Answer to Pricing Puzzle – Why do children’s museums charge lower price for children?

First note that the marginal cost for the museum to allow one more child (or a family) is $0. That is irrelevant to pricing regardless of what some guru says about future of pricing.

This is a case of metered price discrimination combined with partitioned pricing. Do not look at this as two separate price points for parent and children. This is just one total price. The museums want to charge a fixed price per family. If you assume a simple case of  one parent per child combination, the museums want them to pay one total price for their entry.

Some parents may find the total price too high and may not use the museum but others will.

Once they decided the total price for parent-child pair it becomes a question of how to partition it between parent and child.

  1. They could simply not partition, setting one price for the pair. That would result in the customer (the parent) assigning all the price to just one and see value mismatch. Research on combined vs. partitioned pricing suggest the single price will not be received well with the customers.
  2. Charge all the price to parent or child and call the other one as free. This has the same effect as previous case.
  3. They could share the total price evenly and set same price for both adult and child. But that goes against the reference price in the minds of the customers on priced they pay for children. Same reason they cannot assign higher share to the child.

Hence we have the case we see everywhere despite value delivered to the customer, parents tickets are priced higher than the that of children’s.

A case of partitioned pricing.

It isn’t ‘fair & square’ for consumers, it is ‘focus & simplify’ for JCPenney

This is a guest post by Praveen Rajasekar, an aspiring entrepreneurial product marketer pursuing MBA at GeorgiaTech.  This is his detailed analysis of pricing strategy change announced by JCPenney. See his full bio at the end of the article.

JCPenney (JCP) unravels a transformational plan attempting to change consumer retail experience.  Will its new ‘fair & square’ pricing strategy and month-long value promotions make it America’s favorite store? Perhaps, but it will depend on how effective these strategies are going to influence consumers in its target market.

Over the years, we as consumers have become accustomed to sales and discounts in retail stores. For some of us, buying a product on sale provides a sense of achievement. For others, it’s just common sense because you get used to the numerous sales and promotions. So the real question is will the new pricing and promotions at JCP change consumer buying behavior? An economist would say yes, with changes in price the quantity demanded changes. But as a marketer we are faced with irrational consumer behavior.

Marketers have long used pricing as a tool to signal quality. But with numerous sales and discounts, it may become counterproductive.  While prices ending in 0 are perceived to signal quality, based on the psychology of pricing, marketers have used prices ending in 9 to signal discount.  JCP has done away with $X.99 prices and has decided to round them to $(X+1).00 and has also limited the sales promotions to convey ‘We are a quality (not a discount) retailer’.

In addition, it has devised three types of pricing:

  1. Everyday prices – Regular prices, not everyday low prices.
  2. Month-long values –Better prices that change monthly based on seasonal needs.
  3. Best prices –Clearance-level rates on the 1st and 3rd Fridays of every month.
JCPenney Pricing Waterfall

It also promises consistent pricing strategy across all channels whether in-store or online.

What does this mean to us as consumers? Zero price discrimination. Wow, that sounds cool. But is it really enough to attract consumers? It depends.

Will we buy an IZOD shirt from JCP for $40.00 at their new everyday price or wait for it to be on sale at Macy’s for $34.99 down from $60.00 original retail price?

It depends on how quickly we need the shirt and whether we are willing to wait for a sale at Macys. Therefore JCP may not really win customers from its competitors overnight, using this pricing strategy. But, it has the potential to attract the customers who are in immediate need and are willing to pay the everyday prices. In addition, the new return policy allows customers to return any merchandise at any time for any reason and might provide JCP an advantage over its competitors.

Apparently for JCP, past promotions did not make a big impact on sales, as it ran 590 promotions in 2011 and the average number of customer visits was only four, which implies that 99% of the times customers ignored those promotions. Now, JCP has decided to simplify and provide month-long promotions instead of a plethora of other promotions provided thus far. This definitely provides a level playing field for all customers. But whether the price offered during that period is within the customers’ willingness to pay is something to watch out for, especially as retailers fiercely compete for market share by undercutting each other across both brick and mortar stores and online channels.

It is also critical to note the JCP with a slew of brands (including Martha Stewart® introduced at the launch event) is attempting to attract a wide range of customers. Some of whom might welcome the new changes while others still vie for more discounted brands. With such a broad spectrum of consumers in JCP’s target market it is unlikely to become America’s favorite in the near term. To do so would mean changing customer expectation of exclusive sales and deep discounts.

JCPenney’s ‘fair & square’ pricing strategy appears to be part of a bigger ‘focus & simplify’ retail strategy and logically doesn’t seem radical or game changing in isolation. But with the broad promotions and personality branding, along with the future suggested changes in products and retail stores, the strategy holds promise. Especially, if consumers start realizing that JCP consistently offers lower prices in comparison to its competitors, without the hassles of coupons. As Ron Johnson articulated in the conclusion of the launch event– ‘Every journey begins with a first step!

Related Posts:

  1. Price Realization – JC Penney Price Leaks
  2. Price Elevator – JCPenney on Loss Leaders
  3. Pricing starts with customer segmentation
  4. Price realization by GoodYear
  5. Black Friday Sale – Price Discrimination
  6. What if there were no price tags?

Bio: Praveen Rajasekar is an aspiring entrepreneurial product marketer. He has an undergraduate degree in computer science and engineering. After 6 years of IT consulting for Fortune 500 clients, he is pursuing full-time MBA at Georgia Institute of Technology, focusing on Marketing and Strategic Management. He is a Warren Batts fellow in the TI:GER® (Technological Innovation: Generating Economic Results) program, developing business plan and go-to market strategy for new research technology. He is an avid foodie and vivacious volleyball player.

https://twitter.com/tweetpraveen


Who will be more disappointed?

Who do you think will be more disappointed in the following cases:

 You are running a raffle to give away iPad. The winner will be picked using raffle tickets. Each person gets either a blue ticket or a yellow ticket. There are 100 each and the tickets are numbered sequentially with blue tickets numbered from 738000 and yellow tickets numbered from 637000. People keep the stub and drop their tickets in a glass bowl (blue and red in same bowl).

Just before you pick a winner you announce – blue tickets are not going to be picked. You hear a collective awww from the audience. Then you go on to pick a yellow ticket and announce the winner.

Who will be more disappointed – 100 blue ticket holders or the 99 yellow ticket holders who did not win.

Say the winning yellow ticket number is 637065. Who will be more disappointed – person with ticket number 637000 or 637066,637064?

Variations:

  1. What if you handed out  150 blue tickets and only 50 yellow tickets and the rest of the process is the same?
  2. What if  you were raffling two iPads instead of one and still disqualify all blue ticket holders?
  3. What if you were raffling two iPads and say one winner per ticket color?
  4. What if you were raffling two iPads and say both winners will be picked randomly regardless of color?

I have my hypothesis – here it is.

Self Serve and Price Realization

Previously I wrote about the self-serve frozen yogurt stores in the context of creative packaging for better price realization. To refresh your memory, these self-serve frozen yogurt stores price and sell yogurt based on weight. They give you a container and ask you to fill it up with any one of the many flavors and toppings and then charge you one single price per unit weight.

The hypothesis I made then was that self serve option made customers spend more then they imagined they would. To be sure, it was based on a single visit to one frozen yogurt store.

Fortunately someone else collected data on the average customer spend in non-self-serve and self-serve frozen yogurt stores. Recently, the Small Business section of WSJ published data that is likely based on more than one visit,

With weight-based pricing, the average self-serve ticket is $6.32, compared with $5.61 at a traditional store, says a TCBY spokeswoman.

That is 71 cents more than traditional store. But questions remain,

First, is that increase all due to self-serve? The WSJ article calls it, “giving power to people”?  Do we feel so empowered that we end up spending more? Is this because we feel less comfortable asking someone behind the counter for something we desire?

I can hear Customer service and “co-creation” evangelists jumping to big conclusion about the incremental profit from customer empowerment.

The answer is not straightforward. While the customer spend numbers may be based on TCBY observing years worth of data from its many stores, it is not correct to attribute causation to mere customer empowerment aspect. Data may fit one hypothesis but it can also fit any number of plausible hypotheses.


Another hypothesis is the one due to the shape of the container.

Shorter Wider Containers

The containers used in all these self-restaurant have a common pattern. They are all much wider than the containers we see in traditional yogurt stores.

As the research by INSEAD and by Brian Wansink indicate, we lose our ability to judge volume with wider containers. In addition wider bottom nudges us to cover the entire bottom and then build on it. It surely would feel odd to have yogurt in just one small area of wider bottom.

In addition we also do not know how much we spent. It is not that we are adding one scoop at at a time. We do not know the concept of weight. So by the time we take the container to the counter to pay, we have no idea of the price we are going to pay unlike traditional places that list the price right upfront before we make the decision.

The net result is we end up filling up lot more than what we likely want to eat and spend lot more than we normally would do at traditional yogurt places.

To say, “power to the people” (or “co-creation”) is the reason for higher spend is not correct unless someone can do multiple different experiments and run step-wise regression to find out what percentage of changes in average spend can be attributed to “the feeling of empowerment from self-serve”.

Second, should you as a small business considering yogurt store opt for self-serve model over traditional store?  Talk to me, I can help you run a model to see if that is the case.

Do you have to enchant your customers to gain loyalty?

What does it take to gain customer loyalty?
Beating their expectations is one way. But by how much?
Do you have to beat their expectations by a mile?
Do you have to forgo profits in the form of lower prices and higher service?
Can your business profitably beat customer expectations?For any marketer trying to gain customer loyalty in the form of repeat purchase, these are valid questions. After all there is no point in gaining loyalty of customers at the expense of profit.This article is about answering these questions using consumer behavior research.

Background and Hypotheses Development

Sometime back Tom Hulme sent me a tweet on his experience with Nespresso. Tom enjoyed using  his Nespresso machine but one day the water container broke. Tom said,

Did Nespresso price its part correctly?
Did it have to price it so low to gain loyalty?

I posited that Nespresso gave away too much, priced it incorrectly and should have given choices.

These discussions  led me to propose the  following two hypotheses

H1: Brands do not have to beat customer expectations by too much. They can get the sameeffect by beating it just enough.

H2: When customers are given choices at different price points, they will self-select themselves to the right version and will exhibit same loyalty as those receiving large price discount.

The loyalty here refers to attitudinal loyalty as there is no easy way to measure behavioral loyalty.

Experiment Design

I designed a between groups experiment to measure the difference between the stated attitudinal loyalty of different groups.  There are four groups in this experiment, all of them are filled in on Nespresso and were primed with a fixed willingness to pay of $30.

Since customers do not not what they are willing to pay and some of my experimental subjects may not know the cost of parts I used the price of $30 to normalize their willingness to pay.

Different groups were given different price rent by quoting them different price for the replacement part.

Group A:   WTP = $30, Quoted Price = $2.99
Group B:   WTP = $30, Quoted Price = $25.99
Group C:   WTP = $30, Quoted Price = $19.99
Group D:   WTP = $30,  Choices: Basic $9.99, Exact $19.99, Premium $28.99

Group B and Group C are similar but test different price points.

I designed the experiment using survey format (thanks to SurveyGizmo and its very powerful split testing functions) and ran it as a survey on people in my network and bunch of MBAs from Haas School of Business, Berkeley.

Respondents were asked to state their likelihood of repurchase  on a 6 point scale (a measure of loyalty). I also asked them to rate their likelihood to recommend the brand to others, more on this later.

Results

For testing the first hypotheses I compared the sample mean using 1 tailed t-test.  Between Group A ($2.99)  and Group B ($25.99) there was statistically significant difference (p=0.023) between the two samples. This could mean that beating customer expectation by a mile, in the form of very low price will have higher effect on loyalty than beating customer expectation just by a foot.

Between Group A ($2.99) and Group C ($19.99), the difference is not statistically significant (p =0.243). This is a critical finding. While $25.99 was no enough, $19.99 engendered the same level of loyalty as $2.99. That is a huge price difference. Brands do not have to give away the farm in  the name of loyalty. This also points to lost profit opportunity for Nespresso.

Next  let us take the second hypothesis that choices and self-selection (Group D) would perform at least as good as giving steepest price discount (the $2.99 option Group A).

Comparing sample means show there is statistically significant difference between mean likelihood ratings of Group A and Group D (p = 0.014). This is a big surprise for three reasons.

For one thing, when customers were given choices and self-select themselves to the version they prefer, they are more likely to feel ownership and increased utility.

Second, this Group was offered the same $19.99 price for the “Exact Match” version. This was the only option offered to Group C. While Group C showed no difference from Group A, this group did. Presence of choice negated any positive effect from $19.99 price.

Third,  if we looked at the sub-group  that chose the lowest priced Basic version ($9.99), there still is statistically significant difference between this sub-group and Group A.

One conclusion we can make is that presence of options for replacement parts causes customers to incur cognitive cost that is reflected in the form of low loyalty rating.  However, this requires further consideration before casting aside versioning.

One interesting corollary is the correlation between loyalty measured as intention to repurchase and likelihood to recommend. As I stated before, I asked respondents to rate both. There is very high correlation (0.99) between the two metric. Likelihood to recommend is not a better measure as contend.

Marketing Implications

Loyalty does not have to mean “delighting, enchanting, astonishing” customers. You can beat customer expectations by just enough. This is attitudinal loyalty and may not translate into behavioral loyalty. So in general using price discount to generate future sales is not recommended.

Statistical significance does not mean economic significance. The mean loyalty rating for lowest price group was 4.4 vs. 3.68 for $25.99 group. Will gaining loyalty at the cost of $22 per customer generate more profit in the form of future purchases?

For pricing replacement parts, brands need to do Willingness to Pay studies just as they do for the full product. There is no reason to sell the replacement part at cost due to fears of customer backlash. Same principles of value based pricing apply for parts.

While multi-version pricing is effective in most scenarios, offering choices for replacement parts comes at a cost to customer (See 4 costs of versioning). While versions enable profit maximization its effect on customer loyalty needs to be considered.

How Discounting Affects Product Value Perception?

It is fair to say everyone loves a discount. There is data to support the claim from years of Black Friday discounting that not only makes customers skip sleep and stand in cold weather for hours but also generates considerable revenue for the retailers. Then there are the group buying discounts made popular by GroupOn.

At the individual customer level, previous research done on customer preference for discounting point to both rational economic and emotional reasons.  Kahneman and Tversky showed, customers prefer discounts even if they saved lower amount in absolute terms.

Thaler in his work on Mental Accounting and Consumer  choice provide evidence of emotional (non-financial) reasons for why we may be motivated by discounts.

So we all value deals for rational and irrational reasons. But how much do we value the product after the initial buying decision? More specifically, since we do not know the absolute values, how much relative value do we place on a product bought on a discount vs. an identical and substitutable product bought without the discount?

There are three distinct possibilities.

Hypothesis 1: If we treat our customers as rational (ignoring the contradiction), once they bought the product at whatever price, the costs are sunk. How much relative value consumers get from each product should depend only on its own merits and independent of initial discount. At the very least, the choice between the two should be no different from  a random choice.

Hypothesis 2: If we treat our customers consistent with their previous action of seeking discounts for non-financial reasons, we should expect them to value the product bought at a discount higher than that of the one bought at full price.  This hypothesis is further reinforced by endowment effect and cognitive dissonance (I must really value this product, otherwise I would not have stood in line for it).

Hypothesis 3: Customers value the full price product more than the one bought at discount (remember the preconditions – identical and substitutable products).

So I conducted an experiment. The data and analysis show that  the last scenario, Hypothesis 3, is more likely than the other two.

The experiment was designed to get customers to reveal their preference by asking them to give away one of the two identical products of same price:

  1. One they bought at full price
  2. Other they bought at 50% discount

As it turns out, customers are more likely to keep for themselves the full priced product and happily give away half-priced identical product.  So while discounting may bring in customers, it may hurt by depressing the relative value of the product to the customers.

What does this mean to you as a marketer?

  1. Think again before running 50% deals on any group buying site or allowing your product to be bundled and sold at a discount by other channels.
  2. Attracted by large user base from giving away your product for free? Consider loss in perceived value to the customer.
  3. Know the customer’s end use of the product. If they are predominantly buying it for their own use, discounting most likely will not help improve lifetime value of the customer.  If they are buying it for others, discounting helps.

Want more actionable insights? Talk to me.

Further readings:

Kahneman and Tversky – Choices, Values and Frames, American Psychologist,  1984

Thaler – Mental Accounting and Consumer Choice, Marketing Science 1985

Note on the Experimental Method:

I relied on convenient sampling and applied Bayesian hypothesis testing. Compared to conventional, run of the mill hypothesis testing, say testing for statistical significance at 95% confidence level using Chi-square test for this case, Bayesian Hypothesis testing allows to test multiple hypothesis at the same time and help state the results in terms of probabilities instead of as absolute truths.

Results are subject to sampling errors, and do not take into account segmentation differences. This is also stated preference study and not a revealed preference study.