The future of variable pricing


Yes, you should charge some customers more than others. To understand this concept of “variable pricing,” let’s play a mind game. Imagine you walk into a restaurant, read the menu and discover this new place serves only pork chops. You call the waiter over and ask, “why only pork chops?,” and he responds “our chef has found the average person likes the average meal of pork chops, so we only serve what the average person wants.” You’d walk out, thinking, wow, idiots!

Most companies price goods the same way — setting an average price that an average consumer will find appealing. The old Econ 101 textbooks talk about markets setting prices, with supply shortages or growing demand pushing prices up, and inventory growth and consumer apathy pushing prices down. But the inference is at any one time, there is one perfect price for any one product, because 100 years ago all marketers could do was gauge overall market demand. Adam Smith’s Invisible Hand moved all prices for a given good in one swoop. Companies do this today; when the iPad 3 launches, Apple will likely price it at $500 for everybody.

But why charge everyone the same price? Shouldn’t the tech-geek salivating over the new iPad 3 be hit with a $1,000 bill, because he’d willingly pay it, and the mom at home who isn’t too hot on tech be charged only $300? Their levels of desire are different, so these customers could and should be charged different prices. If Apple could find an even split audience, it would average $650 per unit for that glorious new tablet with retina display — jacking margins up $150 while keeping everyone happy.

Yet even Apple with all its smarts hasn’t figured out how to charge you or me differently based on our individual need states. Variable prices are used by some marketers, but usually only in four blunt ways: (a) a hook to lure in new customers (see magazine “30% off for subscription” deals), (b) discounts that self-select cheapskates (see grocery store coupons that give only those who clip them 50 cents off a can of beans), and (c) incentives to stop customer defection (try calling your cable company tonight threatening to quit to DISH and they’ll drop your monthly bill by $20). These first three ways differentiate customers to either build new acquisitions, solve a problem of a subset hypersensitive to price, or stop churn. What is common is they all threat mass subgroups of customers the same.

The fourth version of price variation is tied to timing — cycling through price hikes or drops. Apple is brilliant at this, rapidly moving all its products through price reductions (say, an iPhone priced at $500, then $400, $300, $100, of course all with backend data subscription offsets) usually timed to push old product inventory as a newer version launches. But again, it’s treating all segments of customers the same at any given time.

But what if a fifth pricing approach, one-to-one pricing, were possible?

If you and I are different people, we obviously want things at different levels. Desire is not a binary on-off switch; we may both want a new pair of cowboy boots, but you kinda want them now and I’m burning to get a new pair. So I’d be willing to pay $200 and you only $100 if marketers could see inside our heads. By setting the price of the boots at $120, marketers are aiming toward an imperfect average — making me happy, and trying to push you up a little in what you’d pay — but I could give them more margin, and you less, for more overall profit if only prices were tied to our individual desires. I should pay $200 and you $100. The average shoots to $150. We’re happier, and the leather-stitcher is richer.

The only thing stopping marketers from reaching a perfect, one-to-one variable pricing strategy has been the inefficient exchange of information. People’s needs and desires change hourly; demand is constantly in flux, rising and falling like a Twitter meme; no computer systems have been able to track this opportunity to the moment, so marketers take broad cuts at the problem, charging first-class airline passengers more for the illusion of cushier seats, or dropping utility bills for new customer sign-ups. The only organizations good at this are B2B groups such as management consultants, who can take the time to carefully scope the hunger of a potential client and price services accordingly. (The technical term for this price approach is FMA, or “from my ass.”)

This will change soon. All that is needed is technology to identify consumers’ “need state” — how much they crave a product now — and output technology to change the price offer.

What are the input technologies? Mobile phones are soon adding NFC wireless technology to become mobile wallets; apps such as Square and others may leapfrog the technology with customer identification tech tied to your bank or credit accounts. LBS pinpoints your location on maps, and the technology is getting so good Google Maps recently began showing the store locations inside malls as you walk around, differentiating whether you are on the first or second floor. Social media connectivity means your personal ID can be had if you walk into a geo-fenced location. Soon, if you walk into a wine store, they will know who you are, what aisle you’re in, what you like, your customer lifetime value (estimated stream of future profits), and your social network.

What are the output technologies? Digital screens, of course, are getting cheap. E Ink and the like could make labels and price tags variable, morphing instantly based on the customer approaching them.

The future is rather obvious. You and I walk into the clothing store, and the leather jacket tag flashes $500 for you if you really, really want it, but only $300 for me if I sorta, kinda want it. Rather than timing mass pricing to mass market demand, variable pricing would dynamically change to maximize the match of consumer desire with marketer profit.

Does this seem unfair? Of course, but treating people differently is part of life. If you have two children, you send them to two different grades based on their age. You give you wife and mother two different gifts for Valentine’s Day. If you coach track, you push the high school athletes at different levels based on their starting endurance and speed.

Changing pricing to an individual, one-to-one level is simply marketing efficiency taken to the ultimate conclusion. Technology will soon make it happen, just as certain as the coupon in Sunday’s newspaper will let you buy coffee at the supermarket for 35% off while I pay full fare.

One-to-one pricing will happen. I probably shouldn’t have confessed I really want those cowboy boots.

Ben Kunz is vice president of strategic planning at Mediassociates, an advertising media planning and buying agency, and co-founder of its digital trading desk eEffective.

Image: Jef Safi

6 thoughts on “The future of variable pricing

  1. Can this fifth scenario be created without scarcity?

    The timing model works brilliantly because it keeps the game fair for everyone. You want something sooner, you pay more.

    If prices fluctuate at any time depending on personal desire, that’s great in theory, but I think human nature will still override that desire if we know someone else paid less for item X than we did. And how does this system account for someone gaming the system to get what they want for cheaper? Does envy of a deal trump envy of a product?

    Perhaps we get around this problem by giving customers a contract to sign? Essentially the contract states that prices paid by the individual cannot be shared, but in exchange for signing said contract, many items from the store will be offered below historical averages? (I know…fat chat this would work).

  2. This already exists for many product categories including electronics. Prices are generally fall over time so those salivating for the latest tech toys pay full price while the more patient masses generally benefit from falling prices driven by increased production and distribution. In this case the “average price” isn’t what is being charged at any one point in time but rather what the product garners over its life cycle.

  3. I’m afraid the social nature of the internet will keep 1 to 1 pricing in check for most B2C applications. However, B2B bigger ticket items already have a history of not having published prices because good salespeople, through experience, can intuitively gauge the price their customer will be willing to pay.

  4. I can tell you what one of the first 1:1 pricing goods will be, because it exists.
    @Len, I say you can test it yourself, today even, but you probably won’t.
    @Anonymous, the prices do NOT fall necessarily over time.
    @Dave, it’s B2C and social networks have not stopped it.

    What’s the answer to this riddle? Airline fares. Years and years ago, airlines started “yield management,” basically price optimization through behavioral targeting. Want to go on a Monday morning and return on a Thursday evening? You’re a business flyer and your company is paying. Want to leave on a Friday night with 3 people? Tourist! And the prices follow.

    This sort of trick also applies to hard goods… but it’s really difficult to do in a single category (like Ben’s cowboy boots). It is, however, reasonable for a retailer like Target to price across a large number of goods you might want because, say, they know you’re pregnant. http://www.forbes.com/sites/kashmirhill/2012/02/16/how-target-figured-out-a-teen-girl-was-pregnant-before-her-father-did/ Credit card companies (especially Amex) have leveraged the correlation between behavior and bundles of products for years… and will continue to do so.

    So, Ben, it’s not new. A lot of Minority Report is already here, Mr. Yakimoto. http://www.youtube.com/watch?v=ITjsb22-EwQ

  5. Greetings,

    Very interesting concept, I agree that a fifth scenario will be part of a marketing strategy. After reading your blog I believe that this scenario would be difficult to implement in a shopping center like clothing stores or a shoe store where you can find your boots, but must likely to be applied in online shopping. Now a days people are giving in more and more into online shopping just the convenience of not driving to the mall and dealing with parking and big crowds. Companies will be able to ask the online shopper the annual income and a brief survey on how much something is worth. When the consumer logs on to the site the prices will vary depending on the consumers answer. It will be a secret between the company, the marketing team and of courses us. If there are ways of sorting preferences on how to reach people online, like facebook and other social networks, why companies do the same? This process would eliminate the social groups by not using the “minority” as a way to use discounted products, I mean not every Hispanic and Blacks are middle class and of low income.

    Best Regard,

    Tony

Leave a Reply

Your email address will not be published. Required fields are marked *

* Copy This Password *

* Type Or Paste Password Here *