The Role Pricing Waterfalls Play in Price Optimization
Three steps to using price waterfalls as a key part of your price optimization strategy.
In times of perfect weather and being stuck indoors, the reminder of these amazing natural elements certainly does not help. However, our topic today explores the price waterfall, which helps retailers analyze costs, leaks and all the components that lead to a tranquil margin!
Pricing waterfalls are classic tools used to measure the various steps of how the price for a product cascades down to the pocket margin, also referred to as NET or NET 3 margins. These most commonly align with how retailers identify the various contributors to their margin. Pricing is a very important component of the waterfall – given that it is where it all starts. While the waterfall is traditionally thought of as a system to identify margin leakages, it can also be a powerful tool to enable margin simulations and value chain margin analysis for pricing decisions.
One of the key outcomes of using any optimization tool is to identify the right price based on your demand factors, competitive landscapes and pricing objectives. Not only at the lowest level, but also taking a more macro view and optimizing prices across any section of the business. This helps bring in insights across single or omnichannel sales, KVIs, competitive products, seasonal items and the myriad of combinations to drive a single outcome by factoring in the trade-offs.
The primary reasons for adopting pricing waterfalls are typically to drive higher margins and control the costs. Organizations will usually start with a fixed cost and then derive prices and margin targets. However, there is a growing trend of using proven forecasts and demand projections for cost negotiations. This is where the Revionics price optimization product enables retailers to simulate demand forecasts, margin impacts, and cost changes using an extensive set of tools. Revionics is also able to provide price recommendations for adjusting costs to maintain or achieve a set margin. In the realm of best practices, we recommend approaching price optimization with pricing waterfalls by following the below steps.
Bring In Cost Components:
With pricing waterfalls you need to ingest the various components that impact your cost and margins. While it may not be worth the effort to identify every single cost, you want to get as accurate a picture as possible of what is affecting your margins. With Revionics, our price strategists work with you to identify the best components for the demand science to look at and use in computing the various prices. This helps key in on the components that have the best potential to be ‘optimized’ and are your true leaks in the price waterfall.
Simulate Price Cost Impacts:
While in the context of products or lines, having the ability to simulate the effects of price and cost changes dramatically improves the information and analysis available leading up to decision making. Maybe it is mapping out different negotiating positions with the vendor, or volume commitments, or being able to adjust to planagram changes – in any case, having different options with the trade-offs is key.
Another key aspect of simulating price cost impacts in pricing waterfalls is to also identify if there are competitive drivers to the cost changes. Also consider the history of the competitive position to add another dimension to the analysis.
Drive the Strategy:
It sounds obvious, but strategy trickles down into everything. It drives how everyone thinks about pricing. It influences all of your pricing decision making. And yes it’s cliché, but the devil, as they say, is in the details. While managing pricing waterfalls for a small list is easy, there are trade-offs and gains that come from many other places within the assortment. If there are fixed prices and costs within the price waterfall, balancing those with more flexible options is the key. It may be simpler to analyze within a specific supplier or price family or even a sub-category, but optimization balances all that out. The important thing to note is that the more data you input, the better the outcomes. Think of it as the little paper clip on your excel spreadsheet that magically fills in the numbers for you!
The COVID-19 situation is driving retailers to really look deeply at the value chain. This is a good time to establish best practices and start to do some process mapping within the pricing teams to help drive new insights and more analytically based decision making tools. While you now have the steps to get started with pricing waterfalls for price optimization, I, for one, will be looking forward to an actual waterfall in the now 100 degree weather in Texas.
Learn more about pricing waterfalls from our latest webinar series: