The post-COVID economy, characterized by stubborn inflation and continued supply-chain logjams, has caused prices on many consumer goods to skyrocket in the last year, putting retailers in a bind. Faced with demand uncertainty, retailers are often forced to make a decision when a new item initially sells poorly: adjust the price or take that product off their shelves.
According to a new study published in marketing journal Marketing Science, several specific variables often make retailers reluctant to adjust prices on a new inventory that’s underperforming. Moreover, retailers’ reluctance to lower that item’s price is often the reason why those products fail.
The study, which sought to understand what influences a retailer’s decision to adjust product prices, focused on “price frictions,” or obstacles that make it more difficult or less cost-effective for retailers to lower prices.
While it’s generally understood that price frictions limit the frequency of price changes, the study found that price frictions also contribute to new products’ outright failure. Specifically, the study discovered that when price frictions are high, retailers generally respond not by adjusting prices but instead by simply discontinuing that product altogether.
Retailers often make adjustments to an item’s initial price in order to generate sales. Traditionally, higher-than-usual inventory, sluggish customer demand—often caused by inflation, which can even hurt holiday shopping seasons—and recessionary economic conditions are among the reasons why retailers discount an item’s price.
But sometimes, certain roadblocks—or “price frictions”—make retailers hesitant to reduce those prices to generate sales, even when initial sales are sluggish.
To evaluate when and how retailers decide whether to lower prices or discontinue the sale of underperforming new products, the study’s authors identified new, poorly-performing retail products spanning 30 categories being sold at stores in 47 U.S. metropolitan areas. Researchers also aimed their focus on new stores, based on the assumption that operating in an uncertain environment, new retailers will be more likely to make price adjustments after observing low initial sales of a new product.
The study identified three common reasons why retailers may be reluctant to adjust the price of a new product. The first involves the timing of price changes on related products. The second involves state price-labeling laws, which require that retailers label every item in a store with a price sticker, thus incurring additional labor costs anytime prices need to be lowered. The third is when a product’s price ends with .99¢, a price which retailers are often hesitant to change, given that number psychologically conditions consumers to see a bargain.
The study suggests that while all three of these “price friction” variations are distinctly different, the greater the price frictions that are stacked against an item, the higher the likelihood that the item will simply be discontinued, as opposed to receiving a price adjustment.
The study’s authors conclude that understanding the role these variables play in the discontinuation of items may help manufacturers and retailers better decide when and how they introduce new products.
“If manufacturers and retailers recognized the relationship between the timing of new product introductions and the scheduling of price changes, and they believed this relationship was causal, it seems likely that at least some of them would try to adjust the timing of their new product introductions. Although manufacturers often introduce new products at the same time at different retailers, they may instead want to adjust the timing of new product introductions at some retailers. This could provide more price flexibility if initial sales are low.”
The study’s findings appear in the current edition of Marketing Science, a peer-reviewed marketing journal published by the Institute for Operations Research and the Management Sciences (INFORMS). The study, “Price Frictions and the Success of New Products,” was authored by Diego Aparicio of IESE Business School in Barcelona, Spain, and Duncan Simester of the Massachusetts Institute of Technology.