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The Peril of Price Increases – Breaking Brand Loyalty

Price increaseThe absolute BEST thing about our loyal customers is that they don’t even think about which one to buy.  They always choose our product.  Awesome.  No extra marketing effort.  No extra sales effort.  Just keep shipping quality product and life is good.

Until you increase prices.

Don’t get me wrong.  I love price increases … when we can get away with them.  But much of the time we can’t.  The single biggest problem with a price increase is our loyal customers suddenly feel they need to re-think their decision.  That’s the last thing we want.

When a loyal customer rethinks their decision we stand to lose because our competitors may have improved their products or prices, we may have new competitors in the market, or our customers’ tastes may have changed.  Considering the lifetime value of a loyal customer, losing can be painful.

What are your options?  Your best option is to increase prices only on new customers if possible.  Your existing customers never see the price increase.  Alternatively, you can create loyalty programs so your truly loyal customers are rewarded and don’t really experience the higher prices.

If you think you have to raise prices on everyone, then try to make it as painless as possible.  One option is to attempt to time it simultaneous with price hikes from your competitors.  Regardless, you must justify it with increased costs.

Some industries are lucky in that their customers expect annual price increases.  In those cases meet the customer expectations, but don’t be too greedy.  The goal is to make as much money as possible but still keep them from revisiting their purchase decision.

No two businesses are alike, but there is one almost universal trait among customers: they hate price increases.  Be sure to take extra special care of your loyal customers during price increases.  They are your most valuable and most vulnerable customers.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo by Dave Fayram

Price Segmentation: Justify it or Hide it

Rich-Poor (LQ)Nobody wants to pay more.  They don’t want to feel “ripped off”.  They want to feel special, like they received a good deal.

However, it is in a firm’s best interest to charge different customers different prices based on how much they are Willing To Pay (WTP).  If a customer is WTP more you want to let them.  If a customer is only WTP less, you may still want them as a customer so you charge them less.  We’ve blogged several times about how to execute pricing segmentation (Customer characteristics, transaction characteristics, behaviors, and product portfolio), today we are talking about what your customers should know.

Since your customers don’t want to feel cheated, then you only have two choices on how to communicate price segmentation:  justify it or hide it.

Customers see price segmentation all of the time and have come to accept it.  For example, students pay less at the movie theaters.  Vacationers pay less for flights than business travelers.  These are visibile and “justified”.  Here are several ways to think about justifying pricing segmentation:

  • Publish your highest list price.  Offer discounts to customers who “deserve” them.
  • Volume discounts.
  • Lower cost to serve some customers.
  • Need to sell excess supply.
  • Helping the poor (senior citizens, students, etc.)
  • Don’t change the rules often.  Once your customers know and accept them, leave them alone.

You don’t need to actually justify your price segmentation, but your customers need to able to justify it in their minds.  Nobody at the airlines ever justified why business travelers should pay more, but they can explain why they should fill empty seats with vacation travelers at a lower price.  Nobody ever explained why some people pay full price while people who use coupons pay less, but you can justify that in your mind.  It’s always easier to explain why you give one group a discount.

Many companies hide their price segmentation.  They don’t allow customers to know their complete pricing strategies.  They don’t allow customers to know their best pricing.  Here are several techniques to hide your pricing segmentation:

  • Don’t publish a price list.  Nobody knows what they should pay.
  • Give every customer a unique quote.  Don’t share that information.
  • Put your best prices in contracts.
  • Make pricing so complex it’s difficult to compare.

Warning:  Hiding prices is never perfect.  In the B2B world, buyers change companies and mergers and acquisitions happen.  Price information gets leaked.  In the B2C world, once someone finds hidden price segmentation, they write articles about it.  Remember when Amazon charged different prices to different zip codes?  The lesson, even when hiding prices, you will want to be prepared to justify them if they leak.

Price segmentation is a powerful tool that every company should use.  However, you must use it carefully.  When somebody feels cheated by your company, you may lose them as a customer forever.

In the end, you will likely use a combination of hiding and justifying price segmentation.  Even when price segmentation is justifiable, there is no need to flaunt it.  And even when you hide it, you will someday need to justify it.  The best option for you is likely … hide it AND justify it.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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The Power of Loss Aversion in Pricing

lost ice creamAfter reading a short article by Cass Sunstein on The Power of Loss Aversion, the urge to translate this to pricing was unstoppable.

Loss aversion (i.e. Khanemen and Tversky’s prospect theory) indicates that people hate losses and go to great efforts to avoid them.  Prospect theory said that people hate losses much more than they like wins.  This indicates people will work harder to avoid a loss than to win.  Here is one example from Sunstein’s article:

“The District of Columbia has tried to decrease people’s use of grocery bags. One approach was to offer a five-cent bonus to customers who brought reusable bags.That approach had essentially no effect. More recently the District tried another approach, which is to impose a five-cent tax on those who ask for a grocery bag. Five cents is not a lot of money, but many people do not want to pay it. The new approach has had a major effect in reducing use of grocery bags.”

Now let’s apply loss aversion to pricing:

1.  Price increases – Whenever a customer sees a price increase, they interpret this as a personal loss.  Hence we often see extremely emotional reactions resulting in lost business.  One strategy, if possible, is to only increase prices on new customers, ones that don’t already have a history of transactions with you. Then, after you build a big enough market with these higher prices, it is much easier to raise prices on the legacy customers because they might be happy you treated them well for so long.  Besides, if they leave you it’s less painful.

2.  Reference prices – A reference price is what your customers expect to pay.  If they are forced to pay more than this they consider it a loss.  Less is a gain.  Existing customers often use the last price paid as their reference price (see above paragraph).  However, for new customers, you have the ability to influence their reference price.  We often see retailers show MSRP and then a marked down price.  This is to influence the reference price.  Alternatively, you can choose to compare your product to one that is much more expensive in hope of increasing the prospect’s reference price.

3.  Limited time offers – If Macy’s is willing to sell a jacket at 50% during a sale that ends Sunday, why wouldn’t they sell it at 50% off on Monday?  The answer is loss aversion.  If you’re on the fence about buying the jacket, you are more likely to go purchase it while it’s on sale.  Once Monday comes you have lost the opportunity.  If Macy’s doesn’t stop the sale on Monday you don’t have the extra incentive to go buy on Sunday.  Loss aversion is one factor that drives the success of sales.

What other applications of loss aversion are there in pricing?  Take a moment and think about it. Please share your thoughts with the other readers.

 

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo by Big Ben (Gaijin Bikers)

Cost-Plus Conundrum

conundrumWhen you lower your cost of goods sold (COGS), do you make more profit?

Not necessarily if you use cost plus pricing.

Imagine your company prices using cost plus (the horror).  Your formula is simple, your price is 3 times your cost.  You make product A at a cost of $100 so you sell it at $300.  66% margin is not bad if you can get it.  You make profit of $200 on each unit and since you sell 1000 units, you make $200,000 in profit.

A brilliant engineer figures out a way to make product A at half the cost.  Wow!  Your costs go down to $50.  The marketing team gets out their calculators and say, “Hey, 3 times 50 is only 150.  We should lower our prices to $150.”  You’re still making a nice 66% margin, but you’re only making $100 profit per unit.  In order to maintain the same profit dollars, you now need to sell twice as many units.  Is that even possible?  What will your competition do?

You see, cost plus pricing means as you lower your costs, you lower your prices, but more importantly you lower the overall dollars of profit contribution.  In our example, we went from $200 of profit per unit to $100.

What if instead of cost plus pricing, the marketing team used value based pricing and said, “Hey, customers are already paying $300 per unit.  They obviously value our product at least that much.  Let’s not change the price.”  Now your profit goes to $250 per unit, you sell the same 1000 units and you make $250,000 in profit.  In other words, you let the cost savings go to profit, not to lowering prices.

This cost-plus conundrum is simple, elegant, and obvious once you hear it.  I heard it for the first time last week at the Professional Pricing Society’s spring conference.  (I don’t recall who said it, but if anyone has the original source please share it with me and I’ll post it here.)

Your lesson?  Don’t use cost plus pricing.  Use value based pricing.  But of course if you regularly read this blog, you surely already use value based pricing.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo courtesy of Villanova University Digital Library.

Should Your Pricing be Fixed or Flexible?

Tug of war 2The answer: flexible … unless there is a good reason to not.  A good reasons could be very low transaction values, the capability of your sales channel, and your capacity for new business.

Flexible pricing enables price segmentation.  If you can learn a customer’s willingness to pay (WTP), flexible pricing allows you to charge closer to that amount.  Some customers pay more and some pay less.

Flexible pricing really means your willingness to negotiate.  Car dealerships carefully study their customers.  What are they wearing?  What is their current car?  What is their career?  They use this information and more to estimate their customers WTP and then negotiate the highest price possible.

Look at what happens if you only charge a single fixed price.  You could price high enough to capture the full value from customers with high WTP, but you would not sell to those with lower WTP.  You could price low enough to capture the most customers, but you leave money on the table because some people were willing to pay much more.

Given a choice you want to use flexible pricing.  What conditions drive you to fixed pricing then?

Low value transactions:  When you buy a bag of chips at the grocery, you don’t negotiate.  That’s because it isn’t worth the effort to the grocer (or you).  The cost of negotiating is likely higher than any incremental WTP you capture.

Capability of sales channel:  If your sales channel is not structured or trained to negotiate deals, then fixed pricing may be a better choice.  For example, it is difficult to negotiate individual deals when selling through a distributor.  However, the power of some buyers, like WalMart, could force you into negotiations even if you don’t really want to negotiate.

Capacity for new business:  If your factory is at full capacity or your organization can’t expand more without extensive hiring and training, then negotiating lower prices makes little sense.  However, if you really are at capacity, can you raise your prices for new customers?  Then as capacity becomes available you can offer your current (lower) prices to keep at full capacity.

Should you use fixed or flexible pricing?  Look at your situation.  If flexible pricing makes sense, use it.  If not, use fixed pricing. We presented 3 reasons why you would want to use fixed pricing, but surely there are more.  Can you think of any?  Please share them.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Graphic courtesy of city cigar life.

Air Travel Pricing by the Pound – Some Lessons

Weight on planeSamoa Air recently announced that they will begin charging for airline tickets by the pound.  When you first heard about this, you probably had an emotional reaction, either pro or con.  Undoubtedly the average weight of the people who support this is much lower than the average weight of the people who oppose the idea.

One young lady this past week said to me, “This is fair because right now I can’t afford to fly anywhere with my children.”   Hence, the first lesson from this incident.

1. Change is fair when it’s to our advantage.  What would that young lady think if we put a surcharge on screaming babies in airplanes?  She would think it unfair, but the business travelers of the world would rejoice.

The second lesson to learn is based on the justification.  After all, airplanes run on weight.  The heavier the load the more fuel is required.  Airlines charge for overweight bags.  Doesn’t it just make sense to charge by the pound?

2. Consumers think using a cost-plus mentality.  If it costs more to serve a heavy person then it’s reasonable to charge them more.  Of course as pricing people we do not price using cost plus.  We price based on willingness to pay.  However, we can often influence willingness to pay using cost plus arguments.

Lesson three is huge kudos to Samoa Air for creativity and thinking outside the box.  Airlines have always priced by the seat.  To some extent they also price by the mile.  Samoa Air is doing something different.

3.  What do you charge for?  Just because your industry has always charged one way doesn’t mean that’s what you have to do.  If you want to be different, you have to be different.  (Profound.)  It may make sense to be different in your pricing.

The first 3 lessons all tend to support pricing by the pound.  The fourth, not so much.  The implementation is to have people declare their weight when they purchase the ticket and verify it by weighing each passenger when they are at the airport.

4.  Complexity reduces likelihood to purchase.  Making products easy to purchase helps them sell.  When we add complexity in our pricing schemas, customers will tend to buy from providers where it’s easier.  Of course if you’re skinny and you think you will get a much better price, then you’re more willing to put up with the added complexity.  Many of us may not.

It’s impossible to know if this will stand or get reversed.  But the fun part is we can learn from the situation.  Let’s watch to see what happens

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photos courtesy of LessWorkMoreLurk.com and foilman.

 

Shoppers are NOT Strategic – Accept It and Create Value

cyclist“People need to buy from us because if they don’t the local stores will go out of business.  Then there won’t be any local support available.”

This is a mindset common with many brick and mortar retailers, especially ones where local hands on service is valuable.  I often work with the bicycle industry and this is a very common attitude among retailers.  If all of the local bike stores go out of business, where will we get our bikes serviced?

Although the prediction of the future may or may not be true, here is one thing that is.  Customers are NOT strategic.  Customers are not using the logic that says, “Gee, if I pay a little more to the local retailer now, then 5 years from now I’ll still have a place to get service.”  Instead, customers are thinking how to get the most for their money right now.

Retailers thinking customers should be strategic is a waste of mental energy.  They aren’t.  What should retailers do?

In the near term, retailers must accept this as inevitable.  People buy where they get the most for their money. You must answer the question, “Why would someone buy from me instead of the Internet?”  The answer must be something other than, “If they don’t I’ll go out of business and they won’t have support.” Some good answers include awesome service, immediate delivery, or building a sense of community.

In the long term, retailers may be able to band together to raise the attractiveness in shoppers’ minds of purchasing local. Local retailers may be able to charge a price premium.

Think “Made in USA”.  As shoppers many of us are willing to purchase something labeled “Made in USA” because we believe it helps our country, our economy, and our neighbors.  We believe the quality is good.  We are proud to show others that we buy American.  According to a study by Boston Consulting Group, more than 80% of Americans are willing to pay a price premium for products made in the USA.

made in usaConsumers didn’t come up with this belief and logic on their own.  This was a concerted effort by unions, concerned citizens and our government to make this common.

Is it possible to start a “Buy Local” movement?   If all of the retailer trade associations banded together, it is likely they could.   Environmentalists currently use the phrase “Think globally, act locally”, retailer associations may be able to piggyback on this.

As a retailer though, you need to spend 95% or more of your energy building and running your business with the facts as they are today.  The fact is, customers will buy from you when you offer more value than your competitors, including the Internet.  The Internet will always have the lowest price. Accept it. Be creative. Create value.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo courtesy of Richard Masoner / Cyclelicious

 

 

Charging to Browse – It’s Inevitable

This week it was reported that Celiac Supplies is charging $5, refundable with purchase, to simply browse in their store.  If you search Google news for “Celiac Supplies” you’ll see hundreds of articles denouncing them.

Why is everyone so quick to say this is a horrible idea?  The consensus is they are not being customer friendly.  For example the AdelaideNow reports that even Russell Zimmerman, executive director of the Australian Retailers Association said, “If I walked into the store and was told I was going to be charged to browse my immediate reaction would be to leave”.

But think about this.  As pricing people we continuously emphasize, “create more value than your competitors, give your customers a reason to pay more to buy from you”.  The problem in retail is this extra value is usually delivered before the purchase is made. Value in retail comes in the form of a nice, clean, well organized showroom; the ability to touch and try before they buy; and most important helpful and knowledgeable employees.  We are hopeful that when we deliver amazing amounts of value, the customer will feel guilty and buy from us.

The fact that the value is delivered before the purchase also makes it more difficult to execute on a strategy of phenomenal service.  Great service costs money and it’s difficult to give it away with the hope that customers will purchase from you.

Let’s put ourselves in Georgina’s decision.  Ignoring the phenomenal PR this has given her store, she has 3 types of customers.”

Her current customers will probably remain as customers.  Surely they spend more than $5 every time they visit.  With fewer looky-loos she now has the bandwidth to give her real customers more attention and better service.

Someone walking by who has Celiac or is lactose intolerant will probably pay the $5 because they are very interested in what’s inside, especially the expertise.  Besides, they can surely purchase something.

Someone who is not lactose intolerant (like me) probably won’t go in.  That’s good for her business!  Without the entry fee, I could easily see me walking in and asking questions about the disease, the products, using up time and never purchasing.

My advice to Georgina, take this opportunity to provide phenomenal service to everyone who walks in the door and pays the fee.  Make them all thrilled that they shop with you.  Go overboard.  Now you know most of the people aren’t just shopping price.  Also, I would change the wording on the sign to say exactly that.  “We want to provide great service to our customers.  This is our way to tell who are customers are.”

One last spin … I personally would be thrilled if BestBuy implemented this.  I can’t stand not finding someone to help me when I need help.  I would simply shop there when I know I’m going to buy something and hopefully get better service.

Celiac Supplies may eventually change their mind and stop charging for browsing, but if we want great service, retailers are going to need to find a way to get paid for it.  This is inevitable.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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How to Compete against Free

Software entrepreneurs frequently ask me, “I have a competitor who gives this away.  How much can I charge?”

The answer:  “Nothing”.

If you have the exact same offering, you can’t charge anything.  These entrepreneurs don’t want to hear this, but they need to.  However, that’s not the complete answer.

Entrepreneurs who want to charge for something similar to what others give away need to answer 3 important questions:

  1. How are you different from your competitors?
  2. Who cares?
  3. How much do they care?

First, how are you different?  You can’t charge for something when someone else is giving it away free.  That’s like putting up a corner stand and selling air to breathe.  Nobody will buy from you because they breathe air for free.  However … have you ever walked around Vegas and seen all of the breathing stations?  They are called Oxygen Bars and they charge about $1 per minute, just for air to breathe.  How can they get away with this?  Because what they sell is not just air.  They sell air that has a higher proportion of oxygen (and a scent).  It is different from just air.  If you want to get paid, your product has to be different from what your potential buyers can acquire free.

The next question is who cares?  Back to the oxygen bar.  I’ve never tried one, so I’m not their target market.  Free air is fine with me.  A little research finds the target market is 28-38 year olds who also like energy drinks and herbal drinks.  They found a group of people who care a lot more than most.  Then they target this group.  Your job is to figure out who would rather have your product than the free one.  These people (or a subset) become your target market.

Finally, how much do they care?  This question is really asking, how much is your target market willing to pay?  You can answer this question through market research or possibly by testing different price points.  Remember, stay focused on your target market.   It doesn’t matter what others are willing to pay, just your target market.

How can you compete against free?  You can’t … if you’re not different.  You cannot offer the same thing and expect to get paid.  You must offer something different that somebody cares about.  Then you can get paid.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo courtesy of ‘PT Money’ ptmoney.com.

 

The Hooker Story

This week, please enjoy this fun story about my experience with a Las Vegas Hooker.  (Pricing experience.)

I tell this story at the end of my pricing keynote where I make three pricing points:

1. Know your value

2. Segment your market

3. Build a product portfolio.

Please share your comments either here or on Youtube.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

Sign up for the Pricing Perspective, a free monthly summary of my blogs and other publications.