costs.

Comprehensive Approach Required

Bill Bishop, chairman of Willard Bishop, a consultancy in Barrington, Ill., cautioned that it might already be too late for chains to effect the major price perception change they seek.

“We're in the mid-set of cycles from promotional to EDLP and back to promotional that we've seen before,” Bishop said. “In past decades we've seen EDLP enter markets with devastating effect — Shaw's in New England, Lucky in California, Food Lion in the South. However, subsequent EDLP applications lack the same effect on markets, because they're not different.”

Clearly, Wal-Mart is a key driver today, with supercenter prices 13% to 18% lower than those of traditional supermarkets. “The total-store price gap is past the usual grocery tipping point of 8% to 10% at which shoppers in one store feel compelled to shop another store because of lower prices,” noted Jon Hauptman, partner in the Bishop consultancy.

“Inevitably, others try to follow a strong EDLP operator,” Bishop added. “Today that strategy is less distinctive and less impactful. Remember, Wal-Mart has a similar problem when it faces against Aldi.”

Despite the apparent trend toward EDLP, Bishop contended, “retailers recognize that to move the shopper, they need to do more with promotions. Stores want product and price promotions no one can match either with a signature item or different package configuration. No one wants to get involved in tit-for-tat pricing with Miracle Whip.”

He cited the targeted delivery of price promotions through the Internet and in-store kiosks to a store's best shoppers as the next productive wave, and points to Ukrop's and Albertsons as among leading practitioners today.

“Retail pricing is getting more complicated,” Bishop said. “Those that price in ways more reflective of consumer demand, driven by precise strategies and supplemented by targeted pricing, will run circles around others.”

Tools of the Trade

Price-optimization software and other pricing gadgets work best as part of a comprehensive strategy

Jon Hauptman, a partner with Barrington, Ill.-based consulting firm Willard Bishop, said he has no problem with price-optimization software. “It's a wonderful tool,” he said.

He added, however, that “for a retailer to get full value out of their investment, they ought to have a comprehensive pricing strategy the system can support, as opposed to simply allowing the software to set prices in a relatively unregulated manner relative to a strategy.

“An optimization system, along with a strategy, can help a retailer strengthen price image — be low where it needs to be, and identify categories and items where margins can be longer,” Hauptman said. “It's better to see a long-term connection between usage of the tool and an overarching strategy that can organically grow the business.”

Price-optimization software injects consumers into pricing decisions, said Jim Burt, global director, consumer products, DemandTec, San Carlos, Calif., makers of the brand used by Safeway, H.E. Butt Grocery, Giant-Carlisle and Bi-Lo. “A lot of people think price optimization is about raising prices. It's about shifting demand. If your goal is profit, you set different prices than if your goal is volume or share. The application allows you to achieve multiple goals simultaneously.”

Sensitivity to consumers is ongoing, added Marc Dietz, senior director, product marketing, DemandTec. The company competes against products from other vendors, such as Revionics, KSS PriceStrat, SAP's KhiMetrics and Oracle's ProfitLogic.

“Over time, consumer preferences change, the competitive landscape changes, items enter and exit the assortment — and repeated use of price optimization to strategically set prices, given these dynamics, in a way that simultaneously achieves profit goals and long-term price image goals, is key to long-term business growth,” Dietz said.

The tool enhances retailer understanding of “the most important items to be competitively priced on; how to better design good-better-best pricing; the value trade-offs between national brands and private labels; and how to price new items,” he added.

Center Store grocery and health and beauty care are typical starting points for supermarkets, and random-weight meat and some other perishables are viable, although pre-priced items such as greeting cards and snacks aren't usually optimized. Most retailers optimize between 50% and 75% of their total business, Dietz explained.

Price optimization isn't for everyone, however. Green Hills doesn't use such a tool because “that solution continues to focus on products rather than seek to optimize our customers' lifetime value to us as merchants,” contended Gary Hawkins, chief executive officer of Green Hills, an independent retailer in Syracuse, N.Y. “While I don't dispute the value pricing-optimization tools can create for a retailer when properly applied, I very much believe that the focus is wrong — retailers intent on selling more products, oblivious to the customers doing the purchasing.”

Green Hills opts instead for targeted pricing using its SmartShop platform. “It points us toward a future of being able to optimize our entire business, both in terms of products and customers,” Hawkins said. “Imagine being able to provide different prices on different products to different shoppers — communicated digitally via the retailer's website, email, kiosks in the store and to the shopper's mobile phone, with special prices delivered automatically into the transaction based upon shopper identification.

“If our system knows that Shopper A is a deal-driven shopper with a preference for Coke and Shopper B is brand-loyal to Coke, it is able to provide relevant offers to each shopper with the goal of minimizing markdown or marketing cost while maximizing shopper lifetime value [spending, shopping visits, retention over time].”
— A.H.