Pricing products too high can kill sales, just as pricing products too low can kill margins. Striking the right balance is critical, but most retailers spend little or no time optimizing their pricing strategy.
Recently we helped a niche eTailer whose sales have grown more than 30% consistently for several years. Unfortunately their profits weren’t growing nearly as fast, causing a cash crunch. Hard work wasn’t turning into profit.
Creating a profit-boosting plan
Staffing levels were already lean and their marketing was efficiently growing market share, so cuts there didn’t make sense. The focus turned to their gross profit margin, which was a tight 16.5%.
How did their margins get so low? As a new entrant in a market that is high volume/low margin, they needed low prices to win business. Keeping margins razor-thin became less critical as they strengthened their value proposition and earned high customer ratings. That was our theory, and we put it to the test by organizing a series of experiments.
Collecting competitive intelligence
Their internal team identified key groups of products that would be targets for price increases. Groups included top-sellers, high-priced items, and low-margin items.
With assistance from GrowByData (disclosure: a new company we founded), they rapidly analyzed competitors to evaluate differences in price and availability. The field included 3 niche-specific competitors, Amazon, and the lowest-priced seller on Google Shopping.
Niche competitors were chosen as follows:
- A model competitor currently leading their category
- A close peer with a very similar product selection and value proposition
- A hungry upstart competitor more likely to have lower prices
What the data suggested
- We were consistently priced 7% below the model competitor.
- We were consistently priced 3-5% below the close peer.
- We were occasionally more expensive than the hungry upstart.
We began with a plan to target average price increases around 3%, depending on the item and pricing landscape. This change alone would have a major impact on the retailer’s bottom-line, creating hundreds of thousands in incremental profit.
After reviewing the data, however, we decided to aim higher.
- The model competitor may have been the largest, but our value proposition was strong compared to theirs. We didn’t need to undercut them too much.
- The close peer, it turned out, did not have as comprehensive of a product selection as we did. And our marketing consistently outperformed theirs. We didn’t need to beat them on price.
- The hungry upstart did have a comparable product selection, but had a paltry number of customer reviews that showed up in Google. And their site features were lacking. We didn’t need to compete with them, now.
The decision was made to target an aggressive average price increase of 5%. Some margins were made higher, others lower, depending on our price intelligence and other factors.
The changes were made in batches over the course of a month, and we waited for results.
The first month was the best-performing month for this company — ever. It was the best-performing in terms of revenue and profit. Correlation does not equal causation, however, and so we did not break out the Champagne just yet.
The following two months were different stories after the pricing updates were rolled out to more items. When combined, they looked something like this (actual numbers changed to confer an abundance of privacy):
These results made us nervous. We were delighted by the 10% increase in Gross Margin dollars, but the revenue drop was concerning. We imagined that loyal customers may still be placing orders, but the price increase could be hurting new customer acquisition.
A decision was almost made to revert half of the price increase across the board, giving us better margins than we originally had, but still keeping our prices competitive.
This approach seemed reasonable, but it would’ve been a gut reaction. After additional digging into the numbers, we found sales through the website itself were flat, and that wasn’t atypical for this time of year. The losses came from other channels.
We kept the full price increase intact, only selectively lowering prices on items that appeared to be impacted most greatly by the price increase.
Two months later, a total of 5 months following the price increase, we’ve found the effort to be a great success. We believe the revenue dip over the two prior months was an anomaly, and year-over-year profit is now surging.
Those additional profits, strategically invested in marketing and other growth initiatives, are now creating a strong lift in revenue as well. Here are representative numbers:
This aggressive price increase was a calculated risk, but it still felt like a gamble. We expected that sales would be negatively impacted, but the improved profit margin would more than compensate for that.
It turns out that we had plenty of room to increase prices without impacting profit, and could potentially take the price increases even further. Plus, the additional profit allowed for reinvestment into the business, which is further propelling sales.
We started GrowByData for this very reason. To bring the power of data to mid-market retailers seeking higher growth, not just in revenue, but in profit, too.