If One Coupon is good, are Three Better?

Consider this scenario – You are at a casual dining chain restaurant like Chilis, Applebee etc. You are done with your meal, paid your check and finishing off your last drop of coffee. Then the manager walks by, asks you about your experience and voila gives you  not one, not two, but three $10 coupons good for your future visits. The coupons require a minimum of $20 purchase, can be used one per visit and have a three month time period. Coupons are valid at all locations.

Are you more likely to visit the restaurant in the future because you received three coupons  than if you had received just one coupon?

The case of single coupon has been studied at length in the marketing literature and yes it does work in generating repeat visits. Whether the coupon driven visits are profitable or not is a different question and it depends on percentage of customers who would not have visited without the coupons. Coupon driven visits are profitable when

(ave tab per visit less coupon ) * % who visited only because of coupon

>

(coupon amount) * % who would have visited anyway

Suppose one coupon is good for business in generating incremental revenue, are three coupons better?

The answer comes from Prospect Theory and Mental accounting. When presented with one $10 coupon with strict expiration date, letting the coupon expire will create a sense of loss in the minds of customers. When presented with three such coupons, even though the coupons are not additive, customers will see the value as additive. Not using any of them will cause a greater sense of loss (loss curve is convex – prospect theory). A customer who lets all three coupons expire will have greater sense of loss than the one who lets the single coupon expire. So those who receive three coupons are more likely to revisit at least once than those who received just one coupon.

Since this increases percentage of customers who visit because of coupons, the restaurant stands to gain from giving more than one coupon to the customer who is less likely to visit otherwise.

Finally, what if the customer decides to use all three coupons? At an average restaurant tab of $50, that is $120 incremental revenue (since all restaurant costs are sunk, this goes straight to bottom line).

If one coupon is good, three are indeed better!

You do not have to settle for the theoretical explanation – this is easy to experiment. Do  A/B tesst and see if this works for your business.

Whether this trains the customer to expect coupons and reduces their reference price is a topic for different post.

Home Prices – Value Gap

Sometime back I wrote about why homeowners list their prices at higher prices than the comparable sales prices in their localized market.  I theorized it is due to endowment effect and ignoring opportunity costs. It appears now the list prices are starting to reflect the market rather than what the homeowners value. Here is a report on MarketPlace:

Chris Mayer tracks real estate at Columbia’s business school. He says reality is finally sinking in for home sellers.

CHRIS MAYER: There’s an initial loss and people are looking at this and saying, but God, I paid $400,000 for the house. I’m just not going to sell it at $300,000. And over time, people realize that $400,000 isn’t coming back and they adjust their expectations.

According to the report. quarter of all homes that are for sale have dropped in prices at least once.   Behavioral economists say, homeowners are going to feel pain every time  they drop prices that is comparable in magnitude to the pain felt with the first price drop.

What does it mean for those who have their house on the market? Emotionally,  it is better for them to calculate more accurately the required price drop and do it once rather than do it in steps.

The Power Of The Middle Option

Behavioral economists like Dan Ariely and Cass Sunstein are in one way or another have been associated with President Obama’s campaign or administration. It appears people who pitch the President are also taking lessons from the behavioral economists.

One of the concepts of behavioral economics is the power of the middle option – given three options at three different price points most people aggregate towards the middle option. The same principle now seem to be applied in troop requests to the President. General Stanley McChrystal sent three options to the President for his Afghanistan troop request:

  1. 60,000
  2. 40,000
  3. far fewer than 40,000 but with consequences

The general recommends 40,000 troops.

I bet this will be the option he will end up getting, except that the President understands behavioral economics as well and may look beyond this versioning.

Reversal of Irrational Consumption

Have we been buying things that are worth less to us that the price we paid for them? If we all are rational we should not pay more than our willingness to pay which is a function of  what the product is worth and our reference price.  A recent Financial Times article on changing consumer preferences in recessionary times had quotes from several marketing professionals and academics. One of the quote was from Mr. Seth Godin, author of several marketing books,

Seth Godin, a marketing trendspotter, calls this the “affordable premium” product, which, like a McDonald’s coffee, is deemed to be worth more than it costs.

If we are rational (left image) we should only be buying products that leaves us a positive consumer surplus. What Mr.Godin suggests (or to be specific the FT’s quote states) is that we have been behaving like the right image.consumption

Does that mean we have been buying goods that are not worth the price  we paid for them? Perhaps. There are two possible explanations:

  1. Our consumptions were hedonistic and we convinced ourselves that the products are really worth more than the price we paid for them.
  2. Our consumptions were conspicuous – that is we have been doing them for keeping up with appearances and with the Joneses.

Availability of easy credit and high home prices drove us to behave like the right image and buy things that we were not getting the value for the price we paid. Now with bad economy we see the reversal to the expected rational behavior.

The bigger question is how do consumers value the products they buy? Even consumers do not know the exact dollar figure of value. A marketer can tease out this value and make a reasonable estimate of the relative weights we assign to the components of a product like is utility, hedonistic value, brand and luxury. Next up I will discuss the factors that go into the valuation and the current shift in consumer valuation.