The potential for powerhouse Private Brands: an updated view

Private labels, or what we aspirationally call private brands when they are fully executed, are having a moment. Early in the COVID-19 crisis, many consumer packaged goods (CPG) brands disappeared from store shelves due to panic buying and pantry loading. Some shoppers, not finding their preferred brands, instead bought private-brand goods—and have continued to do so. The fact that private brands are frequently less expensive than national brands has also helped as financially strained consumers tighten their purse strings. These two advantages—high availability and low price—made private-brand products considerably more appealing to consumers during the pandemic.

The consumer shift toward private brands benefits retailers as well because private brands are typically more profitable for them. Furthermore, high-quality private brands can gain a devoted following and become a powerful driver of customer loyalty to the retailer.

But will this private-brand boom be a short-lived one? In the near term, are retailers at risk of disappointing first-time buyers of private-brand products with a poorly thought-out offering? And as vaccinations reach full rollout and COVID-19 shows signs of abating, will most consumers abandon store brands and go back to buying their preferred brands? In our view, if retailers don’t step up their private-brand game, the answers to these questions will almost certainly be “yes.”

A shift in buying behavior

During the pandemic, consumers have proved quite willing to change their buying behavior. Our consumer surveys throughout the pandemic have shown that nearly 40 percent of US consumers have tried new products or brands since the onset of COVID-19. Much of the switching behavior was because of availability issues—some branded products were out of stock for weeks as CPG manufacturers struggled to meet sudden spikes in demand.

Private brands have been one beneficiary of this switching trend. Nearly one in five consumers said they bought more private-brand products during the pandemic than they did before the crisis. In our most recent consumer survey, in January 2021, more than 90 percent of US consumers indicated they will buy the same or more private brands after the pandemic, indicating its staying power (Exhibit 1). Consumers also indicated that they believe private brands have the same or better quality for less money, with availability only a minor driver of switching behavior.

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Amid prolonged economic uncertainty, consumers’ hunt for greater affordability might keep the private-brand boom going for a while longer. But other signs point to the shift being temporary. Consumers could very well choose to switch back to national brands after the pandemic, especially because many retailers’ private-brand strategies and offerings aren’t explicitly designed to capture long-term customer loyalty.

Retailers can change that. And they should do so—fast.

Private brands as a way to win customer loyalty

Even as retailers have introduced new private-brand products and brands over the years, few have thought through the role of private brands in their businesses. Some private brands and products come into being simply because, for instance, a vendor offers to make a product at a lower cost and higher margin than a national brand. The retailer agrees—but doesn’t carefully define this new product’s value proposition or role in the assortment. Some retailers have been somewhat more deliberate in launching private brands: setting targets for margin and penetration rates, adjusting those targets as needed, and even making changes in their organizational structures to invest in store brands. But they haven’t aligned on their aspirations or developed a robust strategy for these brands.

Retailers that seize this moment to reset their private-brand strategies can translate short-term switching into long-term customer loyalty. For some retailers, the private-brand offering might have been successful in the pre-COVID-19 environment but now requires reevaluation. For retailers that haven’t invested meaningfully in private-brand capabilities, making bold moves is even more urgent.

Refine and pressure-test your aspirations for private brands

Now is an opportune time for a retailer to define—or redefine—its aspirations for its store brands, based in part on the maturity stage of private brands in the markets in which it operates (Exhibit 2).

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The retailer should aspire toward a leadership position in its current stage and begin to move toward the next stage, with private brands becoming an increasingly critical contributor to long-term loyalty. Key areas in which to set aspirations and associated targets include brand awareness, customer perceptions, penetration, quality, value, profitability, and private brands as a driver of store loyalty. The next step would be a high-level assessment—for instance, through customer surveys, competitor scans, and financial analyses—to understand the gaps between current performance and aspiration.

Conduct a detailed diagnosis and gap assessment

Once a retailer has done a high-level assessment, it can then take a deeper look at five areas—brand strategy, assortment and pricing, marketing and packaging, product design and sourcing, and organization and operating model—and develop an action plan for each.

Brand strategy

Research often reveals that consumers recognize private-brand goods as lower-priced products but not as products that deliver on quality, innovation, or excitement. Furthermore, consumer perception of a private brand can differ markedly across categories or departments: at some retailers, for example, private-brand diapers are more expensive than the national brands, whereas private-brand soda is 20 percent cheaper than the national brands. Surveys have shown that even a retailer’s own merchandising and brand teams sometimes have a poor understanding of each brand’s value proposition and apply it inconsistently.

Whether a retailer has chosen a “monobrand” strategy or maintains several private brands that cross price tiers and categories, it should clearly define for each brand (and subbrand) a customer value proposition that meets a distinctive consumer need. This step might seem obvious and basic but is often overlooked. The retailer could then test the value proposition with consumers.

Equally important is the development of clear standards and guardrails. By communicating and reinforcing these guardrails, the retailer can equip its brand and category teams to bring the value proposition to life consistently at each customer touchpoint.

Answering the following questions can be instructive as retailers develop and refine their private-brand strategies:

• What are each brand’s target customer segments—and what are their relevant wants and needs?
• What is each brand’s value proposition, and what distinct consumer need does it meet? Is the value proposition differentiated from that of national brands?
• In which categories can our private brands effectively play, and how can they win?
• What guardrails and guidelines have we set to help teams execute on brand value propositions? How can we ensure that all stakeholders understand these guardrails?
• How are we monitoring compliance with these guardrails across categories with regard to price positioning, quality, innovation, and other critical dimensions?

Assortment and pricing

Historically, retailers haven’t heavily marketed their private brands. Customers’ impressions of many private brands are influenced largely by what they see on store shelves—and there, many retailers fail to make much of an impression. The proliferation of national-brand SKUs, along with the introduction of secondary and tertiary brands to fill white spaces, eventually waters down private brands’ differentiation and renders the assortment architecture irrelevant. Missed opportunities in pack sizes, flavors, and other subsegments pile up when a retailer doesn’t have a systematic process for refining the assortment architecture.

Setting and regularly enforcing price-gapping measures is particularly important for private brands, many of which attract consumers precisely because of perceived value. Ideally, retailers would systematically compare the price of each private-brand SKU against internal and competitor benchmarks. Here, too, compliance with established guardrails becomes lax over time, national-brand promotions weaken the private-brand value story, and—perhaps most egregiously—brands play at very different price tiers across categories, without clear messaging to support these disparities.

As they seek to address misaligned assortment and pricing, retailers could start with the largest categories, then launch a longer-term program to revisit the entire assortment. They would do well to consider the following questions:

• What is our process for rationalizing SKUs, especially when value propositions overlap? What low-share SKUs in our assortment might be negatively affecting our private brand’s value?
• What is our process for regularly identifying and addressing whitespace opportunities (such as flavors and pack sizes) within the category?
• For each of our private-brand products, what is the “reference” national brand for price and quality benchmarking? Is it the market leader or a product that resonates most strongly with our customers?
• What are our price-gapping rules, and how regularly are we adjusting prices for promotions or competitor price changes?
• How can we ensure that we are consistently maintaining price positions across categories within brands, even when we run promotions?

Communication, marketing, and packaging

Although private brands have traditionally relied on price and shelf placement to fuel purchases, leading retailers have recently been using cost-effective channels to communicate the story behind their store brands—for instance, how they source ingredients or where the products are made. In particular, sophisticated retailers are looking at the key drivers of purchasing at a category level and ensuring fair-share presence. For example, one retailer is blogging about its private-brand baby products on popular parenting websites and forums; another is seeking quality certification from the leading independent product-testing authorities. These and other actions help close the quality perception gap that many private brands face.

Packaging, too, is becoming more important for conveying private brands’ value proposition. In the past, private-brand packaging tended to resemble the look and feel of national-brand equivalents. Leading retailers are now developing brand language on their packaging that not only draws shoppers’ attention but also conveys the functional benefits of the brand. For example, a leading private-brand player in the value segment has added a prominent callout on its packaging that announces its clean ingredients, differentiating it from other value national brands.

Retailers ought to consider the following questions regarding communications, marketing, and packaging of private-brand products:

• How are we making consumers aware of our quality parity (or advantages) versus the competition?
• In each category, what are consumers’ primary sources of information and purchase drivers—and are we investing in those channels?
• How can we harness our own channels (for example, point of purchase, store flyers, or own website) to market our private brands?
• What, if anything, can we change in our packaging so that it is on par with the look and feel of the leading national and private brands?
• How can we design our packaging to convey quality and benefits (such as origin of ingredients)?

The path forward for European grocery retailers

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Product design and sourcing

A retailer’s private-brand strategy—especially its choice of either focusing on “me too” national-brand equivalency or introducing new features and benefits to a category—will greatly influence design and sourcing. Regardless of strategy, however, retailers would be wise to not only embrace the power of sourcing to produce private brands at lower cost but also increase their attractiveness to customers by focusing on design.

There are four primary areas in which achieving excellence in private-brand sourcing can help retailers reduce their cost of goods sold by as much as 10 to 15 percent (a potential margin improvement of 500 basis points), while maintaining, or even improving, quality to increase penetration and growth.

1. Target costing. Traditionally, the target cost for private-brand products was determined using a retail-back approach based on arbitrary target margin. New approaches, based on robust should-cost models that account for raw-material fluctuations, proper accounting on overheads, more efficient packaging, and logistics, can result in increased margins. By conducting supplier plant walk-throughs, interviewing category experts, and engaging in other fact-finding activities, retailers can jump-start their journey toward total cost transparency and develop a joint understanding with their suppliers on how to work together to lower costs on specific products and categories.
2. Advanced analytics to scale cost transparency. While retailers have shifted the way they examine costs at the product level, the recent rise of advanced analytics enables the development of parametric should-cost models and expands this approach from a few SKUs to thousands in a matter of weeks. By leveraging best-in-class digital request-for-proposal (RFP) tools such as Coupa and Scout, retailers can conduct market events at scale, collect and analyze data at a much more granular level, and negotiate with suppliers at the cost-component level.
3. Negotiation approach. The approach to retail negotiations has also evolved from price-focused to fact-based negotiations based on a detailed understanding of material costs and supplemented by comprehensive preparation. By developing should-cost models, retailers can build a fact base to focus suppliers on cost reduction opportunities. While the science of negotiations helps retailers gain a greater understanding of cost drivers, they can master and deploy the art of negotiations. Efforts could include systematic capability building, targeted coaching on where to focus based on should-cost models and market benchmarks, and a more systematic use of negotiations role-playing to pressure-test and refine each buyer’s approach ahead of supplier conversations. By doing so, retailers can develop a new muscle within their organization that can help create value beyond product costs.
4. Product development. A copycat approach to private-brand product development has evolved to delivering better value for customers using design-to-value (DtV) methods and a focus on product innovation and sustainability. DtV can improve product and packaging design and specifications through a deep understanding of what consumers really value while also allowing private brands to leapfrog national brands. As consumers become increasingly comfortable with buying private brands, retailers can more assertively introduce new products with features and benefits that surpass those of traditional consumer goods brands. After all, retailers have the advantage of a wealth of consumer insights; they see trends across brands and are therefore privy to customer patterns and preferences that may not be visible to individual consumer goods manufacturers. Many retailers that exclusively or primarily carry private-brand products have built fierce customer loyalty by becoming trendsetters, with their private brands providing a “halo” to their retail banner.

Done right, achieving excellence in sourcing could potentially finance the entire private-brand program. Retailers could identify which product categories have the most attractive opportunities to improve profits and quality and then develop new, savings-focused key performance indicators (KPIs). The savings could then be used for price investments, with the goal of boosting private-brand penetration. In their journey toward excellence in product design and sourcing, retailers could think about the following questions:

• Do we have the capabilities in place to achieve total cost transparency? What are ways we can better understand product costs at scale to work with our suppliers to reduce them?
• Does our current negotiating approach and process incorporate both the art and science of negotiations? Do we conduct enough role-plays and mock negotiations to pressure-test our strategies and build negotiating muscle across the organization?
• What is our process and framework for aligning on design priorities? Does it allow for sufficient input from category teams to develop a DtV approach on specific products and categories?
• How can we speed up the product design process so that it’s agile enough to respond to trends and product opportunities? Are we able to conduct market events at scale and use the power of advanced analytics to analyze thousands of SKUs?
• In what categories is our private brand mature enough for us to get ahead of consumer goods manufacturers by introducing innovative or differentiated products?

Organization and operating model

There’s no one-size-fits-all model to support private brands. Retailers rely on a variety of operating models, ranging from highly centralized organizations with dedicated resources (typically including brand management, product design, sourcing, quality assurance, marketing, and consumer insights) to decentralized operating models in which merchandising teams are in charge of execution.

Centralized teams are most critical in the early stages of private-brand development, during which merchandising teams need intensive support and expertise to identify opportunities and execute the value proposition consistently. Centralized resources also play a crucial role in highly developed private-brand markets, where functions manage differentiated brand standards and innovation pipelines. On the other hand, in markets with more modestly developed private brands, where the focus is typically on price differentiation and me-too offerings, we have found that a lean, centralized team is most effective to develop price and quality guardrails while category teams take the lead on execution.

At a minimum, a centralized sourcing and quality-assurance team would be best positioned to define specifications for newly designed products, select vendors, and make the optimal trade-offs between cost and quality. Leading retailers are also adding some level of brand stewardship to central teams to ensure consistency in execution across categories.

To figure out the optimal organizational structure or operating model, a retailer could consider the following questions:

• What steps can we take to clarify roles, responsibilities, and decision rights in every part of our private-brand value chain?
• What is the role of the centralized private-brand team, and is it commensurate with the needs of the brand? How can we further clarify guardrails and standards to better enable category teams?
• As our brands grow, what is the optimal level of brand stewardship at the center to ensure that each brand’s customer value proposition retains its integrity and is executed consistently?

The surge in private-brand sales has been good news for retailers. Will consumers stick with private brands postpandemic? The answer isn’t crystal clear yet—but retailers can certainly influence the outcome. For retailers that set bold aspirations and move quickly to fill any capability gaps, private labels can soon become powerhouse brands.