Sustainability Price Premium: Justified or Value-Based Margin?

Some products with a sustainability-focused positioning are cheaper than their conventional counterparts (most likely due to resource savings in the production process), but most are more expensive, sometimes by several hundred percent! Can this increase be justified by higher production costs or is it mostly an actual price premium to skim a higher willingness to pay for sustainable products?

For some products, such as fair-trade products, a higher price is an inherent component of the concept. After all, resource costs are supposed to be significantly higher in order to support the producers to lead a decent life. But is it really possible to justify a threefold price increase for an organic product solely on a cost basis?

These questions have implications for sustainability marketing: I can set a higher margin for more sustainable products to benefit from a LOHAS‘ higher willingness to pay OR I could refrain from doing so in order to increase both sales and impact of my product or service.

But not only the supply side should be interested in the answers to these questions. As a consumer, I ask myself if prices will eventually go down if the sales of green/fair products increase. If a price premium is the reason, they most likely won’t decrease considerably, but if economies of scale and learning curves play a role, then they should. There are of course some predictions to be made, depending on the development of products of the same category in the past. Also, products based on complex technology or infrastructure (photovoltaic, smart grid equipment) are likely to become cheaper over time. But for regional organic food no big savings are to be expected due to already developed production processes.

In any case, if our economy is to shift towards more sustainable products, the price difference to unsustainable products has to be reduced or even made negative. Either the former have to become cheaper (preferably through a switch from value-based to cost-based pricing, subsidies can only be a short-term solution) or the latter have to become more expensive, e.g. through directed taxation. Only then will the majority of customers (i.e. without a particularly strong consciousness for sustainability) decide in favour of the “right” alternative.

  1. lottaliuksiala said:

    Thanks for the good comment. I think it’s a very valid point to ask where the real profit goes to in sustainable products. I also think we are often over-charged just because it says “organic” or “Fair Trade” on the tag.

    Nevertheless, I believe that there’s another side to this story. Sustainable products need to be made an attractive business for companies also. They already have existing networks for producing their goods. Especially if a company has been around for a while, these supplier networks have evolved to maximize the efficiency. In order for supplier networks to work well, there needs to be partnership based on trust and merging of corporate cultures. Therefore, it takes a lot to create a totally new network or to evolve the whole supply chain into sustainable production. There needs to be sufficient incentive to make this step into new customer segments.

    Of course, it’s a fine line into what is sufficient incentive. There are also other than monetary incentives for a company to get involved into sustainable products. For example, a company might create a selection of sustainable products to reach new kinds of customer segments. Many sustainable characteristics also receive governmental or NGO support. For example, you may get funding for product development of renewable energy technologies.

    Sustainability can also be made a strategic element of competitive advantage. If you look at a long term development, it is likely that resource efficiency will have to improve a lot in the future. Also we will have to move towards sustainable energy forms and cut down CO2 emissions. From a company perspective, it would make sense to start working on these things right now. That gives you a competitive advantage for the future when also your competitors will have to start doing the same things you have been doing for years.

    But the truth is, despite all these reasons for companies to change into sustainable products, the “sustainability markets” are still a niche. It may require pressure from us customers for companies to take that step to change their product lines. As a wise man once said: big ships turn slow. What we need now is to show them the iceberg they are heading to!

  2. Big ships turn slow indeed. I, for one, am not sure if people realize just how slow. I’ll talk about this a little bit on Monday’s lecture concerning sustainability and business models.

    Otherwise, the concerns you both are raising are valid. Sustainability products and services are operating in niches. Sustainability could indeed be a competitive advantage if companies were poised for long-term thinking. Unfortunately, most companies (including the big ones) operate on a relatively short-term basis in our quartile-based market economy. There are exceptions, but mostly the companies that matter have a heavy short-term bias.

    Concerning the pricing problem for sustainable products, one way of making sustainable products (or fair trade and so on) mainstream would be to just ban other products. It could start with only a few product categories, but that would definitely work. Of course in practice such a thing would be extremely difficult politically. But there are retailers that do this of their on volition; the British retailer Waitrose, for example, has a practice called choice-editing. Choice-editing means the chain will only put, for example, Fair Trade products on offer in some categories. For instance, they could make the choice of only having Fair Trade honey available. Representatives of Waitrose claim this has had no significant (if any) impact on sales.

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