It's a fact that no two customers have the same Willingness to Pay, but you naturally want to capture as much of each of your customer's Willingness to Pay as possible. The answer could be to charge different prices to different customers – known as price segmentation or price differentiation.
How can you do this without alienating the customers who are charged more with your price segmentation strategy? Is price segmentation really more profitable than setting a single price for all?
Well, it must be! If you take a good look around you will see price segmentation everywhere. Think airlines that charge different prices for a seat on the same flight – booking early means you are usually charged less for your seat. Those customers that are less price sensitive will be willing to pay more for booking close to the flight departure. There are geographical differences in prices because consumers in wealthy countries are more able to pay higher prices – this is true for the pharmaceutical industry.
Students and OAPs are given discounts at theatres and cinemas especially if they are seeing a film during the daytime when there is less demand for seats. OAPs are more likely to get discounts at restaurants at lunchtime rather than in the evening. Restaurants will feed children for free to encourage family dining. Coupons/percentage off coupons allow some people to pay less in shops. Frequent, loyal buyers get discounts and privileged access to sale events. These are all examples of price segmentation.
Is price segmentation fair? Well, all the above are standard accepted practices for charging different prices to different customers. It's rare for anybody to complain that it's not fair - but there have been some cases, for example
When Apple dropped the price of the initial iPhone just two months after release, that was considered unfair to the earliest purchasers
The initial uproar when airlines starting charging extra for suitcases
Amazon charging some customers lower prices – price segmentation – based on geography
In 2005 Coca Cola automated the prices of their cans in vending machines so they could charge higher prices depending on the temperature outside. This decision was ultimately dropped when consumers got to hear about it.
The more recent anger over identical shaving products costing more for women than men, the only difference being the female razors were pink!
In a nutshell, when companies change their pricing policies such that the outcome is seen as unfavourable to the consumer, then people consider it unfair.
How do you introduce price segmentation without upsetting your customers?
Set list price as your highest price to target customers with the highest Willingness to Pay. Then offer select discounts to customers with lower Willingness to Pay.
A few years back an article in the New York Times, "Shopper Alert: Price May Drop for You Alone" showed that major grocery stores were offering individual offers, prices, and discounts to specific shoppers based on previous shopping behaviours that could encourage them to spend more - which is the ultimate goal in price segmentation. Since then it's become standard practice. In the UK, think the M&S SPARKS Scheme – offers and discounts tailored to individual spending habits.
Consumers don't really complain about this form of price segmentation because they rarely know what discounts others are getting. Retailers are counting on the idea that everyone is happy when they benefit from a special offer because it means they get a better price for a product they want; and those that don’t get a discount really didn’t "earn" one. Price Segmentation at it's best!
How to Introduce Price Segmentation for Profit Growth
- Track what each customer buys? Are you using that data to help you define and offer discounts? If not, you should be.
- Search this data to find two items that many people buy together. Then, when someone who historically only buys one of these items comes back to the shop, offer them a discount for the other. Amazon uses this strategy all the time. They make suggestions "You may also like", "Often purchased together"...
- Search your data for people who invariably buy the same quantity of a product. Offer them a discount if they buy double the amount. Alternatively, think "buy two, get one free" offers.
- Identify customers who usually buy a specific brand of a product. Offer a discount on a higher priced competing product to entice people to switch.
All of the above price segmentation examples are based on repeat customers and individualised offers. If your business is not based on repeat purchases you can analyse the data about your customers that do purchase – look for future shoppers with similar demographics and offer them appropriate discounts.
No two businesses are exactly the same but the lesson to be learned from price segmentation is to start with the right/fair price, then offer discounts for widely acceptable reasons, such as loyalty. Basically you are trying to get them to buy more of one item, get them to sample a related product or to try a similar but competing item – all with the aim of profit growth.
It seems that shoppers all want a discount and will hate you if they think you are being unfair over pricing. However, with price segmentation, set your prices high and offer discounts to the right people for the right reasons and you will ultimately win more customers and make more money. Sounds good!
- Marketing: concepts and strategies by Lyndon Simkin and Sally Dibb, 2016.
- The Undercover Economist, Tim Harford 2007.
- Value-based pricing:drive sales and boost your bottom line by creating, communicating and capturing customer value, Harry Macdivitt and Mike Wilkinson, 2011.
- Will the Chain Break? Differential Pricing Structure for Research Literature and It's Consequences for the Future by Ulrich Montag 1992.
- Pricing and Revenue Optimisation by Robert Phillips 2005.
- Foundations of Marketing, 5th edition by William M. Pride and O.C. Ferrell 2011.