Tuesday, May 22, 2012

Critical Success Factors In Buying and Running a Store #3- Part 1

Professor Hoch’s second Critical Success Factor is, ‘Manage Your Prices’. This is probably the most difficult item in his list. For most retailers, especially those in the c-store business, there is no rhyme or reason as to why an item is priced the way it is. Generally, all candy of a certain size is priced the same as a matter of convenience to the retailer. Walmart is all about prices. ‘Everyday Low Prices’ to be exact. They pride themselves in giving their customers the IMPRESSION they have the lowest prices in town. Do they really?

As of this writing,  in one of my customers’ stores, a King-Size Snickers weighs 3.2 ounces, comes 24 bars to a box, cost exactly $1.00458 per bar and is selling for $1.59. With the exception of an insignificant increase in size, a King-Size Milky Way bar sells for the same amount, cost the same, and has an identical profit margin, but its profitability is much lower. Why? It’s all about turns, and in this environment, turns are controlled by preference, not necessarily by price. A King-Size Snicker turns 3.3 times faster than the same size Milky Way. So we could say, “Snickers, at least in this size, are 3.3 times more profitable than Milky Ways.”

We can also agree that in this setting, candy prices increase exponentially with size. Preference however, is a binary decision. The customer either prefers a Snickers or prefers something else. Price has little influence in their decision. Some might say that value (in the customer’s mind) increases with price, and this is true in many instances, as is demonstrated by the value perception of Godiva chocolates; however, in the average retail setting, ‘perception of value’ takes a back seat to ‘preference.’ Value does come into play at this level, but it happens when the customer pays at the cash register for all the items in one lump sum. A shopper snatching a candy bar on the way to the checkout stand doesn’t even look at the price, but they do leave the store with a feeling of whether they were dealt with fairly or not.

A quick check on Amazon shows King-Size Snickers sell by the box for $1.42 per bar, and Milky Ways sell for $1.32. Why not raise the Snickers to $1.52? Because Amazon knows, lowering the price of Milky Ways is smarter than raising the price of the Snickers. The preference is there. Value is hardly in the equation. 

Note: I’m aware that king size bars may be discontinued. At this point we are only interested in the math.

Amazon knows something our test store has yet to learn. If you lower the price on slow moving items, you can make a greater profit. Amazon is selling 24 bars to a box at $1.42 each for Snickers and $1.32 each for Milky Way. Now how do you suppose Amazon came up with these numbers? Well, I honestly don’t know, but I’ll bet you Amazon knows. I sincerely doubt the experts at Amazon said, “Let’s drop the price 10-cents and see what happens.”

With these statistics, our test store earns $269 a year in profits on Snickers and only $81.00 from Milky Way. If we raise the price on Snickers from $1.59 to $1.64, the retailer could see an increase in annual profits of $36.57. But, we can’t do this. Why not? Because of the suicide weapons, commonly known as ‘label guns’. Pricing everything in the store to the 9th cent is a huge mistake. Instead, let’s lower the price of King-Size Milky Ways from $1.59 to $1.49 and make a big deal about it.

Do you recall the story about Abe the butcher who sold pork chops for $1.25 a pound? One day, a lady walked in the store and when she heard the price, she objected by saying, “Schultz normally sells pork chops for $1.10.” So, Abe replies, “Then go buy them from Shultz.” “Schultz is out,” the lady said. So, Abe says, “When I’m out, I’ll sell them for $1.10 too.”

There is an important lesson here. Think about it, and we’ll continue on with more of this in the next post.

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