Setting the right price for a product or service is not easy. Pricing decisions can have a significant and often immediate effect on an organization's bottom line, yet there is much confusion about—and often scant attention paid to—pricing strategy within organizations.
Here are three pricing pitfalls that commonly ensnare businesses and startups—and ways to avoid them:
Businesses are naturally attracted to the taxi-meter like pricing scheme, which charges customers for their use of their product or service by minute, transaction, gigabyte, etc.
“My students are always drawn to the idea of ‘simple’ and ‘transparent’ pricing schemes,” writes MIT Sloan Professor Catherine Tucker in Slate. “In theory, a simple, per-megabyte price can reassure customers who are hesitant to try your product or service.” She warns her students, often budding entrepreneurs, to take the “taxi-meter effect” into account.
“The taxi-meter effect is the feeling of discomfort you get when you’re seeing that meter go up. Even if you’re not the one who’s paying the tab,” she explains in this short video. “When we have a meter-like pricing format, we’re instilling the same feeling in our customers, putting them in a frame of mind to be thinking, ‘should I consume that extra minute?’”
Studies have shown that consumers prefer a flat rate—even when it’s not in their best interest. Turns out that this flat-rate bias is not solely economic in nature. “Consumers actively avoid schemes where there is the possibility of feeling discomfort by mentally linking every extra unit of consumption to an increase in price.” Tucker encourages entrepreneurs to offer customers an option, once they’re comfortable with the service, to purchase 200 gigabytes, for example, or two hours of time, and get rid of the meter.
Catherine Tucker teaches the virtual, online Executive Education program, Pricing 4Dx. The program demystifies the science behind purchase behavior and provides participants with a logical and systematic approach to crafting an optimal price structure.
The dangers of discounting
Everyone loves a bargain. But while discounts and promotions can accelerate the close of a deal or the sell-through of overstocked items, they might be bad for your brand. When customers evaluate products and services, they psychologically use price as a proxy for quality and value. Steep or frequent discounts may cause your customers, over time, to undervalue your offerings. Sale prices often are interpreted by customers as what they should really be paying for something.
Of course, few tactics are better at bringing new customers through the door than discounts. One solution: isolate the discounts to one product or service that you may either periodically or perpetually use to entice new customers and prospects. This way you can preserve full, fixed pricing for all other products and services.
Apple is one company that conspicuously opts out of Black Fridays, Cyber Mondays, and basically every other opportunity to follow the crowd when it comes to discounts. The company doesn’t compete on price—and they command more sales per square foot than any other retailer.
Prices are in flux all around us, especially in the world of e-commerce. If you sell products online, and the prices of those products currently remain static, know that companies are using your static prices as a benchmark for their own repricing. And there is a good chance you are missing out on sizeable profits. Dynamic pricing—powered by the vast amount of consumer insights now available to retailers—is fast becoming a must-have capability to drive growth while sustaining margins.
Uber and Amazon are well-known for their price fluctuations. On a rainy Saturday night, Uber may raise its fares because its drivers are in high demand. Uber is fully transparent about their surge pricing. And retailers everywhere marvel at Amazon’s ability to rapidly and frequently change prices on millions of items. Econsultancy reports that the e-retailer changes its prices every 10 minutes based on the data it collects in real time.
Dynamic pricing, while not illegal, is not without its drama. Amazon is reportedly being investigated for allegedly inflating past prices to make it appear consumers are getting a more impressive bargain. Amazon has denied those allegations. This article on Forbes.com details other controversies around dynamic pricing, including Delta’s higher rates for frequent flyers and allegations that Staples.com offered different prices to different customers, based on their location.
You can learn more about pricing strategy and execution in our live, online program, Pricing 4Dx. The course helps managers increase their level of pricing sophistication and mitigate the mistakes many firms make regarding pricing strategy. The program is conducted using an innovative, web-based, immersive environment in which participants interact in a “4D” virtual room with Professor Catherine Tucker and fellow students via personalized avatars. Learn more.