Retail trade terms and the Power Game

Dear Friends,

In the latest edition of the Game Changer Expert Interview Series, BCG’s Joel S. Weitzman takes a closer look at how companies make the transition from the Value Game to the Choice Game. Joel describes why companies make the move, what they need to understand about their consumers, and what you can do to make a similarly successful transition. You can watch the full video here.

In case you missed them, here are some posts since last week’s newsletter.

Swifties travel across the pond: Thousands of North American Taylor Swift fans are exhibiting a behavior that classical economists can respect. You can read the full post here.

Debating the role of sustainability: Kantar assembled several executives to debate the role that sustainability plays in strategic business decisions and released the comments in a report last month. You can read the full post here.

CPG manufacturers use trade terms or trade spend to help their retail partners go to market competitively with their products, while also ensuring they can earn a sufficient margin. Some CPG manufacturers are now taking a more active role in defining these terms, and as a result, they are reshaping their negotiations with retailers. In this week’s guest contribution, my co-author? Arnab Sinha and I asked our colleague Max Holz to take a deeper look at this new dynamic.

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Retail trade spend and the Power Game

Many CPG manufacturers take a mechanical approach to the trade terms they provide to their retail partners. The vast majority of the funding – which can total between 15% and 30% of the CPG manufacturer’s gross sales – goes into everyday low price (EDLP) measures and promotions, with additional amounts going to other commercial activities.

Manufacturers are often slow to revisit these substantial levels of funding, even when they face rising input costs or changing market dynamics. They are also quick to acquiesce to ad-hoc and occasionally unjustified customer requests for additional support.

This combination of inertia and acquiescence exerts downward pressure on profitability, with the resulting waste estimated in the tens of billions of dollars industry wide. That’s a lot of money for a process that seems to run on autopilot. Manufacturers can mitigate this pressure, however, when they realize that they have considerable agency in how they set their trade terms.

Seizing the initiative in the Power Game

The prices that consumers see at their store shelves usually reflect the Uniform Game. ?But behind the scenes, CPG companies and their retail partners engage in the Power Game, which occurs in markets with high concentration on both the buyer and seller sides. This high concentration and the limited opportunities for differentiation create a delicate balance of power.

As my colleagues point out in Game Changer, the riskiest behavior for any player in the Power Game is to act as if they have no agency. When CPG companies recognize what we refer to as “advantageous asymmetries” in their markets, they can differentiate their trade spend in calculated ways that create mutually beneficial outcomes.

CPG manufacturers in the food and beverage, consumer health, pet food and care, and home and personal care categories are already designing new trade investment structures by linking their trade funding to actionable retailer steps. These steps include feature and display execution, distribution, planogram execution, acceptance of innovations, strategic joint-business-planning partnerships, and ESG agreements.

By seizing the initiative, CPG manufacturers are turning trade terms from a mechanical exercise into a strategic negotiation. The retail partners can win because they earn incremental trade funding if they comply with the actionable steps and can use this incremental funding to invest in price. CPG manufacturers can win because their trade funding has a more direct influence on customer behavior in ways that drive growth.

What’s at stake?

Trade terms have become an increasingly important strategic opportunity, because many large retailers have publicly stated that they will not accept any further price increases from manufacturers. This makes successfully redesigning trade terms an especially attractive lever for CPG manufacturers, because it offers a way to drive sales growth without directly raising shelf prices. Unconditional trade terms would only serve to reinforce the status quo and leave the CPG companies with less perceived agency than they actually have.

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