Pricing Strategy

According to research published last week in the Proceedings of the National Academy of Sciences by Antonio Rangel of the California Institute of Technology, appreciation for a product's intrinsic qualities is subject to a type of information we receive -- pricing.

As reported in The Economist, Dr Rangel and his colleagues found that if people are told a wine is expensive while they are drinking it, for example, they really do think it tastes nicer than a cheap one, rather than merely saying that they do.

The study suggests two possibilities for this reaction: (1) learning from the choices of others for survival reasons -- with pricing being a good proxy for that kind of collective wisdom; (2) consuming for the purpose of showing off -- status and better mating opportunities being associated with it.

A successful marketing campaign might allow consumers to enjoy the products it promotes more, on top of making people interested in them.

What you see in the photo here is a remarkably quiet shot in front of the Louis Vuitton store in Via dei Condotti, Rome. It took me about twenty minutes to get that shot. I had to wait for a clean view -- the street, and this window, was a sea of people. The same two reasons offered as possibilities in Dr Rangel study where at play here. The luxury brands displayed in the windows provided an opportunity to breathe in the rarefied air of consumption and partake in the refined displays everyone else enjoyed.

There is a thriving market of fake luxury items or knockoffs, especially in Europe. It lives side by side with the real deal and it has affected the luxury goods market. There have been bitter complaints by designers and fashion houses, yes. Yet, luxury-goods makers, far from cutting their prices in response to the knockoff boom, have instead been able to raise prices consistently. The satisfaction of owning a true Louis Vuitton bag cannot be replicated, and people are still willing to pay a higher price for the privilege. Craftsmanship aside, this is about a unique (or more rare) experience.

At the other end of the pricing spectrum is what Seth Godin and then Fred Wilson talked about for the digital age -- low pricing. For the economics of online distribution there is an entirely different set of considerations. Aggressive pricing (as in low) in digital goods can lead to outcomes that are desirable for both the producer -- scale -- and the consumer -- convenience.

There are many considerations to keep in mind when pricing a product or service -- the demand curve, cost, environmental factors, differentiation, profit and revenue targets. In addition to supporting the realities of the marketplace, pricing is information that supports the product positioning. When buying something close to the the high end of the possible price range, the enjoyment we derive from the product signals another kind of social information that says -- because I'm worth it.

Comments

[Andy Didyk]

Valeria,

I've been a lurking (but appreciative) reader of yours for some time now. I found your post rather timely, as the Social Science Research network also posted some interesting research on pricing recently. Basically, they found that people tend to pay more for something and with less haggling if the item is priced with an exact price (say, $423.45).

I wonder if this same finding applies to luxury goods, or if they are all more of a flat rate because consumers of luxury goods don't care what the price is? I also wonder if there is an implication in the demi-luxury goods market?

Thank you for your posts, you've written some truly great things.

[Valeria Maltoni]

Andy,

Thank you for adding a dimension to the discussion. An exact price is more believable thus easier to agree to as people tend to round up when talking about cost.

I'm thinking that the application to demi-luxury could be interesting. The luxury-goods market is a totally different animal in my mind. By the tie you walk into the store, you have *already* decided you are going to buy, the cost becomes information to validate your purchase, not a determining factor.

[Carolyn Ann]

Is the underlying question about perceived value?

It's a falsity, but I think it takes an expert in the field to determine that. What field? Funny "you" should ask... But, the expert isn't always right. :-)

A sommelier is more likely to know the better wines, regardless of cost, than the average restaurant goer. I'm working hard on trying to get the Citroen 2CV into my point, but my command of argument isn't quite up to the task. I'll settle for this:

Cost equals, well, nothing but a perception of value. In the case of genuine luxury goods, the manufacturer can reap the benefit of popularity - and provide that extra little "zing" of being genuine, at some premium.

Just because something costs a lot, implies little about its actual quality - until that quality is proven! The Citroen 2CV isn't as fast, or refined, a car as the Rolls Royce, or the Porsche 911, but you know what - neither the Rolls nor the Porsche will carry a basket of eggs across a plowed field without breaking them. (I nearly had it! Sorry.)

People equate cost with quality - and they shouldn't. Cost means something, but quality, well - that's impossible to define. But you'll assuredly know it when you see it. :-)

Carolyn Ann

PS I think the point is that quality is communicated by the entire brand, the entire conversation, you have with the consumer. A great product, but lousy sales staff isn't a quality act. I know at least one Honda dealer like that; the most recent one we dealt with? Quality product, quality service; resulting in "a very happy customer". Who is already planning to spend another $30K on a new car with that dealer. (The other dealer? We'd be happy if they went bust.)

[Valeria Maltoni]

A good marketing campaign will not conceal defective products or make them more appealing than they are. You've got to have it nailed on the product angle.

If you do, and have worked to build something that is of value to a certain demographic, type of customer, group of people -- there is research there, too -- then the quality as perceived by those same people will be value.

Are you sure you're not from Europe? Your taste seems to indicate there is a preference for European craftsmanship.

Agreed, a sommelier will know good wine from taste. The study interested me because I grew up in Italy and I know that back then a designer brand "made" you better. Yes, we were all teen agers and did not have too many other points of reference, but it was a piece of important information about you.

It still is, or people would push back on highly priced items. And interestingly enough, in many cases, the purchase is aspirational.

I've been thinking about shopping for a new car in the next year or so -- and I am very undecided. I keep thinking of cars and bikes when we exchange comments ;-)

[gianandrea]

Valeria, you know my point about luxury market and the capabilities of its players to retain high image and high margin even on the smallest stuff.
Perception of quality, added value, design these are all components to make "the" price.
Perception: wine is the easier example and you and other commenters have already exploited perfectly.
Added value: if you wear a IWC watch or a Dior bag, etc., you get the image of the product. Is it bad? Yes and no. Yes because you should not be judged by what you wear, no because it is a sign of taste and what you wear is undeniably part of your personality.
Design: this is the only one not always directly linked to price and the 2CV is the example. A cool car no matter the speed and the gadget (nothing, in fact) at a low cost. Ikea is another example.
But as a matter of fact a piece of design is
always perceived as costly.

[Valeria Maltoni]

The perceived value as in expressing one's personality is probably the easiest to wrap our arms around.

I'm with you on design -- aesthetics has its place. this reminds me of Virgina Postrel's book "The Substance of Style".

[Mark Burton]

Some really interesting points here. The research seems to validate something that is called the "price-quality" effect. As its name implies, it says that in the absence of any other information, consumers will use price as a gauge of the quality of a product or service.

Much of my work is in the b2b space. When formulating a pricing strategy there, it is important to look at a few key elements. The first is the value of the offering (in hard dollars) relative to competitive alternatives. If you have superior value you can choose any one of the three basic pricing strategies - skim, penetration, or neutral. You should also look at the stage of the product category lifecycle. Godin's observations are very effective for markets in the high-growth stage where low prices encourage trial and adoption. But a low-price strategy is destructive when markets mature and demand growth slows. When considering a low-price strategy, you also should consider your cost position (can you sustain the strategy?) and the likely response of competitors (will you start a destructive price war?)