Whether it's to increase profits or remain competitive, all companies have to revise their prices. But how can you be sure that a change in pricing will have a positive impact on sales or sales volume? And how can we measure this estimated result?
A fundamental element of pricing strategy, price elasticity is a must for any manufacturer seeking to maximize profits. In particular, brands that sell their products to mass retailers need to master this precious indicator to perfect their marketing strategy.
Today, Sidely takes you on a journey to the heart ofprice elasticity: we'll take a look at the key concepts and calculation methods involved, and then propose a set of best practices for putting it into practice in the world of supermarkets.
If we commonly use the expression "price elasticity", we must in fact understand that it is demand that is elastic or inelastic.
Elastic demand means that demand reacts to price variations. Except in special cases, when the price of a product rises, demand for the same product falls, and vice versa. Price elasticity measures the impact of a product's price evolution on its sales.
Price elasticity is a crucial tool in determining your pricing strategy, and therefore your marketing mix. Indeed, if demand is not very sensitive to a price increase, you have the opportunity to increase your sales and your margin by increasing your pricing.
On the other hand, if a price increase is followed by a substantial drop in sales, then you'll need to find the right balance between price and volume, i.e. the price that - ultimately - maximizes margin.
This phenomenon is based in particular on the positioning of the brand and/or its product. For example, the success of premium products is largely based on their price, and demand is often highly elastic. This is also the case for staple products, where price increases are often sanctioned by the choice of a substitute product.
In supermarkets, price elasticity is a determining factor. That's why many brands are now resorting to shrinkflation, a technique that consists of reducing quantity without lowering unit price.
Calculating price elasticity is very simple:
Price elasticity = rate of change in demand / rate of change in price.
The result is an indicator less than, equal to or greater than 0 (see example below).
3 types of results can be observed when measuring price elasticity.
The first two are relatively rare.
Sometimes, a price increase leads to an increase in sales. In this case, high pricing conveys an image of prestige, driving up demand for the product. This is known as the "Veblen good", and it's most common in the luxury sector. This is the famous "snobbery effect".
One product that responds to the snobbery effect is luxury perfume.
Consumers often perceive luxury products as having a higher value when they are more expensive. Thus, an increase in price can lead to an increase in demand, as consumers associate the higher price with higher social status or exceptional quality.
Even rarer, a zero elasticity (i.e. = 0) means that price changes have no impact on sales volumes. This scenario is exceptionally found in two situations:
This is known as the Giffen effect.
A product that responds to the giffen effect is a drug. Let's take the example of an essential drug for the treatment of a chronic disease, such as insulin for diabetics. This drug cannot easily be replaced by an alternative, and patients need it regardless of price. So, even if the price of insulin rises, the quantity demanded remains relatively stable, because patients have no other options.
This is the most widespread case, and obeys the generally observed law: when price rises, demand falls, and vice versa. This is why we speak of "normal goods".
Flat-screen TVs are a telling example of negative elasticity. Let's suppose that in 2023, a brand of flat-screen TVs increases its prices. In general, for non-essential goods such as electronics, a price increase leads to a drop in demand. Consumers may postpone their purchase, look for cheaper alternatives, or decide they don't need the item immediately. For example, an increase in the price of flat-screen TVs in 2024 could lead to a drop in sales.
To begin with, let's imagine that you've increased the selling price of a product between 2023 and 2024, and noticed a drop in sales.
In this example, the price elasticity of demand is therefore equal to : -30% / 25% = -1,20.
The result is not zero, which means that demand is price-elastic.
On the other hand, the negative result indicates that the price increase did not offset the drop in sales. In other words, the price change is insufficient, if not counter-productive. In other words, the price change is proving insufficient, if not counter-productive.
In this situation, you'll need to re-evaluate the price increase downwards (e.g. apply a rate of 10% to the initial price, not 25%), and then repeat the same calculation.
If demand varies strongly with price, this indicates that consumers are activating their critical faculties during the act of purchase. This signal means that they are sensitive to their perception of the value of your product. In this case, you have levers at your disposal to modify this impact (advertising, packaging, labeling, eco-responsibility, etc.). In short, while high elasticity sometimes frightens brands, it indicates that they can act on the way customers perceive the product, and thus increase their revenues.
Conversely, when a rigid elasticity is observed, we can consider that customers are not very sensitive to the intrinsic qualities of the product. Indeed, customer volatility is reflected in their propensity to change product or brand at the mere consideration of price (as opposed to a product they would continue to buy even if its price rose). In this situation, a brand wishing to increase its revenues will have to activate levers unrelated to products, such as the choice of distribution channels, marketing, point-of-sale advertising, etc.).
The ideal supermarket pricing strategy is to charge the highest possible price without being disqualified from your range, while optimizing all other parameters (choice of brands, advertising, production and logistics costs, etc.).
It's this theme that we're now going to explore in greater depth, with a list of strategic points that all brands present in supermarkets should be aware of.
There are many strategic aspects to price elasticity in the retail sector. We have selected those that have the greatest impact on perfecting your brand strategy.
Many brands determine their selling price using the wrong input keys:
In marketing, maximizing value means analyzing customer perception. We start from the maximum final amount, to establish our pricing policy.
Price elasticity is therefore closely linked to the psychological price, or acceptability price, which represents the value a customer instinctively attributes to a product or service. This is the maximum price they would be willing to spend to buy it. To analyze demand, marketing must therefore focus on understanding the customer's perception of an offer, and the expenditure to which he is willing to consent.
This analysis is vital for brands that sell their products in supermarkets, as they have to deal with the margins applied by the supermarkets themselves. So, when negotiating with your distributors, it's important to know the psychological price of your products, as this determines the ceilings to be respected on your respective margins.
Price elasticity can help you check your intuitions against market reality.
If the price variation has no effect on sales volumes, you can rule out the hypothesis of a pricing problem and look at other causes, such as a product that has reached the end of its life cycle, or a problem of image or usefulness.
It is generally accepted that price elasticity can vary at different stages of a product's life cycle. For example, low elasticity is often observed at launch, due to the desire to test a new product. With the arrival of competing products, elasticity gradually increases until the market reaches maturity. Finally, the decline phase is quite variable, even unpredictable, as it is marked by radical strategic decisions, such as competitors abandoning the product, or consumers losing interest in it.
If your products can be found on the shelves of French supermarkets and hypermarkets, prices are generally set for 12 months during annual negotiations. It can therefore be complicated to operate in test periods, and the annual commitment is obviously not to be taken lightly. In such a situation, you could try to assess price elasticity via a channel of your own, such as your e-commerce site.
Another possibility is to determine a test panel, in agreement with one of your partners. You could, for example, limit the price change to a limited number of outlets. In this case, opt for a selection of stores that are varied but representative of your network (location, demographics, competition, etc.), so as to observe homogeneity or, on the contrary, disparity in the results.
Another issue is the extent to which your customers have memorized the price of your products in the past. In this respect, brands offering products that are purchased more sporadically have a clear advantage: while customers can compare their prices with those of neighboring products, they can't compare them with those of a purchase made 3 years earlier! However, this situation is quite rare with FMCG products, whose frequency of purchase favors the memorization of price levels.
The trick is to review the product's location with the floor manager, for example, by placing it next to a more expensive product. In this way, you try to change the customer's perception, who will compare your new price not to the old one, but to that of the product next to it. Once again, shelf placement reveals all its importance!
For brands present in supermarkets, pricing strategy is built on the scale of the assortment, so that a loss leader may generate less margin, and a complementary product more naturally. Price elasticity must therefore be seen in this context: you may refrain from increasing a price if you consider that the overall strategy will be a losing one.
Price elasticity is a good tool for measuring the effectiveness of your promotions and sales operations in general. Indeed, while the exceptional prices charged over these short periods are intended to generate volume and clear stocks, they also enable you to measure the importance of the price level in your acquisition and retention strategy.
In the context of tight negotiations with distributors, don't make the mistake of accepting just any purchase price: measuring price elasticity beforehand can enable you to set ceilings that you won't cross, so as to preserve your profitability with full knowledge of the facts.
Evaluating price elasticity enables you to anticipate the effect of price changes in response to inflationary phenomena. If you see the price of your raw materials rising, you'll be tempted to increase your prices. Price elasticity lets you know how far you can go!
In integrated circuits, remember to negotiate sellouts: checkout data enables you to analyze your results by outlet and by brand. This granularity is essential for analyzing local price elasticity.
If, on the other hand, you distribute via independent retailers, consider stepping up your shelf surveys to find out how your partners are passing on your price rises to theirs.
As we have seen, price increases tend to trigger a search for substitute products. On supermarket shelves, the abundance and proximity of competing products often discourages brands from raising their prices.
During their field visits, it's vital that your sector managers use competition and price surveys to identify substitute products available in the same aisle, so that they know what threats there are to your strategy. The good news is that sometimes opportunities await you.
And there's an extremely valuable tool for measuring them: cross-price elasticity.
Raising your prices can benefit your competitors, and vice versa. It is therefore advisable to measure the impact of a product's price evolution on sales of other substitute products.
Cross elasticity = change in demand for product A / change in price for product B.
Let's take an example: in 2024, your competitor A raised its price by 10%, and you saw sales of your product B increase by 15%.
EC = 15% / 10% = 1.5.
Cross-elasticity is positive, and you can measure the impact of your colleague's new pricing on your sales.
It's not just a commercial victory: you've also just received confirmation that your product is a substitute for that of a competitor. It's up to you to draw the appropriate conclusions.
But beware, this analysis can have more complex repercussions, as listed below.
Finally, remember that it's not all about calculation! When your customers love what you say, they're more likely to agree to price increases, and less likely to switch to substitute products. Retention is therefore facilitated by the emotional bond your brand creates with its target audience. Your brand's market positioning and brand image are therefore variables that can reduce price elasticity.
Now that price elasticity no longer holds any secrets for you, you'll be able to consolidate your marketing vision with well-founded and convincing analyses. But don't forget that your results always depend on the in-store environment: you'll need to give priority to store visits to identify all the factors that impact on your sales volumes.
The key? Your brand's success in supermarkets.
