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British businesses have to brush up on the art of raising prices

Veteran financiers worry that lessons painfully learnt in the last crisis will be lost on the generation that has come of age since. There is a parallel that fewer people fret over: the ranks of corporate managers who have risen up since the last UK inflation spike a decade ago and have not been disciplined in how to push through large price rises.

Getting customers to swallow a price increase in line with inflation should be easy. Except now that customer might have to take a rather large gulp.

At 4.2 per cent last month, consumer price inflation is rising quickly enough. Yet costs for manufacturers are rising quicker still. In October some 37 per cent of UK businesses surveyed by the Office for National Statistics reported that prices of materials, goods and services they bought in the last month had gone up more than normal. Fifteen per cent put up their own prices in response.

The good news is that “the economics of price increases are almost impossible to get wrong”, according to Mark Billige, a pricing specialist and chief executive of consultancy Simon-Kucher & Partners. Margin improvements will almost always outweigh revenue losses.

Yet companies — even big ones — can still be bad at it. Of course there are consumer-facing groups with dynamic pricing down to a T, those with operations in emerging markets or who have ridden the commodity cycle of the past decade and are well practised in pricing.

But an analysis from consultants McKinsey showed companies typically ended up implementing around a third of the price increase they originally wanted. Data from Simon-Kucher paint a similar picture.

There are those scarred by the experiences of previous price rises. In 2011, Netflix put up prices by 60 per cent. The company lost fewer customers than the revenue it ultimately gained. But it shed more than 70 per cent of its share price in the months that followed, reversing on its rationale for the rise — but not the rise itself. It became a case study for how not to push up prices.

Or take the big British grocers after 2006. Then an oil price spike, poor northern hemisphere harvest and demand from Asia pushed up input prices. A cycle of price rises started. Throw in a promotional binge from consumer goods groups and grocery bosses got drunk on the cocktail of price rises and promotions. That is until the financial crisis kicked in, customers started switching to the discount retailers, and we all know how that ended.

Still, the bigger risk may be that companies bungle their pricing by failing to put them up enough.

In normal circumstances, that might be annoying but not overly damaging. Companies can cut costs rather than increase ticket prices. One boss of a big FTSE 100 group said he would always try to offset inflation with productivity savings. Consumer goods groups can lop another triangle from a Toblerone or take a couple of Quality Street out of the tin (and brand it as a health drive to boot). 

But as inflation climbs, getting price rises wrong could be more costly. Slow and steady annual rises of 3 or 4 per cent across the board may no longer cut it. If inflation hits harder and faster, it is difficult to follow a one-and-done approach to raising prices. More targeted action is needed.

Customers meanwhile are not necessarily as price sensitive as many companies assume. Retailer Next — always a model of modelling best practice — did some number crunching in 2011. It compared a basket of equivalent items and concluded prices had to go up 8 per cent for it to lose 1.5 per cent of sales. In the first half of its next financial year, the chain expects to put up prices 2.5 per cent overall, and only 1 per cent on clothing. Unilever, at the sharp end of cost inflation, pushed through a 4.1 per cent price increase last quarter, the 10th-highest rise in roughly 19 years. It lost only 1.5 per cent in sales volumes, broadly consistent with historic trends.

Neither company would put up prices above inflation to buy themselves long-term growth. But who does well at passing on price rises in the months ahead will help determine the corporate winners of next year.


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