Is Target’s Price Matching Policy a Mistake? Yes, but not for reasons HBR says!

English: Logo of Target, US-based retail chain

 

Rafi Mohammed, a Harvard Business Review blogger asks, “Is Target’s price matching policy a mistake?”. If you have not been following the price wars, Target stores recently announced that they will match published prices of their competitors.

 

If you buy a qualifying item at a Target store then find the identical item for less in the following week’s Target weekly ad or within seven days at Target.com, Amazon.com, Walmart.com, BestBuy.com, ToysRUs.com, BabiesRUs.com or in a competitor’s local printed ad, we’ll match the price.

Back to Rafi’s question. The answer is yes. But not for the reasons Rafi offers in his HBR blog post.  As I wrote recently, Target’s policy is wrong because they are taking on a competitor who is strategically irrational.

Rafi’s argument, surprisingly (surprising because Rafi is a pricing professional) is centered around the cost to operate brick and mortar stores.

Amazon for example — have significantly lower cost structures than brick and mortar stores? That makes it close to impossible for a chain to set the same product price both on its web site and in physical stores that is competitive with an Internet-only retailer and still yields a profit.

This is confusing cause and effect. Amazon chose low prices and then cut its costs mercilessly to deliver products at such low prices. Target chose to reach customers with higher willingness to pay (and disposable income) and offer them a store experience to buy products. They incurred the cost of operating stores for two reasons, one they needed to do that to deliver customer experience and two they could still make a profit from the higher prices customers were willing to pay.

Prices come before costs. You don’t incur costs and expect your customers to offset that with higher prices.

Rafi’s recommendation for Target is,

Target should instead match prices of online rivals with a comparable “apples to apples” service: order from Target.com. If a customer sees a lower online price, Target will match only if ordered from Target.com.

It does not work that way. What is the differentiation here? What compelling reason does Target.com offer to those who otherwise would choose Amazon (based only on price)? I should note that Rafi is also the proponent of 1% price increase philosophy, and that recommendation does not work here as well.

What are the real recommendations? If prices come before costs, customer segment and their needs come before prices. So any pricing strategy recommendation to Target must start by asking what customer segment does Target want to reach  and what should be their offering (product mix, service and delivery model)? May be it is the equivalent of “same day delivery”, or a unique product mix that isn’t available in other channels, or the ease of returns. Target has to find out what is relevant to its target segment and decide.

In my tweet question to Forrester Retail Analyst Sucharita Mulupuru, she replied

For same products where the channel adds no value, she says, charging higher prices is not going to be possible. Her two recommendations are developing private labels (that can yield price premium as well) and Unilateral Pricing Policy (UPP) where the manufacturer sets a fixed price that all channels have to sell for.

If you take this to the extreme, it is likely we will soon see total vertical integration in retail channels – from the very devices we use to browse and buy,  to products we buy  and even the method of payments we make. Not far fetched if you consider the reasons why Amazon is trying to get Kindle in every hand.

And yes, HBR is right but how it arrived at the answer is wrong.

 

Perils of being on the wrong side of asymmetric two-sided market

Plug for my book: To Group Coupon Or Not: Small Business Guide to Groupon, LivingSocial and Others is now available.

eBay, Craigslist, dating sites and GroupOn have one thing in common – these are two-sided markets that need two sides (producer-consumer, men-women, stores-deal seekers) to be present to succeed.  Buyers flock to such a market like eBay if they believe there is a wider selection of sellers and vice versa. Two sided markets succeed when there is net new value creation that all three (the two sides and the market maker) get to share in it.

When two-sided markets simply redistribute value from one side to other while taking its share we have asymmetry. If you get caught on  the wrong side of asymmetry, any advantage you get from participating in the two-sided market is wiped out.

Deal seekers score! Does your business too?

In case of group buying sites it is easy to build the buyer side. These people add no net value but they reap large consumer surpluses.

With a large population of deal seeking customers enabled by social media (like facebook connect) the demand side is almost  unlimited. As it has been pointed out by many during the Google-GroupOn acqusition days, the stickiness from social media connections create loyalty to these sites even though the business model can be easily copied.

The question is what do the sellers who give away 50% discounts get in return. Claims made by people like Sam Decker and Seth Godin state,

“Once the first timer experiences your astonishing product and service, they become your lifetime customer”

There is a difference between stating this as one of the possibilities with a level of uncertainty vs. this is the only expected outcome. These are no different than the claims of an adorable cartoon giraffe that, “Madagascar is indeed San Diego because it has white sandy beaches“.

Small businesses must call these rosy projections into question since they are the only ones who is adding value but not getting their fair share. They need to ask,

  1. What job is the deal seeking customer hiring the group buying site for? For discovery, thrill of getting discount or for maximizing their consumer surplus? Which one of these gives you long term advantage?
  2. If you were able to lure away someone else’s lifetime customer (who is also likely to have astonishing product and service) with your 50% coupon, what makes you think they will become your lifelong customer?
  3. What do you get in return to track the lifetime value of these customers?
  4. Where is data behind the claims of these gurus? Data from Utpal Dholakia point to very minimal if any repeat business or customer margin.
  5. What is the impact on reference price and value perception due to 50% off? My experiments show customers are likely to assign lesser value a product they bought at a discount than to a comparable product bought at full price.

To repurpose Omar Khayyam, “The deal seeker, having scored the deal moves on to the next deal. (Likely) no amount of astonishing product or service will bring them back to pay the full price”.

If you want to add a new channel to minimize deadweight loss, by all means do it. But do the math behind it and not base it on hope

  • Do you  have a product with high contribution margin (price less marginal cost)?
  • Do you have excess capacity (with sunk costs and no other way to monetize it)?
  • Is there a segment of customers with low willingness to pay but reducing the price to include them will deliver less profit than your current profit (even though it is still profitable)?
  • Is there a segment of customers with low willingness to pay that you cannot reach through any other way?
  • Can you serve these low willingness to pay customers through these group buying site without the full price customers knowing about it (third degree price discrimination)?

If  the answer to any of these questions is NO, you have hard math ahead of you (Spreadsheet).