Finding the True ROI of Promotions
by Al Heller
CPGMatters May 2009 issue

CPG manufacturers continue to resist retailer pressure to lower their list prices, and look to be running deeper or more frequent promotions in 2009 instead. After the commodity pricing turbulence of 2008, few feel they can count on cost stability that would allow them to maintain profits on lower everyday prices.

For now, the intensified promotion activity enables retailers to deliver greater value to their customers, who are aggressively seeking to save money.

But this new trade promotion vigor adds risk that CPG manufacturers will subsidize a purchase that would have occurred at a higher price or, in the case of companies with a portfolio of brands, will inadvertently cannibalize performance of their own brands.  The net effect will be a failure to maximize the category sales, margin and total profit lift that retailers seek with each event.

Adding to the danger is CPG manufacturers' anxiety over retailers' attention to private label. Manufacturers frequently try to close price gaps through sharp promotions--even when their true competitive set is really other name brands, and even when their category doesn't lend itself to pantry loading.

"Most CPG companies look at the lift and profit of promotions. But they don't know what they had to give up to achieve that, and whether there was a better way for them or the retailer to improve results," said Paul Thompson, managing director of the Dallas office of Henry Rak Consulting Partners, a Chicago-based consultancy.

"Now more than ever it's important to understand what drives consumer behavior, and to be able to impact the key levers for driving revenue growth," he added.

The consultancy has developed a tool it calls PromoMaster that shows the incrementality of a planned promotion, as well as its cannibalization rate on the rest of the portfolio, and the net effect on the category. For example, if a manufacturer were to promote a 100-count pain relief product, the tool details how the event would affect performance of the 24- and 50-count packages, how it would impact private label velocity, and to what extent it would help or hurt a category overall. "We answer the question: Would the promotion increase category volume or simply trade share among brands," Thompson explained.

This 'net brand effect' principle answers the question:  What is the true return on investment (ROI) of a promotion after cannibalization?  This principle comes from an in-depth understanding of a brand's competitive frame that is based on actual consumer usage and purchase behavior.  This foundational understanding creates a market structure that explains competitive relationships between products. The competitive frame describes where an item competes, how segments are organized, and how consumers use and purchase the promoted item and others that are similar. If an item is new, PromoMaster identifies existing items that consumers would switch from, as well as the incrementality from new users. The tool simulates new items based on where they fit in the market structure.

"In pain relief, for example, if you promote 24-count, you'll get good lift but you're cannibalizing from the total potential of the brand. If you promoted larger sizes instead, you'd have higher retained incremental volume," said Thompson. "You may have a reason for promoting the smaller size, but you need to understand the dynamics."

Also, by bundling the right items together, a promotion addresses a larger set of consumer needs, different users or different usage occasions, and so it tends to be more incremental. Some examples: a pain relief ad that includes full body, headache and muscle pain remedies; or canned and microwavable soups; or powdered soft drinks in stick or multi-serve canister forms. "A CPG brand manager might say, 'if an ad costs me $50,000 at a particular chain, I'll run more items to amortize the fixed cost," said Thompson, who noted the tool's ability to optimize product bundles has grown incremental volume by 27% for its CPG clients, among them Kraft Foods and Johnson & Johnson.

The consultancy's tool has produced in other ways for food and non-food clients:  Across such categories as hot dogs, analgesics, digestive health, upper respiratory, beverages and frozen foods, it has generated profit improvements between $114 million and $306 million for every million spent on trade events. ROI generated by the tool has ranged from $11 to $86 for every dollar spent on specific promotional projects, according to figures disclosed by Henry Rak Consulting Partners.

Overall, PromoMaster helps CPG manufacturers answer such key questions as:

• How can I improve my portfolio's net profitability?
• What promoted pricing best delivers our objectives?
• What are my optimal spending levels?
• What are the category and retailer-specific impacts of the promotion?

Although brand marketers often try to move toward store-specific marketing, Thompson stressed it is an understanding of a brand's true competitive frame and the 'net brand effect' principle that should prevail: "People make purchase decisions and exhibit shopping behavior pretty much the same, regardless of demographics. What varies with promotions is the effectiveness of the tactics and promoted pricing a manufacturer uses."

Al Heller is co-author, Consumer-Centric Category Management (Nielsen/Wiley, 2006) and president, Distinct Communications, LLC.