Small Price Difference, Relatively Large Performance Difference

Aug 19, 2015

 

Different buyers mean different approaches, and price-sensitive customers need to be handled differently when pricing premium versions.

 

Last week a post looked at the differential pricing strategy used on the standard and premium versions of name brand rechargeable batteries. In this example the premium version cost much more (about 75% more) than the standard version, while offering a relatively small (29%) increase in performance. This is an example of differential pricing, where the vendor can place a much higher markup on a premium version that is more focussed on performance and less on price. It effectively lets them sell very a similar product at a much higher profit to customers that are ready and willing to pay more.

The post also looked at the pricing on premium and standard versions of rechargeable batteries from a generic "house" brand that targets more price-sensistive customers.

Here is the standard 1900mAh version of their rechargeable batteries, which sell for $18.99.

 

standard-generic-rechargeable-batteries.png

 

Here is the premium 2400mAh version, selling for $22.99:

 

premium-generic-rechargeable-batteries.png

 

The name brand vendor we looked at in the earlier post charges an extra $20 to go from 1900mAh to 2450mAh. The house brand charges just $4 more for almost the same difference in performance (1900mAh to 2400). It is an enormous difference, 500%, and assuming that the costs are similar it means an incredible markup for the brand name vendor.

Relative to the name brand, where you pay a huge premium for a relatively small increase in performance (75% more money for just 29% more performance) upgrading the house brand batteries makes sense. For 21% more money you get 26% more performance.

Why would the house brand take such a different approach? Why not follow the lead of the brand name vendor and place a much higher markup on the premium version?

Assuming that their costs are similar we can assume that they are looking at a very different customer profile. The customer looking at cheaper house brand batteries is likely to be a price sensitive customer. If they were less sensitive to price they would probably be looking at the name brand batteries.

Knowing that it is much less likely that they would be inclined to pay a large premium for a small improvement in performance, and the brand name approach would be a wasted opportunity.

Instead they try and account for the diminishing marginal utility of the extra performance. A price sensitive battery shopper values the utility of a battery, just like a hungry moviegoer appreciates that first mouthful of popcorn.

The price sensitive shopper also places much lower value on the extra utility provided by the premium version, just like the moviegoer gets less enjoyment from the 20th mouthful.

In both cases the solution is to align prices with the value that the customer assigns to the additional units, whether it be mAh or additional mouthfuls of popcorn. Smaller markups on the additional units mean smaller additional profits, but those profits are still additional – profits the house brand vendor would not enjoy if they went with higher markups.



Category: Examples

Sponsored by FloristWare – Software For Florists

Beyond Cost Plus is sponsored by FloristWare – powerful, affordable and easy-to-use software for florists that saves time and money while increasing sales.

FloristWare – flower shop software/POS system.

Related Material

Gasoline, And Why You Should Always Let Customers Pay More

We get so hung up on customers focussed on price that we make an expensive mistake. Premium gasoline shows why we always need to let customers pay more.

Pricing Lessons From MLB Tickets

Being honest about how fans value different games helps baseball teams sell more tickets at greater profits (and recover money otherwise lost to scalpers).

If Costs Determine Price Why Do E-Books Cost More?

The traditional cost-plus approach to pricing dictates that price is a function of cost. So why are e-books (no printing, binding. etc.) more expensive?

Eggs & The Power Of Attributes

Eggs illustrate how attributes can be used to stream buyers and price according to their willingness to pay rather than the actual cost of production.

Tesla Doesn't Price Based On Costs & Neither Should You

By charging different prices for the same battery Tesla illustrates that a cost-plus formula is much less important than a willingness to pay.

Costco/Amazon Prime Model Taken To The Extreme

This real life example shows how far you can take a pricing model similar to that used by Costco and Amazon Prime. Can florists do the same?

Discounting Candy To Account For Diminishing Marginal Utility

Another example that illustrates how the intersection of perishability and diminishing marginal utility determines discounting.

Pricing For The Diminishing Marginal Utility Of BBQ

The menu from this BBQ restaurant shows they understand the diminishing marginal utility of their product and price to get customers to buy more anyway.

The Diminishing Marginal Utility Of Draft Beer

Draft beer is highly perishable and offers diminishing marginal utility – a combination that makes discounting larger servings a profitable approach.

More Money For Less Car? It Depends On What You Value

Why would a car that has been stripped of features like air conditioning, sound system and floor mats sell for more money even though it costs less to make?

Pricing Attraction Tickets and Bundles

Attractions are a highly perishable product and operators are keen on revenue management – combining bundles and hurdles in an effort to maximize revenue.

Diminishing Marginal Utility, Anchor Pricing & Attraction Tickets

The historic ships in Baltimore, open to tourists, recognize that they offer diminishing marginal utility and price accordingly.

Large Difference In Price For A Small Difference in Performance

Smart pricing lets customers that place a high value on a product spend more - if a customer wants to spend more good pricing lets them do just that.

Adjusting Prices For Diminishing Marginal Utility

Recent examples of smart vendors understanding (and accepting) the nature of their products and discounting to offset their diminishing marginal utility.

Price Discrimination vs Differential Pricing

The terms Price Discrimination and Differential Pricing are sometimes used interchangeably, and there can be some overlap, but there are some important differences as well.

Differential Pricing Example – DVDs

Popular movies are released on digital media in a bewildering number of versions and formats in a great example of differential pricing.

Cheap Tuesdays – A Great Self-Propagating Hurdle

"Cheap Tuesdays" at the movies are a great example of a self-propagating pricing hurdle – one that has the effect of making itself even more effective.

Hurdles & Price Discrimination – New Content

New content explaining the concept of hurdles and their place in a comprehensive differential pricing/price discrimination strategy has been added.

A More Profitable Way To Quote Weddings and Events

A new way to quote weddings and events that results in more sales and larger profits by self-streaming customers according to how they value your product.

Cheap Tuesdays – A Self-Propagating Hurdle

Color can be used as a hurdle to identify buyers focussed on price, discount to them exclusively, while not discounting to those less concerned with price.

Category List


Tag List


Tag Cloud



Archive

2018

2017

2016