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    Rebate Debate

    Retailers find themselves torn between the benefits and pitfalls of manufacturer trade programs.

    ¿ Rusty Relations
    Study shows most manufacturers not responding to retailers' needs.

    Retail display allowances, slotting fees, rebates, discounts: Call them what you will, but by many retailer accounts, manufacturer trade marketing programs are a double-edged sword.

    "While some convenience store operators view trade monies and the merchandising agreements attached to them as insurance against new-product risks and compensation for practicing a supplier’s vision of category management, others charge manufacturer programs keep retailers focused on the buy rather than the sell, stress brand over category, cripple their ability to realize the best possible return from their valuable shelf space and, at their worst, prevent fair trade.
    All agree, however, in the wake of volatile market dynamics — including a decrease in tobacco dollars from up to 80 percent of a retailer's total trade monies five years ago to just 30 or 40 percent today — changes are coming their way.

    "The retailers' economic model has changed. The industry has come to realize cigarette trade funds subsidized a lot of sub-optimal merchandising decisions," said David Bishop, of Willard Bishop Consulting, based in Barrington, Ill.

    "Trade marketing is still a cost of doing business for manufacturers and critically important for the financials of the industry. Trade programs won't change overnight, but they are changing."

    So far, many of those changes have not been for the better, retailers complain. For instance, one operator reports, some manufacturers are moving away from menu-driven programs with multiple levels of participation —some funds tied to displays, some to performance, others to promotional activity, for example — to yearly contracts with little flexibility, especially in terms of new-item placement. The result: unworthy products sitting on the shelf and little room to practice true principles of category management.

    "The more I dig into this, the angrier I get," said one marketing executive with a chain of more than 100 stores, who for obvious reasons didn't want to be identified. "There is a trend now for suppliers to offer you one fund and you have to do three or four elements to get it. What if I don't have an endcap available? Why should I have to pick your program [in its entirety] and give you an endcap, and give up all the other programs?"

    One confectionery maker, he said, recently offered his chain an annual contract that pooled all of its trade dollars into one program. "It's all or nothing," the retailer said. "If we don't planogram their new items within 90 days, we will lose their rebate — and I have to take all of the new items. If we go along with this, it will mean making room for their [lesser] items by getting rid of Topps [items] and Momints, which may not have big funds attached to them, but based on sales deserve a space in my stores.

    "They even said we'd have to take the $1,000 they usually give us for our charity event out of that single fund."

    On the other hand, a program such as Hershey's (see Convenience Store News, April 18, Page 12, or "Hershey Gains C-Store Ground With 'Top Performer Program'" at www.csnews.com) is the type of plan this retailer can live with. "I can pick and choose how much I participate," he said. "And you don't mind throwing a bone to a manufacturer with a decent program to help one or two items. There is a big difference between giving up space for two items [that may not justify it based on sales] and 20.

    "More and more companies, which in the past had maybe a 3 percent rebate, for example, will now give you 5 percent — or zero. And you have to jump through hoops to get the 5 percent. With these kinds of programs, soon you will be able to partner only with a couple suppliers in each category. That may or may not be good for our business."

    He prefers to see programs that are menu-driven, with each element assigned a value. "Then, I can pick and choose what is good for our marketing strategy and make good, realistic decisions on each element, so that the program turns out to be win-win."

    While a lump-sum yearly contract tied to many elements can be very efficient for manufacturers, allowing them to better forecast production, cut visits to headquarters and arguably pass on related efficiencies to the retailer in the form of lower product costs, this retailer said such contracts rarely benefit the retailer.

    "They say, 'Let's get this done for the year, you don't have to worry about it and you can take care of the rest of your business.' But the business is changing so much, it's hard to commit for a full year," he opined. "You start second-guessing yourself and in the third or fourth quarter say, 'Agh! I have to live up to this commitment or lose it all!' It used to be, 'If I don't do this one element, I'll lose 1 percent.'"

    He believes this type of program exists because many mid-sized chains are enamored with 5 percent to 8 percent rebates, eagerly signing yearly contracts to get them. "But in the past, where they may get a free fill for a new item, they are now contractually obligated to take the item and are not getting that free box per store."

    With the state of trade programs in flux, this marketing executive soon will formalize a trade program policy, based on his chain's category management principals, to give to all suppliers.

    Who Needs 'Em?

    The management team at one aggressive chain of fewer than 50 stores has a simple policy regarding trade-marketing programs: We don't want them, we don't need them — we are ringing up more profits without them.

    "Rebates in our channel are nothing more than artificial marketing devices to stimulate behavior," said the chain's president, preferring to remain unidentified. "Be it beef jerky or carbonated beverages, if the going price is $10 a case, the manufacturer will mark it up to $15 to try to 'incentivize' you down to $10 to stimulate merchandising behavior. There is restraint of trade inherent in that, because when you allocate space beyond the parameters of a day's supply, essentially you are committing space that should not be committed, preventing some wonderful, fun new products from coming to market."

    This chain's management team saves its harshest criticisms for the carbonated soft drink industry, which they say is guilty of discriminatory, unfair pricing practices. "It is the mother of all rebate fiascos," the president said. "We look at a list price of more than $20 a case, they throw in artificial discounts to get you down to $18 or $15 a case. But Wal-Mart is selling the same case at $9. A supplier can put 1,000 cases of non-refundables in a truckload, so essentially you are looking at a price differential of $8,000 between our cost and Wal-Mart's retail for a truckload. You could have Harvard MBAs delivering soda bought at Wal-Mart to your stores in BMWs for less than that."

    The result: An increasing number of retailers are diverting, warehousing and distributing product to their stores, he said. "A c-store operator can import product from Texas and deliver it to himself in [the Midwest] for less than the soft drink bottler will deliver it to him in the same truck that services Sam's Club. It's inherently unfair. Think for a moment if the cigarette companies extended a quarter-per-carton discount to Wal-Mart or Costco beyond what they offer c-stores. It would be scandalous!"

    Even so, this retailer doesn't blame the soft drink companies. "They are doing what is in the best interests of their shareholders. But there is almost an intellectual vacuum in our industry. It is remarkable we pay almost twice per fluid ounce. It's harmful for our channel and the consumer is getting screwed."

    It appears, he said, the c-store channel is subsidizing many manufacturers' inefficiencies. "One soft drink company said because of the petroleum increases, the cost of transportation and plastic went up. We understand that. That is legitimate. But their business model is so grossly inefficient. Why are there 12 people calling on me instead of one? Why not just send us a memo? Tweak your business model if you want to talk about a price increase, or go charge the other channels that we've been subsidizing for decades. Get the extra 25 cents a case from Wal-Mart."

    The problem, he said, is when suppliers call Wal-Mart or Costco, "they are greeted by true category managers.

    "They do as our company does: They tell the manufacturers, 'I will be running the product at $9 a case and want to make no less than X percent on it.' Because the manufacturers' average margin per case is then reduced, they must go somewhere else to make up the difference and they go to the channel that is dumbest of all — ours."

    If suppliers balk at his approach to trade partnering, this retailer tells them to take a walk. "We say, 'We don't care what you make, but you aren't going to make it here. Go down the street and charge that guy $10 a case instead of $8. We will divert the product from Sam's. It's a hassle, but we can take that hassle all the way to our bank."

    Another pet peeve: Manufacturers who justify asking for large sums of space based on market share. "We will not even accept conversation with suppliers linking dedicated space to market share, because we have not found any science that supports the logic for that," he said. "If you need one-third of the shelf space to meet a day's supply, why give them 50 percent? These theories have been repeated thousands of times and have become conventional wisdom and are now accepted practices that are detrimental."

    After recently walking away from agreements in the carbonated beverage and salty snack categories, the chain has experienced the most successful three years in its history. Store volume is up 17 percent in a relatively depressed market area.

    One change: The chain no longer brings Frito-Lay products into its stores via direct store delivery. "We explained to Frito-Lay the parameters of our model, what we expect to pay for direct shipment and told them they would find out where their products were displayed when they came into our stores. We own the product; we don't need to be coerced."

    Today, the stores sell two other brands of salty snacks and the retailer brings in a few Frito-Lay SKUs, primarily Doritos, through wholesalers. "The category is exploding, because our price point is competitive with supermarkets. Plus we have picked up 30 points — yes, 3-0 — of margin in the process.

    "The DSD formats in our channel are among the most inefficient venues of distribution known to man. They are of more interest to archaeological study than contemporary logistics practices. They are horrific."

    If DSD vendors asked this chain's team to commit to a set number of cases per year so that they could better align their manufacturing or otherwise increase efficiencies, they'd consider the request. "But for the volume we do, we're willing to take the product in one location [at a much lower price] and redistribute it," the president said.

    The idea that any manufacturer will support appropriate category management practices "is a fallacy," this retailer charged. "It is such a naïve inclination. Even if they were category leaders, with 50 percent of the market share, the appetite for category control increases."

    What's more, he said, few manufacturers offer operators the same program. "The Evil of All Evils used to be Philip Morris — the company everyone loves to hate. But they have one price, one program. Not one single entity, independent of size, has coerced them to change that program. It is the same if you have two stores or 2,000. If there is any company that should be put on a pedestal for its integrity, it is Philip Morris."

    Of course, not all retailers have an adverse reaction to trade contracts. "The programs won't work for everyone, but it is the retailer's choice," said Tim Cote, director of marketing for Plaid Pantries Inc., operator of 100 stores based in Beaverton, Ore. "Our vendor partners need us to sell product. Clean- floor policies, everyday low pricing, pure category management is fine for the retailer, but it needs to be tempered with an understanding of your vendor partner's needs — which is simply profitable volume.

    "Why is Wal-Mart partnering with its vendors? It isn't about pretty stores. It is volume, and they are rewarded for it, as they should be. This is our chance to be rewarded for our ability to drive a manufacturers' volume."

    While some manufacturer trade programs make it difficult to partner with many other suppliers in a category, Cote is fine with this reality. "It is better to have five great partners than 10 weak partners. I believe a retailer needs to find a select group of partners to make a statement with their brands, to build his own brand. Stand for something! Just like a retailer cannot be all things to all customers, we cannot be all things to all of our suppliers."

    Still, the reason retailers sign trade agreements, is, simply, they need the money, Bishop said. "If some retailers walked away from trade dollars, their business model would be in somewhat dire straits. The cost structure in place wouldn't necessarily be able to support broad abandonment of trade programs."

    Many retailers' net profits were equal to or less than the amount of trade dollars they receive, Bishop added, citing a 2001 industry study. "That illustrates the tremendous pressure on retailers to focus on making money on the buy, as well as making money on the sell."

    At the same time, manufacturers aren't ecstatic over the state of trade marketing. Most feel the payback on the trade funds being doled out is less than stellar, according to Trade Promotion 2005, a study by Cannondale Associates, of Evanston, Ill.

    Consequently, manufacturers are fine-tuning their programs. "There is less 'Do this and you will get this money' and more 'Sell X and you will get Y,'" Bishop noted. "There are more manufacturers telling retailers they will give them a base fund based on last year's volume to reduce their costs, and if they exceed that, the retailer will get an additional volume discount, essentially paying them a bonus."

    Some manufacturers are acknowledging once heavy-handed tactics and say they are looking to better partner with c-store operators and address their concerns.

    "We can only succeed if c-stores do well," said Dana Bolden, a spokesperson for Philip Morris USA. "We look at trade funds as an opportunity for us to provide an incentive for c-stores to partner with us. We want to be a partner and not a manufacturer dictating to a c-store what they should or shouldn't be doing. That has been one of the learning experiences for us over the last year — communicate more and listen to feedback. We think we've grown in that regard."

    Despite retailer complaints, many manufacturers contend their trade programs make sense for them and their customers. In the cooler, Coca-Cola USA has refined its approach to category management to consider roles, strategies and tactics at the product-segment level, rather than the category level, said Jim Gulley, director, small store channels. "Carbonated soft drinks, for example, require different marketing plans for immediate-consumption packages than for future-consumption packages. This more detailed approach informs the manner in which we allocate our resources and advise retailers to allocate theirs."

    The company's primary objectives: increase purchase incidents, build strong brands and use space efficiently. "We endeavor to find the right balance between days of supply for core items and 'room to grow' for new and niche items, which diminishes out-of-stocks and satisfies consumer demands," Gulley said. Still, while the Coca-Cola executive says his experience has been that every retailer wants a marketing program, "fewer want the execution elements that go along with one."

    In the candy aisle, Hershey's "Top Performers" program is structured to increase sales overall, and it has, with the c-store confectionery category up nearly 3 percent in the first quarter, driven by more than 6 percent growth on Hershey brands, said Chris Baldwin, senior vice president and global chief customer officer.

    "This is not a pay-for-space program. It is a broad-based program that allows customers to do a variety of different things to create differential performance, and we will support customers who support our brands. There is nothing about our program that disallows a competitor from doing whatever they choose to do with their customers," Baldwin said.

    Competing confection company Cadbury Adams USA's initiatives are driven by "insight and innovation to deliver the most valuable products and services to consumer and customers," said Jay Joyce, vice president, sales.

    "Retailers benefit most from a balanced view of consumers' needs and manufacturers' offerings to meet these needs."



    Note: Convenience Store News also contacted R.J. Reynolds Tobacco Co., Masterfoods USA, Frito-Lay North America, PepsiCo Inc. and Wise Foods Inc. requesting interviews. The companies either declined to participate, responded they would get back to us but did not before press time or did not return the call.

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