Bigdata and Melman’s Hypothesis

Let us revisit our friends from Madagascar again. We find them stranded in the island nation of Madagascar, not knowing where they were.  Their conversation goes like this –

Yeah, here we are.
Where exactly is here?
San Diego.
San Diego?
White sandy beaches, cleverly
simulated natural environment,
wide open enclosures, I'm telling
you this could be the San Diego zoo.Complete with fake rocks.
Wow! That looks real.

Last time I wrote this about Melman’s assertion

A less forgiving view of Melman’s behavior will be that he started with a preconceived notion and then looked for evidence that supported his notion, ignoring those that would contradict it. Once we have made up your mind our cognitive biases nudge us to only talk to those who would support us and ask only questions that will add credence to our premise. No wonder he did not consider the fact that they were on sea shore and the San Diego zoo doesn’t open up to the sea (and the equatorial climate etc).

Let us see how their discussion will go in Bigdata world,

Yeah, here we are.
Where exactly is here?
San Diego.
San Diego?
White sandy beaches, with billions of grains of sand
look at the sand here
look at the sand there
look at sand over there
...
...
all these billions of grains of sand say this is San Diego

Unfortunately adding tons of sand (or petabytes of data that carries no additional information and has significant self-correlation ) does not help if you started with flawed pre-conceived notion and fail to ask what data will falsify your original claim.

Even with BigData you are stuck in Madagascar thinking it is San Diego.

Don’t just add data that make Madagascar look like San Diego. Seek data that will show why it is not.

Data, Data everywhere. And not an iota to help with decision making.

How do you think about pricing? Take the quiz now!

I am making available again the pricing questions list I published last year. These are twenty questions presented in no particular order. Except for two deliberate red-herring questions rest were carefully chosen based on pricing strategy practice. Your task is to rank order them in what you think is the best approach to pricing strategy.

Here is the link to the questions: Pricing Questions

Fair warning, there are 20 questions and rank ordering 20 takes considerable time  but in the end it helps you have a framework – even if it is not the most precise – to work with.

Last year several pricing practitioners and product  managers took the quiz and gave their ordering. Two distinct paths emerged based on their first question. So spend more time on your starting point, rest of the ordering will flow from it and easier on cognitive cost.

After you fill it out you will see again the list of questions for your review. If you want to capture the order you chose, please take a screenshot before you hit submit.

Verifying the Obviously True May Show …

You likely have seen such signs. It may not be in IKEA parking lot (picture used here only for illustrative purposes) it could be your local grocer. The stores tell us that it is important for us to do our part, because it helps to keep prices low. Seems obvious and sounds true. We could even come up with an explanation on our own – carts left astray in the parking lot cause collision damage that cause liability to the store which flow back to products as higher prices.

We do not stop to question or analyze whether it true, we do our part (mostly) and move on. Which is a civic thing to do, so please continue doing it, I am not recommending otherwise. But I am questioning their not so subtle hint on pricing and the reason we tell ourself.

First let us look at this from pricing angle. How are merchandises priced? They are priced at what the customers are willing to pay such that it maximizes the business’s profit. A  simple explanation of customer willingness to pay  and price elasticity can be found in my book. Here let us look at IKEA’s published FAQ for the explanation:

The IKEA business idea is: “We shall offer a wide range of well-designed, functional home furnishing products at prices so low that as many people as possible will be able to afford them.”

You cannot find a simpler and clearer explanation on pricing. IKEA has chosen to maximize its profit by appealing to as many people as possible. Note that if the prices are any lower than they are now, even more will  shop, so why not do that? Clearly they have to price the merchandises at least above their marginal cost (ignoring loss leaders here) – the cost for the store to acquire, ship and shelf them. Even at prices above marginal cost, after certain point the increase in number of customers by lowering the prices will not deliver incremental profit. So they find a price point at which the profit is maximized.

On the flip side, if they were to increase pricing on certain merchandise then they will find fewer people willing to buy it. They may find that the loss of profit from lost sales is more than incremental profit from price increase.

Back to shopping cart in parking lots. If you followed the pricing for profit maximization argument you can see why. The store cannot simply increase prices to recoup the losses from shopping cart damage liability or any other such costs without affecting the sales/profit. The prices we see now are optimized to the extreme, to their final cent. A moment’s reflection will convince you that if they can indeed raise prices because we are not stowing shopping carts properly without affecting sales/profit they would have already done that – shopping cart or not.

Second let us look at this from cost and execution angle. Each IKEA store sells 10,960 products. Only the marginal cost of the merchandises matter not the fixed cost of operating the building, the interest payments, employee salary or liability insurance premium. Even if the costs were to be allocated to each merchandise, and somehow they have figured out a weighted average method to do so across all 10,960 of them based on their price and sales volume, the increase will likely be very low that we won’t even notice it. Which brings us back to previous point in bolded text, why wait for the damages to go up?

So what we see is a nudge to improve a store’s operational profit by keeping its costs down – be it liabilities or hiring an additional person. None of these can be easily passed on as higher cost without impact on their sales and profit. Do not worry about prices going up.

Next time you see a sign like this, do not take take the pricing reason for granted. Leave the cart in its allocated space because it is the civic thing to do.