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MAGAZINE SPRING 2003 • RESEARCH HIGHLIGHT

Dueling Pricing Strategies

Lauren Keller Johnson • April 15, 2003 READING TIME: 5 MIN

The world of retail price promotion has split into two distinct blocs. While everyday
low pricing (EDLP) has vaulted some companies to the top of their sector, the use of
promotional pricing (for example, discounts, regular specials and one-time
clearance sales) has also intensi ed. Seasonal markdowns arrive earlier each year,
and the amount of marked-down merchandise has seen double-digit increases.
Promotional tactics — from coupons and direct-mail o ers to e-mail invitations to
sales and sweeter loyalty rewards — have proliferated.

Meanwhile, retailers seek to determine if the dollars pouring from their promotion
budgets are paying dividends or merely eroding already tight margins. Longtime
heavy price promoters wonder if a shift to EDLP will hone their competitive edge. Or,
if they stick with promotional tactics, they must decide what proportion of their
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prices should be promotional, how deeply should they discount, and whether they
should advertise both sale prices and everyday prices. Retailers struggle to address
such problems with little information about how price-promotion strategy a ects
sales volume and how competitors will respond.

A new study, “When Does Retail Price Promotion Make Sense?” presents a
framework to help retailers evaluate, ne-tune and even radically shift their
approaches to price promotion. The authors, Kathleen Seiders, associate professor
of marketing at Babson College and Glenn B. Voss, associate professor of business
management at North Carolina State University, examine the pricing and promotion
strategies of 38 U.S. retailers in 11 retail sectors representing key national
competitors (for example, Circuit City and Best Buy in consumer electronics, Kmart
and Wal-Mart in the discount-store sector, and Lowe's and The Home Depot in home
improvement). On the basis of their analysis of advertisements placed during a ve-
quarter period, the researchers scored each retailer's price-promotion strategy on
three dimensions: price-variation policy (ranging from “everyday pricing with no
variation” to “promotional pricing with frequent variations”), price-promotion
volume (amount of advertising dedicated to communicating a price promotion) and
depth of discount (average magnitude of discount o ered on featured sale items).
The authors then used the three scores for each company to calculate each sector's
overall promotional intensity index.

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Next, they rated each sector on two criteria: assortment overlap (how closely
retailers' product assortments resemble one another) and assortment lifespan (how
quickly a typical assortment loses value or becomes obsolete). In the authors' view,
the e ectiveness of a retailer's price-promotion strategy hinges on how well that
strategy aligns with these two criteria. To demonstrate their thinking, Seiders and
Voss created a four-cell matrix in which one dimension comprises low-to-high
assortment overlap and the other, low-to-high assortment lifespan. Each of the four
cells suggests a di erent approach to retail price promotion:

In the low lifespan/low overlap and high lifespan/high overlap categories, the authors
argue that retailers can achieve the most success by following everyday high or low
pricing strategies. For example, high-end fashion department stores and specialty
stores — in the low lifespan/low overlap category — rely heavily on unique and
innovative products for di erentiation, while facing pressure to move short-lived
products. They use everyday high pricing to reinforce their cachet, and because of
higher original margins, they can a ord occasional deep discounts to build store
tra c without damaging their image and price credibility. Meanwhile, large, e cient
chains — in the high overlap/high lifespan category — depend on everyday low
pricing to garner volume sales, seeking economies of scale or scope to lower
expenses in order to support prices

Retailers in the high overlap/low lifespan and low overlap/high lifespan categories
can bene t most from using promotional (rather than everyday high or low) pricing.

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For instance, consumer-electronics retailers and automobile dealers — in the high

overlap/low lifespan group — must cope with ongoing product proliferation. They
can deepen their assortments with numerous product modi cations and use
frequent price promotions to reach a wide range of customers and drive sales of
soon-to-be-obsolete products. Furniture stores and fast-food companies — in the
low overlap/high lifespan category — sell to customers who aren't fussy about their
shopping destination and these retailers can use sales and coupons to encourage
trial shopping and retain market share.

Some retailers — such as traditional department stores and supermarkets —are

hybrids, characterized by moderate overlap and moderate lifespan. They o er many
product categories — some commodity-like and others more prone to obsolescence
— and in facing intense competition within and across sectors, these retailers use
heavy promotional pricing (such as weekly circulars, coupons and in-store specials)
to attract customers and control large, diverse inventories.

Seiders and Voss then studied the relationship between price promotion and
retailers' nancial performance for all sectors — nding a positive correlation
between promotion and revenues and a negative one between promotion and pro ts.
However, the strength of these relationships varies signi cantly across sectors. To
illustrate, though the furniture, grocery and traditional department-store sectors all
reap extensive performance bene ts from price promotion, it's the most e ective
strategy in the grocery sector, while much less e ective in the furniture-store sector

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(perhaps owing to low advertising volume, which may in turn stem from channel
verticality).

Seiders and Voss suggest that a retailer can use this framework to determine its
optimal price-promotion strategy. After identifying which matrix cell best de nes its
current position, the company can ascertain whether its current strategy (with
regard to price variation, promotional advertising volume and discount depth) is
consistent with the rest of its sector. By pinpointing and questioning the
assumptions that underpin that strategy, the company will be better able to assess
what, if any, strategic changes should be made.

For example, the department-store chain Dillard's decided to defy that sector's norm
by moving toward an everyday pricing strategy, o setting its low price variation by
o ering deeper discounts than its competitors. The company also developed a
strong store brand franchise, raising revenue and boosting earnings through its
higher margin, private-label merchandise. Dillard's experience suggests that a
retailer adopting a price-promotion strategy contrary to its sector norms may need
to modify its assortment overlap and lifespan conditions to reap the full bene ts of
its new approach.

For more information about the study, contact the authors at seiders@babson.edu
and gvoss@ncsu.edu.

Topics
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Marketing Pricing & Promotion

TAGS: Pricing, Retail

REPRINT #: 44394

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