Forget the new iPhone's sexy tech. Watch Apple's pricing for the real show in town.
For a year now, Apple has toyed with transaction utility, the juice you get from buying a product, to stoke demand for iPhones and boost margins. The fancy term simply means the perceived value you derive from a purchase, calculated as a reference price minus the actual cost.
A simple way to think of this is the classic item "on sale." If you saw a shirt on sale for $50, usually $150, you'd think you're saving $100. The $150 "reference price" is often fiction, but it creates a starting point for you to assume value. People want to buy things if they perceive a good deal.
The concepts of "reference price" (starting point) and "transaction utility" (good deal) were popularized in 1985 by economist Richard Thaler, who realized that consumers make calculations in their heads every time they buy something. Which brings us back to Apple.
How has Apple played this pricing game?
1. First, optimize margins based on (margin per product x total sales). In simple terms, you can either sell a few products with huge margins, or sell many products with lower margins. Apple in effect did both, by launching the original iPhone with a $599 price tag, taxing early adopters, then sliding the scale down to $399 and now $199 to reach more of the masses.
2. Then, if possible, obscure the reference price altogether. Thaler noted that most people buy a car, or a suit, or candy in a movie theater by comparing it to what they think "a fair price" is. Sometimes a clever marketer can obscure this reference price. Candy in movie theaters comes in really strange, large boxes -- boxes that you won't find anywhere else. The reason? You can't really calculate whether $4 for an oversized box of candy is a good deal.
Steve Jobs obscured the reference price with an iPhone design that didn't look like anything else.
3: Third, work to increase the reference price. By comparing the new $199 iPhone to the $599 original phone, Steve Jobs is in essence competing with his prior self -- and winning. The $400 in savings is fiction, but it feels like a good deal.
4: Bundle price components to mask what you can. The iPhone generates revenue for Apple not just from the $199 sales price, but from hundreds of dollars in hidden data fees paid to AT&T (and then to Apple) and all the iTunes songs you download. Data fees are bundled with the AT&T separate bill. ITunes fees are grouped into your personal music account. The total is again obscured, because each bundle is treated separately in the consumer's mind.
There you have it, marketers. The Apple four-step program to increasing your margins: find the right balance or transition between high margins and high volumes, then increase the reference price, obscure it, or bundle the pricing. If it works, customers will line up at your door.
(UPDATE: BusinessWeek notes that the new 3G iPhone doesn't include a cut of carrier revenue for Apple. Instead, carriers such as AT&T subsidize the price of the phone; but the downstream music and video revenue still hold.)
(Photo: Kruggg6)
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