Average Customer is Willing to Pay 12.36% Price Premium for …

We have seen studies on what the average customers say they are willing to pay for:

  1. Green products
  2. Socially responsible brands
  3. Customer Service

These studies are based on polls conducted with customers, asking questions of the type (examples, not specific to any one poll):

  1. How likely are you to pay 5%, 10%, 15% … price premium for factors X, Y or Z?
  2. The current product you buy is priced at $12, will you pay $14, $15, $16 … for the same product that are produced in green/socially responsible way?

The results from these polls are quoted in the form of  “the price premium the average customer is willing to pay for the same products only enhanced”.

There are two big issues I find with any poll based study of willingness to pay:

  1. They can only measure customer’s attitudinal willingness to pay, not behavioral. That is, what the customers say and not what they actually will do. There is a huge attitude to behavior gap. Customers will say what they think is the right answer or what they think the poll taker is interested in hearing. By the time the customer gets to the point of purchase the stated WTP may not materialize.
  2. There are no average customers just like there are no families with 2.1 children. The studies do not take into account that different segments value different benefits and hence have different willingness to pay. There is no point in providing the same  product or same great customer service to all the customers.

These arguments should not be interpreted as, “no one is willing to pay premium for product or service enhancements”. After all there are at least 250 people willing to pay $33,000 for their mattresses. It is just that we cannot make business decisions based on what an average customer is saying about what they are willing to pay. For the results to be actionable, we need to find out what the segments are, how to target them, what benefits they value and what they are willing to pay for these benefits. For that we need point of sale data or at the very least a conjoint study.

There is no average customer and if there is one, what he/she says about their willingness to pay is not reliable.

How Green product strategy affects customer Willingness to Pay – Consumer Behavior Experiment

Customer surveys conducted by Yale to GoodPoll  to many others,   find that customers are willing to pay  15-17% price premium for Green products*.  For a marketer considering introducing Green products, the key question is whether their customers’ willingness to pay is different,

a)      When only the Green version is offered, discontinuing the not-so Green version

b)      When the Green version is offered alongside  the not-so Green version

If it is indeed different, how can the marketer capitalize on this to maximize their profit?

In a study reported by Klaus Wertenbroch, customers’ perceived utility  from a virtue product was higher when offered alongside a vice product than just by itself.  I decided to test whether this finding is applicable in the context of Green products – treating them as virtue products  and  the environmentally unsafe and not-so Green products as vice products.

I hypothesized,

H1: Customer WTP is higher when Green products are offered alongside not-so Green products than when offered in lieu of not-so Green products.

Experiment Design: I designed a between groups experiment with random assignment to measure customer acceptance of a fixed 15% price premium for Green products. There were two poll questions, one that offered just the Green option and the other offered both. The poll asked the respondents to rate on a 10 point scale their likelihood of purchase (attitudinal) of Green version at 15% price premium.  I conducted the experiment using LinkedIn network , twitter and MBA class of 2011 at Haas  (thanks @hrishika, Go Bears!).

Analysis: I analyzed the results by  comparing the two sample means using non-paired t-test. The hypothesis is accepted only if the difference between the two sample means is statistically different.  Otherwise it is rejected, meaning no difference in WTP.

Results: The mean ratings are 6.0 for  two versions and 6.55 for just Green version.  But, based on the statistical test, I found no statistically significant difference between the two sample means –  there is no significant difference in customer WTP  in the two scenarios.

What does this mean to you as a marketer?

  1. This study only measured attitudinal WTP like all previous studies. The fact that the mean values are near neutral (6/10) should serve as a caution. This could go much lower at the point of purchase. This is due to attitude-behavior gap.
  2. WTP for Green version is not influenced by  the decision to either offer just Green or both versions. Conversely, since there is no negative effect when a marketer offers both versions there is no compelling need to discontinue the not-so Green version when offering the Green version.
  3. Decision to offer  both versions should be a strategic one considering all  versioning costs and benefits that I have written about in my previous articles.
    1. If your versioning costs are low, it is better to offer both versions. But make sure you do not make your customers think too much in evaluating the two options.
    2. If you offer only the Green versions through certain channels, it helps to reduce choice and hence cognitive cost to customer without impacting their Willingness To Pay.
    3. If you are positioning yourself as the only Green marketer, then offering just the Green version enables you own the category.

What is your Green Strategy?

*All these polls measure attitudinal WTP.

Footnote: If you want the raw data to do your own analysis drop a note.

The Price We Charge

As a consumer we all value products differently and even value the same product differently based on time and context. That defined our willingness to pay. For a marketer that is a complex problem to solve. How should they price their products so they are making all profitable sales that are possible and not leaving any money on the table?

A consumer would love to leave with a “smile on their face” after paying a price for a product. A marketer on the other hand would like to completely “wipe that smile off the face”, that is extract all consumer surplus. But how can the marketer do this for every consumer?

Intuitively we can see here that at a given price some consumers are priced out, some leave with a smile and the rest leave with no smile.

In “The Price We Pay” I talked about an hypothetical device that can tell consumers how much they value a certain product. Now let us invert that device, this time it helps marketers. Every time a consumer walks in,  the marketer points the device at them and it tells the consumer’s true willingness to pay and the marketer gets to charge them that. Just like the previous one  this device does not exist as well. This is the reason for the different price discrimination schemes and multi-version pricing. All designed to maximize profits.

The question is how best to do this. This is a whole lot science that just art. Look for more articles on these topics in the coming weeks.

Price Premium for Green

I came across a study conducted byThe Yale School of Forestry and Environmental Studies
through SigSigmaPricing blog. The study’s goals were:

To understand the perceptions of eco-labels and environmentally-friendly products held by Americans and Canadians. Are American and Canadian consumers interested in purchasing environmentally-friendly products? Do they prioritize environmental concerns over price and quality?

One key finding from this study is

many Americans say they are willing to pay more for “green” products. Half responded that they would “definitely” or “probably” pay 15% more for eco-friendly clothes detergent (51%) or an automobile (50%). Four in ten say they would spend 15% more on “green” computer printer paper (40%) or wood furniture (39%).

The price premium results are not something a marketer can act on. There are a few issues to note about the study:

  1. This study was conducted by telephone survey and hence measure attitudes and not actual behaviors
  2. The survey question was very specific and could be interpreted as leading –  here is their question
  3. I’m going to read the same list of products and this time, thinking about your current financial situation, please tell me whether, the next time you make a purchase, you would definitely, probably, probably not, or definitely not pay up to 15% more for an environmentally-friendly product. First… [READ EACH ITEM.]

    The 15% number came directly from the survey and not derived from responses and most could be tempted to say yes despite their actual behavior at the point of purchase.

If we need to find the true price premium customers are willing to pay for green products then either a conjoint analysis that exposes willingness to pay or a mini-market study that measures customer behavior is needed.