Following a couple of quarters of slow growth, the South African economy is in technical recession1; a first for the country since the global crisis of 2008/2009. This current recession is as a result of the market contraction of 2.6% in Q1 2018, and 0.7% in Q2 20182; reportedly driven, mainly by the decline in agriculture and transport sectors3.

Economic recessions are known to foster changes in consumer spending4. Suppliers in the Business-to-Business (B2B) as well as the Business-to-Consumer (B2C) spaces experience changes in behaviours of their customers. During recessions, customers become increasingly aware of prices and are more price sensitive. They are also more likely to increase savings while deferring non-essential purchases. A study by the Bureau of Labor Statistics in the

U.S. highlights some of these behavioural changes, e.g. in the consumables space, spending on food replaces other less-essential items, while eating at home substitutes eating out. In the durable goods space, e.g. automobiles, spending on cars declines, while purchase of old cars substitutes new car purchase.

Pricing in recession

ReferencesBureau of Labor Statistics. (2014, June). How does Consumer Spending Change During Boom, Recession, and Recovery. Retrieved from Bureau of Labor Statistics: https://www.bls.gov/opub/btn/volume-3/how-does-consumer-spending-change-during-boom-recession-and-recovery.htm

Fin24. (2018, September 04). Fin24. Retrieved from Fin24: https://www.fin24.com/Economy/sa-in-technical-recession-as-second-quarter-gdp-falls-20180904

Meehan, J., Simonetto, M., Montan, L., & Goodin, C. (2011). Pricing and Profitability Management: A Practical Guide for Business Leaders. Wiley.

Nagle, T., & Muller, G. (2017). The Strategy and Tactics of Pricing. Routledge. Retrieved from Deloitte.

Stats SA. (2018, September 04). The Economy Shrinks by 0.7% in Q2: 2018. Retrieved from Stats SA: http://www.statssa.gov.za/?p=11507

Sellers respond by deploying defensive tactics. Following the ensuing revenue declines, sellers often look to:

Reduce their costs through company-wide cost cutting initiatives, and / or

Preserve volumes by discounting prices, or providing additional value at same prices

These volume-related practices are particularly common during recessions as sales teams are under increased pressures to meet their quarterly targets. The implications of these practices are often not well considered by the companies; they tend to tackle the immediate challenges at the expense of longer-term profitability. For example, a beverage manufacturer in South Africa gives periodic discounts on a key product range. This practice was found to leave money on the table for customers that were willing to pay full price. In addition, it created increased price sensitivity as discerning customers learned to time their purchases to enjoy the discounts, thereby lowering willingness to pay.

Furthermore, companies fail to recognise how their pricing decisions shape competition responses. In another example, a major consumer goods manufacturer in South Africa complained about how continued discounting by competition was hurting industry margins. However, the company neither recognised its role in the situation nor the opportunity to correct it. This is partly because most marketers are more familiar with traditional levers that risk falling into the trap of price wars or value wars (which may persist long after market recovery).

Successful case-studies exist where companies have deployed sustainable pricing tactics to weather through such situations. The Strategy and Tactics of Pricing5 book published in its sixth edition by some members of the Deloitte Pricing and Revenue Management practice articulates a number of such case studies.

Below, we have highlighted a few of several models that have delivered success:

Value managementRecognising changes in customer value requirements during recessions, some companies have effectively removed non-essential features that in turn lower their cost-to-serve. This approach defends profitability by preserving volumes and / or unit margins. Similarly, some companies have successfully defended their profitability by actively promoting lower-priced offerings to price sensitive segments while improving price realisation from non-sensitive segments.

Sales team effectivenessAs stated above, sales teams are often more inclined to drop prices after facing increased pressures from buyers, thereby fostering margin leakages. Some companies choose to further enable the sales teams (e.g. through training, technology support and incentives) to shift the focus of their negotiations from price to value.

Unused capacity deploymentFollowing recession-driven volume declines, some organisations have successfully targeted non-customers through non-traditional channels. This for example, can be achieved by providing lower priced offering configurations that do not threaten future price realisation from their target segments.

Underinvesting in pricing-opportunity identification and execution is rampant across organisations despite the significant profit uplift potential that is at stake. Businesses must explore pricing opportunities to optimise growth and profitability while preserving industry margins.

By Andrew Lane, Director, and Yasin Masha, Senior Manager, Monitor Deloitte South Africa

Profit Impact of Pricing

Effective pricing can enable a company to evolve through market downturns and drive growth. The chart below illustrates a version of the often cited profitability benefits of pricing. As shown in the Pricing and Profitability Management book from members of the Deloitte Pricing and Revenue Management practice, pricing provides the strongest profit uplift potential (amongst key profit equation levers):

3.6%

Price Variable CostsUnit Volume Fixed Costs

6.7%

2.6%

1% Improvement

Operating Profit Impact

Source: Compustat , Deloitte Analysis (Accessed from Pricing and Profitability Management)Note: Impact estimate is based on average Fortune 1,000 company

12.3%

1. (Fin24, 2018)2. (Stats SA, 2018)3. (Fin24, 2018)4. (Bureau of Labor Statistics, 2014)5. (Nagle & Muller, 2017)

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For more information, please contact:

Andrew LaneDirectorMonitor Deloitte, South AfricaEmail: alane@deloitte.co.za

Yasin MashaSenior ManagerMonitor Deloitte, South AfricaEmail: ymasha@deloitte.co.za

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