Key Takeaways
- Trade spending can support manufacturer-retailer relationships, but poorly planned promotions can quickly erode margins.
- Effective trade spend optimisation requires understanding which promotions actually drive profitable volume.
- Testing, performance-based incentives, streamlined promotions, and selective discounting can improve trade spend effectiveness.
- Strong alignment between manufacturers and retailers can create better commercial outcomes for both parties.
- SKU-level profitability and customer insights help CPG businesses make smarter trade spending and pricing decisions.
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When it comes to consumer packaged goods (CPG), the manufacturer-retailer relationship is not always straightforward. Sometimes, it can be smooth. However, trade spending can make negotiations quite challenging. Trade spend is money manufacturers give to retailers to sell and promote their products on their behalf. This includes discounts and coupons, advertising support, and payments for product placement in stores and on shelves.
As you can imagine, trade spending negotiations are not simple. Manufacturers want to know they are getting something for their money. They spend a great deal of time negotiating terms such as COD payment arrangements, annual fees, slotting fees, free products for launches, return fees, reverse logistics fees, new-store fees, introductory allowances, volume pricing, transaction costs, consumer promotions (BOGO/TPR), retailer mentions in external marketing (TV, radio and print ads), retailer circular advertising, and product sampling.
So, how does trade spending work in consumer packaged goods?
Trade spending is a common commercial practice in the consumer packaged goods (CPG) and retail sectors. In practice, consumer packaged goods manufacturers use trade spending to support retail promotions, improve product visibility and encourage sales. The specific arrangements vary depending on the promotional objectives and agreements between manufacturers and retailers.
While this is a normal part of doing business for many CPG and retail companies, the accounting and financial reporting for trade spending varies depending on the type of spending.
Trade spending can represent a high cost for CPG manufacturers. Without careful planning and performance measurement, promotional investments can erode margins without delivering sustainable sales growth. Trade promotions can give retailers room to offer discounts and promotional activities, but excessive or poorly targeted spending can reduce manufacturer and retailer profitability. Ultimately, excessive promotional discounting can weaken a brand’s premium positioning and reduce consumers’ willingness to pay higher prices. Overusing promotional discounts can distort consumers’ price perceptions. As a result, they may perceive the product as having diminished in value.
How to improve consumer packaged goods trade spend
Trade spending in the consumer packaged goods sector can strengthen retailer relationships and support product demand. However, poorly planned or excessive promotions can reduce profitability. Manufacturers can use four approaches to make trade spending more effective:
- Test different promotions: Test promotions across different stores and brands to identify the most effective campaigns. Then concentrate investment where results are strongest.
- Use performance-based incentives: Reward retailers for outselling competitors or increasing product sales within a defined period, rather than relying solely on broad discounts.
- Simplify promotions: Streamline promotional planning and reduce unnecessary ad hoc discounts and reactive campaigns.
- Eliminate or reduce selected promotions: Test the impact of reduced promotions on sales volume and the P&L, particularly for premium brands whose customers may value the product beyond its price.
These approaches help manufacturers identify which promotions generate profitable sales, rather than treating trade spending as a standard cost of doing business. The right approach also depends on the product, retailer, market and customer response, which makes careful testing and analysis important.
The effectiveness of trade spending ultimately depends on how well manufacturers understand the relationship between promotions, pricing, profitability and customer behaviour.
Common forms of consumer packaged goods trade spending
The money manufacturers give to retailers to promote their products is often used in the following ways:
- Coupons: Discounts are generally recognised when customers redeem the coupons. For example, when a customer buys a $5.00 item using a 25% discount coupon, the customer pays $3.75, reflecting a $1.25 discount. The manufacturer and retailer must account for the discount according to the terms of the promotion and who funds it.
- Buy-one-get-one-free coupon: When a customer buys one item and receives another identical item free, the retailer records the transaction based on the total consideration received and the cost of both products. For example, if each item sells for $2.00 and costs $1.00, the customer pays $2.00 for two items. The total cost of goods sold is $2.00, leaving no gross profit on the transaction before other expenses.
- Co-advertising: When a retailer decides to advertise, they commonly invite the CPG company to jointly advertise with them. The retailer pays the full costs of the advertisement and the company reimburses the retailer for a portion of the advertisement. I recommend removing this sentence unless the original author can clarify its intended meaning. The manufacturer generally records the payment as a reduction of revenue unless it receives a distinct advertising service in return. If the retailer provides an identifiable advertising service, the manufacturer may recognize the fair value of that service as an expense. The retailer may record the reimbursement as a reduction of advertising expense when it represents reimbursement for specific, identifiable advertising costs.
The accounting treatment depends on the arrangement. For the manufacturer, payments to retailers generally reduce revenue unless they are made in exchange for a distinct advertising service. For the retailer, qualifying reimbursements reduce advertising expenses up to the amount of the specific costs incurred. Any excess may be treated as a reduction in the cost of sales.
- Slotting fees: The fee paid by the company to the retailer to have its products put on the shelf. For the manufacturer, slotting fees are generally treated as a reduction of revenue unless the retailer provides a distinct good or service in exchange. For the retailer, these payments generally reduce inventory costs and are recognised as a reduction in cost of goods sold as the related products are sold.
How to Best Utilise Trade Spending
Poorly planned consumer promotions can significantly erode both manufacturers’ and retailers’ profit margins. Since retailers want to introduce products to buyers, they offer giveaways and discounts. But if the external marketing strategy is already pulling in the customers, then maybe the retailers can reduce their trade spending. External marketing includes digital media like social media, while traditional media includes radio and print media.
Some manufacturers increase revenue by cutting overheads and improving product quality. However, these cost changes may be offset by increases in trade spending. Often, there is minimal improvement after trade spending is accounted for. The only way to minimise trade spending is to optimise the entire system and boost bottom- and top-line growth.
Much of trade spend optimisation focuses on ‘push efforts’, such as discounts and promotions, rather than ‘pull efforts’ designed to attract customers to stores, such as media advertising.
Spend optimisation
Spend optimisation is organised around push-pull tactics because large retail stores compete for limited shelf space amid competition from other brands and advertising clutter.
The problem with a tactics-led spend optimisation programme, however, is that it quickly eats into profits and encourages consumers to enter ‘pantry-loading’ mode whenever products are discounted. For example, a radio advertisement announces a big promotion, and consumers then go to the store to stock up on items they want and are prepared to buy. Additionally, executing a discount can be risky. Poor implementation could result in lower profits. This could potentially attract the wrong types of customers: people who will only buy from you if there is a discount.
Poorly targeted trade spending can reduce profit margins for both manufacturers and retailers. It can also divert resources from more effective commercial activities. The manufacturer is left to manage serious branding problems as consumers believe their products (even premium ones) are low value. This, in turn, impacts the long-term strategy, as the manufacturer is forced to reduce investments in R&D, product enhancements, and marketing.
Four approaches the manufacturer can use to control trade spending and drive profitability:
To avoid profit loss from a tactical pricing and trade spend strategy, manufacturers and distributors should consider the following approaches:
The input approach: Trial different promotions in different stores. Find which promotion is effective in which store and for which brand. The approach here is to find the hot spots where your campaign is successful. That way, you can allocate more investment to your brands in that store. Also, trial the use of incentives to encourage retailers to put more of the products on the shelves.
The performance approach: This is when you give rewards to retailers if they can outsell their competitors. A variant of this is the bundled approach. Instead of individual sales, the retailer obtains a reward for selling more of its products in a single period. It is up to the retailer what strategy to use to sell the products quickly.
The simplification approach: One way to minimise trade spending is to introduce fewer, simpler promotions. Streamlining promotional planning reduces unnecessary, ad hoc or reactive promotions whenever a new product launches or market conditions change. Temporary price reductions are one promotional option, while everyday low pricing (EDLP) offers another way to maintain consistent prices. EDLP can help manufacturers encourage more predictable purchasing patterns and reduce fluctuations in retailer orders. It also gives buyers greater price certainty.
Reducing promotional dependence to protect margins
The elimination approach: Another approach to try (though some may think this is radical) is to cut back on the promotions for the product. What really happens to volume? Do consumers still buy your products? What’s the impact on the P&L? This approach is best applied to premium brands, while some lower-value products may already be sold using EDLP. Choose products that customers care about and where brand equity is greater than price. While doing this, spend the money on advertising to increase brand visibility and capture more word-of-mouth recommendations. Market share might decrease, but the gross margin percentage per SKU might significantly increase. You can also recoup market share using EDLP and lower-value brands. But again, think about the promotional elasticity here too as you can gain margin and share with strategic discounting.
Mutual benefits for manufacturers and retailers
The relationship between manufacturers and retailers does not need to be antagonistic. A firm understanding of both parties’ commercial positions, margin targets and business strategies can reduce tension surrounding trade spending.
Most manufacturers want a trade spending system that offers incentives to retailers for selling their products quickly, efficiently and at more profitable price points. Why? Like retailers, manufacturers ideally want to increase per-unit gross margin and market share.
Manufacturers realise that retailers want to be recognised and paid for the shelf and floor space they provide to manufacturers. Retailers also put a good deal of effort into promoting manufacturers’ products. Offering retailers performance bonuses for their efforts and effective strategies can benefit both parties. Also, providing retailers with pricing and consumer insights that drive bottom-line profitability and top-line revenue is a great way to keep a strong business partnership, one that rewards good retailing behaviour and grows the share of the pie for all.
Optimising pricing strategies for consumer packaged goods
Optimising pricing strategies for consumer packaged goods (CPG) is crucial for businesses to maximise profits and stay competitive in the market. By carefully analysing market dynamics and consumer behaviour, companies can implement effective pricing tactics.
Firstly, it’s essential to understand the various pricing strategies available. For example, penetration pricing involves setting low initial prices to quickly gain market share, while skimming pricing sets high prices initially to target early adopters.
Next, conducting thorough market research is vital. By evaluating competitors’ pricing strategies and assessing consumer preferences, businesses can determine the optimal price point for their CPG products.
Moreover, considering the value proposition is key. Companies must align their prices with the perceived value of their products to remain competitive while maintaining profitability. For instance, premium CPG brands may justify higher prices by emphasising quality or unique features.
Furthermore, dynamic pricing can be employed to respond to fluctuations in demand or market conditions. For example, businesses can offer discounts during off-peak seasons or adjust prices in real time based on inventory levels.
Additionally, price segmentation allows businesses to tailor prices to different consumer segments. By understanding the varying needs and preferences of different customer groups, companies can optimise pricing strategies to maximise revenue.
Ultimately, optimising pricing strategies for consumer packaged goods requires a comprehensive approach that considers market dynamics, consumer behaviour, and the value proposition of the products. By implementing the right pricing tactics, businesses can achieve their revenue goals while satisfying customer demand and staying ahead of the competition in the CPG market.
Navigating pricing challenges in consumer packaged goods markets
Navigating pricing challenges in consumer packaged goods (CPG) markets requires careful consideration and strategic planning to overcome obstacles and maintain profitability.
Firstly, it’s important to recognise the complexity of CPG markets. With diverse consumer preferences, intense competition, and regulatory constraints, pricing decisions can be challenging.
One significant challenge is managing pricing pressure from retailers. Large retailers often negotiate lower prices with CPG manufacturers to protect their profit margins, putting pressure on suppliers to balance profitability with maintaining retailer relationships.
Another challenge arises from the proliferation of private-label brands. These lower-priced alternatives offered by retailers can undercut branded CPG products, leading to price wars and eroding brand loyalty.
Additionally, fluctuating input costs, such as raw materials and transportation, can impact pricing decisions. CPG companies must carefully monitor and adjust prices to mitigate the effects of cost increases while remaining competitive in the market.
Furthermore, navigating international markets presents unique pricing challenges. Currency fluctuations, import/export regulations, and cultural differences can all affect pricing strategies and profitability.
To address these challenges, CPG companies can adopt several strategies. Implementing value-based pricing, which aligns prices with perceived product value, can help justify higher prices and differentiate products from lower-priced alternatives.
Moreover, investing in innovation and product differentiation can support premium pricing strategies, allowing CPG brands to command higher prices based on unique features or benefits.
In essence, navigating pricing challenges in consumer packaged goods markets requires a proactive approach that considers market dynamics, competitive pressures, and cost considerations. By carefully analysing the landscape and implementing strategic pricing tactics, CPG companies can successfully navigate challenges and maintain profitability in the market.
Implications
- Trade spending is necessary as it is the bridge between the manufacturer and retailer.
- Ultimately, the end receiver of trade spending is the customer.
- Poorly planned trade spending can reduce profits for both parties.
- Varying trade spending strategies, along with carefully planned promotions, can benefit both the manufacturer and the retailer.
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Bottom line
Successful trade promotion strategies are about specifics. Build your price waterfall right from the consumer and track profitability at the SKU level. Different geographical regions, retail chains, product categories, and brands can create opportunities to reduce costs. Also, improving alignment between you and your customer can produce better results for everyone.
To make decent profit margins, companies need to exploit these differences, not wipe them out. Remember:
- Consumer packaged goods trade spending can be beneficial to both parties if the promotion strategy is sound.
- Discounts can be effective even if they reduce profits in the short term, as they may improve profitability in the long run.
- Careful research into different customer segments, such as geographic area, preferred brands and product categories, can increase the manufacturer’s revenues.
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