Pricing and Revenue management

________________________________________________________________________________________________________________ HBS Professor John A. Quelch and Heather Beckham prepared this case solely as a basis for class discussion and not as an endorsement, a source of primary data, or an illustration of effective or ineffective management. This case, though based on real events, is fictionalized, and any resemblance to actual persons or entities is coincidental. There are occasional references to actual companies in the narration. HBS thanks Owen Mack of Kitchen Arts for his input. Copyright © 2009 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. This publication may not be digitized, photocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.

J O H N A . Q U E L C H

H E A T H E R B E C K H A M

Culinarian Cookware: Pondering Price Promotion

On November 6, 2006, the vice president of marketing of Culinarian Cookware (Culinarian), Donald Janus, and the senior sales manager, Victoria Brown, met to discuss whether or not the company should offer a price promotion for the company’s line of premium cookware in the coming year. These two executives had very different views on the value of a price promotion and the role it could play in the company’s marketing strategy.

Janus expressed his opinion first:

My gut tells me that offering a price promotion is unnecessary and cheapens our products’ image. We have unparalleled product quality, the most advanced performance technology in the industry, and strong dealer support—all of which argues for standing firm with our suggested retail prices and offering no consumer discounts. Look at 2006 so far: we are on track to grow overall revenue by 21% and we’ve limited price promotion to only our slowest- moving products. Look at the consulting study we commissioned that shows our 2004 price promotion had a negative impact on our profits. I know you feel price promotions are critical to our marketing strategy and that the consulting study had flawed assumptions. Help me understand where you are coming from.

Brown knew that Janus was determined above all else that Culinarian should remain known as a high-quality product and an elite brand—“an American icon” was Janus’s term—and that all good things would flow from that status. He grew wary when he perceived, rightly or wrongly, a hint of a threat to that status. Still, Brown was obliged to be candid. She said:

I believe we need to be bolder with our price promotions. The number one complaint that my sale force hears from the trade accounts is the lack of consistent and meaningful price discount events. Providing a 30% discount promotion will increase commitment and support from the trade and will boost our overall brand awareness. It’ll also provide us with new customers who would otherwise not purchase because they feel the suggested retail is too high and encourage current customers to immediately purchase additional pieces. And yes, I think if the data in the consulting study is re-examined, you’ll see the 2004 price promotion was actually very profitable.

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4057 | Culinarian Cookware: Pondering Price Promotion

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After a one-hour discussion of the pros and cons of price promotion and validity issues surrounding the consulting study’s conclusions, Janus said:

You’ve made some good points and I have a lot to think about. We need to put much more analysis into this decision. I’d like you to dig deeper into the consulting study and provide me with your version of the calculations for profitability of the 2004 promotion. I also want you to consider what we discussed today and provide a formal recommendation on whether to run a price promotion in 2007 and if so, what merchandise to promote, and on what terms.

Background

Market Overview

The U.S. cookware market experienced attractive growth from 2002 to 2006, when it generated approximately $3.36 billion in revenues (see industry sales figures in Exhibit 1). Cookware could be classified by price and quality as well as by material. Cookware was available in aluminum, stainless steel, porcelain-on-iron (POI), cast-iron and copper. Copper was the most expensive category and the first choice of most professional chefs due to superior heat conductivity. Manufacturers of cookware had to balance the need for performance, time-saving features, and aesthetics, with price. A growing trend in premium cookware was the offering of colored designer cookware that matched kitchen décor and product lines endorsed by and branded with the name of a widely recognized television celebrity chef (e.g., Emeril Legasse).

Cookware was purchased either by the piece (open stock) or in a boxed set (ranging from 5 to 14 pieces). A typical 5-piece set included a 10-inch fry pan, a 2-quart sauce pan with lid, and a 4-quart stockpot with lid. Retail distribution outlets for cookware included kitchen specialty chains (e.g. Williams Sonoma), local specialty stores, department stores (e.g., Macy’s), mass merchandisers (e.g., Wal-mart), grocery stores (e.g., Kroger), direct TV sales (e.g., Home Shopping Network), online retailers (e.g., Amazon), and catalogs (e.g., manufacturers’ direct mailings). Sales of cookware were somewhat seasonal due to the purchase of cookware for weddings and Christmas gifts (see Exhibit 2 for a breakout of consumer sales by month).

Top players in the cookware market included Star Chef (mid-level and low-end products) at 18% of market dollars, Kitchen Select (mid-level and low-end products) at 14%, Culinarian (premium products) at 6.5%, Le Gourmand (premium products) at 4%, and Robusto (premium products) at 3%.

Culinarian Cookware

Culinarian designed, manufactured, distributed, and marketed premium performance cookware, generally defined as pots, pans, and similar non-electric tools used in food preparation. The company selectively distributed merchandise through a limited number of kitchen specialty retail outlets and high-end department stores. Brown felt the retail sales team was critical in communicating Culinarian’s value proposition of performance, durability, and quality. A comprehensive training program was provided for all retail sales clerks.

In 2006, Culinarian’s CEO, Audrey Roux, established four strategic priorities for the company: (1) widen its distribution network, (2) increase its market share of the premium cookware segment, (3) preserve its prestigious image, and (4) continue to capture revenue growth of at least 15%, while maintaining pretax earnings margins of 12%. Revenues in 2006 were forecasted to be $104 million with pretax earnings of $12.5 million.

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HARVARD BUSINESS SCHOOL | BRIEFCASES 3

Culinarian Consumer Research

Janus and Brown had pored over three consumer research studies to obtain insight into the market and Culinarian’s target customers. The first study had been conducted in 2003 by the Orion consulting firm. Orion was an independent firm that routinely conducted market research on kitchen products such as cookware, bakeware, and small kitchen electrics. Key findings from the 2003 survey are summarized in Exhibit 3.

Culinarian also conducted market research with its own customers. In 2004, the company received questionnaires from a sample of 1,500 consumers who had completed warranty cards for Culinarian products in the past five years. The results of the study revealed that 75% of its customers were 30 to 55 years of age; 82% were women; 70% had household incomes over $75,000 and 60% considered cooking to be their number one hobby. Product performance and durability were regarded the most important features in selecting cookware.

A 2005 telephone survey commissioned by Culinarian included a random sample of households that had purchased cookware in the last year. The survey revealed that unaided brand awareness for Culinarian ranged from 15% for respondents with household incomes under $75,000 (17% for Le Gourmand, 14% for Robusto) and 25% for those with household incomes over $75,000 (30% for Le Gourmand, 28% for Robusto). Star Chef and Kitchen Select both commanded unaided brand awareness levels of 35% for respondents with household incomes under $75,000 and 45% for those with household incomes over $75,000. When asked if they recalled having seen Culinarian advertisements, 4% of survey participants answered “yes.”

Culinarian’s Marketing Mix

Products

Culinarian product features focused on advanced performance technology for serious cooks. Culinarian was the leader in metallurgy technology and was the first manufacturer to provide the benefits of copper cookware with effortless cleaning and maintenance. The company offered four product lines: The Tyro Collection (CX1), The Classic Collection (DX1), The Advanced Chef Collection (SX1), and the Professional Grade Collection (PROX1). Exhibit 4 provides information on each line’s 2006 average retail price and a summary of trade orders from the spring and summer of 2002 to 2006. The most expensive line was the PROX1, which offered a patented copper construction. The SX1 and DX1 were similar in style to the PROX1, but used a stainless steel exterior with aluminum center for the SX1 and an aluminum exterior and center for the DX1. The CX1 was the lowest-priced line and had the least-advanced technology and features.

Sales and Distribution

The company had very strong relationships with retailers, and therefore each retailer carried all four product lines. Retailers were enthusiastic because they could capture a higher level of profitability with Culinarian products versus competing products. Gross margins for retailers averaged 52% for Culinarian products (Le Gourmand and Robusto merchandise averaged 48%). Culinarian was highly selective in choosing retail outlets as partners. The company’s products were sold through a network of three upscale kitchen specialty chains (36% of trade orders), the Bloomingdales and Nieman Marcus department store chains (32% of trade orders), and 75 local specialty stores (27%). Approximately 5% of orders came from direct sales via the company website and catalogs sent to existing customers twice per year.

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4057 | Culinarian Cookware: Pondering Price Promotion

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The Culinarian sales force included eight experienced account managers (each had been with the company at least seven years) who received approximately 60% of their compensation as a base salary and 40% in incentive pay from exceeding sales quotas. Account managers visited major accounts once per month to highlight new products, offer retail sales training on product technology and features, and provide inventory management suggestions. The sales forces of competitors Le Gourmand and Robusto averaged only six sales visits per year. Culinarian’s account managers also oversaw a unique retail merchandising incentive program built around a point system that rewarded exceptional retail clerks with free cookware.

Advertising

In 2006, Culinarian was forecasting $4 million (4% of sales) in advertising expenses (advertising expenditure for the company is provided in Exhibit 5). By contrast, Le Gourmand and Robusto would spend approximately 3% of sales on advertising in 2006. Industry leaders Star Chef and Kitchen Select were estimated at $13 million (4% of sales) and $10 million (4% of sales) respectively on advertising. The majority of Culinarian’s advertising budget went toward its national advertising campaign. The campaign focused on magazines (e.g., Bon Appétit, Cook Illustrated, Martha Stewart Living) and newspapers (e.g., USA Today) targeted at high-income audiences. Culinarian’s cooperative trade advertising was a fraction of competitors’ Star Chef and Kitchen Select due to the company’s strict requirements regarding the type of publication the trade could use (e.g., no newspaper advertising would be supported). Culinarian would subsidize cooperative trade advertising only for retailer catalogs, direct mail, and magazines that Culinarian already utilized for its national advertising campaign. Because of these restrictions, Culinarian products and promotion programs were seldom advertised by the trade.

Pricing and Promotion

Janus felt Culinarian’s pricing policy should reflect its high-end status. Suggested retail price points were in round dollars (e.g., $200.00) vs. .99-cent pricing (e.g., $199.99), which Janus believed signified bargain products. In order to discourage retail outlets from instituting discounts on Culinarian list prices, suggested prices were pre-printed on each product’s packaging.

After the sales force reported that all three of the kitchen specialty chain accounts and the majority of their independent stores were demanding price reduction events, Culinarian offered its first price promotion in 2004. The objective of this promotion was not only to appease the trade, but to broaden its customer base and stimulate excitement for the brand at consumer level. A 20% consumer discount was available to participating retailers on all pieces in the CX1 Tyro Collection line from April 1 to May 31. As was standard in the industry, Culinarian notified the trade and provided details about the promotion in advance of the program’s actual dates. The price promotion was announced January 1, 2004, and the trade could place orders at promotional prices for products delivered March through May. For consumers to receive their full 20% discount, Culinarian requested each participating retailer to accept a 48% margin instead of their usual 52%. Although Culinarian did not feature the price promotions in any of its national advertising, several retailers ran local advertisements featuring the discount. A total of 184,987 units of CX1 pieces were sold to the trade during the promotion. Reports from the field sales force led Culinarian management to believe approximately 50% of all retailers actually passed along the full 20% discount to consumers, while the actual discount averaged 10% for the remaining retailers. The company had inserted in the promoted pieces special warranty cards that customers mailed postage-free to Culinarian. From customer responses to questions on these cards, Culinarian was able to determine that 80% were from households who already owned one or more Culinarian product, 70% felt the price discount was

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HARVARD BUSINESS SCHOOL | BRIEFCASES 5

important or very important in their purchase decision, and 15% would consider upgrading to the DX1, SX1 or PRO1 lines for their next purchase.

To further increase penetration of consumers in the premium segment, another 20% Culinarian price promotion ran in May 2005 on its popular 10-inch fry pans, 2-quart sauce pans, and 6-quart stock pots in the CX1 and DX1 and SX1 line. Trade partners were again expected to adopt the 48% margin for the promotion. Culinarian featured this promotion in advertisements in four national magazines. Participation for this promotion caused a surge in orders that Culinarian’s manufacturing plant could not handle—several backorders had still not been filled by June 2005. Janus was also concerned when June, July, and August orders for the pieces in the promotion dropped well below 2004 levels. Janus felt the trade was overbuying during the promotion period, then later selling a portion of the discounted products at normal prices and pocketing the difference. As a result, Janus mandated that promotions be scaled back, and in 2006 a 20% price promotion was offered on only the slowest-moving CX1 and DX1 pieces. Several retailers complained that this promotion was of little value to them and Culinarian saw only a slight increase in trade orders for these pieces during the promotion period.

Culinarian also ran at least one promotion each year that offered a gift with purchase (e.g., free Dutch Oven with $500 purchase of select merchandise). Consumer feedback showed enthusiasm for these programs and sales for the promoted pieces increased an average of 15% each time a gift was offered. Janus felt these promotions were ideal because they could be offered without a reduction in list prices. Retailers, however, had not been excited about these promotions. Stores were often confused about how many of the gift products to order and they felt the gift products took up too much valuable floor space without generating any associated revenue.

Premium producers Le Gourmand and Robusto never ran price promotions. However, both companies often ran promotions that offered gifts with purchases. Both Star Chef and Kitchen Select ran regular price promotions, several times a year. Traditionally, their price promotions corresponded with peak sales months, such as November/December (Christmas) and May/June (wedding gifts). Retailers preferred to run one price promotion per manufacturer at a time versus overlapping several manufacturers’ promotions in the same month. By spacing out the price promotions, the retail outlet could provide a more steady flow of traffic building discounts.

Analyzing the 2004 Price Promotion

Janus had engaged outside consultants to assess the profitability of the 2004 price promotion. Using a computer-generated model,1 the consultants determined that normal sales, without the promotion, would have been 119,504 units for March through May. They also gathered pricing and cost data for the promotion pieces (Exhibit 6). Applying the formula {(actual units * actual contribution) – (forecast units * normal contribution)} = incremental contribution impact, the consultants concluded that the promotion lost $469,489 in contribution.

Using another time series analysis, the consultants determined sales of the DX1 line in the Spring of 2004 should have been 134,180 units (actual sales were 129,386). As a result, the consultants felt cannibalization of the DX1 line should be included in the profitability analysis. They estimated $99,332 in contribution was lost due to this cannibalization. On the positive side, the consultants estimated that Culinarian saved approximately $39,540 in inventory costs because the company

1 This time series analysis utilized 10 years of sales history as well as proprietary economic and industry models the consultants had developed from working with several companies in the Housewares space.

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4057 | Culinarian Cookware: Pondering Price Promotion

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dipped below normal inventory levels when manufacturing fell behind when trying to produce enough products to fill the spike in orders.

Brown felt the consultants’ analysis was flawed for three major reasons:

1. She believed the normal sales figures were too high. Brown reviewed sales order data for the CX1 product line (Exhibit 7) and discovered that March–May orders for 2003—the prior year—totaled 78,778 units. She further noted that CX1 sales orders in the first two months of 2004 were 24% below the first two months of 2003. Therefore, she felt the most accurate method to forecast 2004 March–May “normal” sales was to set them 24% below the 2003 sales for that same time period. By Brown’s calculation, “normal” sales during the promotion period would thus have been only 59,871 units.

2. Brown did not agree with the overhead cost allocations that had been added to the variable cost estimates. She felt that variable costs estimates should include only labor and raw materials, which totaled $38.64 per unit.

3. Brown believed there was no reliable way to calculate cannibalization costs and inventory savings, and should therefore be left out of the analysis.

For these three reasons, Brown felt that the consultant’s estimate of negative profitability for the promotion was inaccurate. To the contrary, she felt the promotion made a positive profit contribution.

Next Steps—Including a Plan for 2007

Senior Sales Manager Victoria Brown knew that Donald Janus was skeptical of price promotions. She wanted to take a step back and think critically before making her recommendation to him. First, she had to clearly explain her perspective on the profitability of the 2004 promotion. She wanted to lay out the consultants’ assumptions, next to her own, for Janus to examine. Second, taking into account the previous analysis and the strategic objectives of the company, Brown would then need to determine what kind of price promotions, if any, should be recommended.

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HARVARD BUSINESS SCHOOL | BRIEFCASES 7

Exhibit 1 US Retail Sales of Cookwarea ($ in millions)

2002 2003 2004 2005 2006E

Cast Iron, POI, Copper $ 505 $ 556 $ 589 $ 873 $ 1,124 Stainless Steel $ 507 $ 754 $ 873 $ 955 $ 1,082 Aluminum $ 1,103 $ 1,134 $ 933 $ 1,079 $ 1,130

Total $ 2,115 $ 2,444 $ 2,395 $ 2,907 $ 3,336 Growth 16% -2% 21% 15%

a A prolonged transfer of manufacturing operations by a major aluminum cookware supplier disrupted shipments for 6 months in 2004

Source: “Cookware – US.” Mintel International Group Limited. November 2007.

Exhibit 2 Percentage of Consumer Sales by Month (2005)

January 6.1% July 8.4%

February 6.7% August 8.1%

March 6.9% September 7.0%

April 7.0% October 6.5%

May 9.4% November 9.5%

June 10.4% December 14.0%

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4057 | Culinarian Cookware: Pondering Price Promotion

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Exhibit 3 Key Findings from Orion Market Research Study of Households with Income over $75,000, June 2003

• 50% owned at least 5 pieces of cookware, and 25% owned over 12 pieces.

• 32% had purchased their cookware in a mass merchandise outlet (e.g., Wal-mart), 29% in a department store (e.g., Macy’s), 24% in a kitchen specialty store (e.g., Williams Sonoma), and 15% categorized the retail outlet as “other” (e.g., internet, catalog, Home Shopping Network).

• 30% cited price as the most important criterion in selecting cookware, 10% cited it as the least important criterion.

• 25% would look for cookware that “matched” the current décor in their kitchen.

• In order of importance, the respondents ranked the following criteria: (1) Quality, (2) Features, (3) Price, (4) Brand Name, (5) Ease of Use, (6) Shape, (7) Professional-looking Pieces, (8) Aesthetic Design, (9) Color.

• 50% believed they would favor a brand of cookware they recognized; 35% said they would not.

• 30% stated that in deciding where to shop for cookware, they would be drawn to stores with attractive displays; 25% preferred a full-service store with an informed sales staff; 20% would “wait for a sale, then go there to buy”; 10% said they might respond to TV, radio, magazine, or newspaper advertising.

• 55% either received cookware as a gift or purchased it as a gift.

• 39% watch television cooking shows and 18% purchase cookware seen on television cooking shows.

• 30% would be motivated to buy new cookware because of a price discount; 20% would be motivated to buy because of a free gift with purchase.

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4057 | Culinarian Cookware: Pondering Price Promotion

10 BRIEFCASES | HARVARD BUSINESS SCHOOL

Exhibit 7 CX1 Line Trade Orders: 2002–2004

2002 2003 2004

January 11,661 46,201 26,133 February 10,314 20,267 24,711 March 14,412 27,717 47,191 April 38,870 24,982 89,423 May 37,965 26,079 48,373 June 21,137 29,420 39,605 Total Spring Season 134,359 174,666 275,436 Total Fall Season 131,683 222,544 184,356 Total Year 266,042 397,210 459,792 Year Index 100 149 173

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