Price Discovery via Incrementalism

March 2019

Hello Pricers,

As you know, there are many holidays that occur this month, but one of the most important is the Ides of March. On that day two-thousand years ago, Julius Caesar was forced to pay the ultimate price for ignoring the needs of his stakeholders.

When is the last time you stopped to think about your stakeholders?

Ignoring opportunities to research your customers, analyze your market, and study your industry's trends may appear harmless at first but can lead to a precarious future for your business.

Pricing Question from a Reader

I read an article on another website that suggested the best way to figure out my ideal pricing is to keep increasing my rates until I encounter too much resistance. Is calculating my ideal price really this easy?

I have great news for you: the method that you describe really is that easy.

The use of incremental price increases for price discovery is taking the business world by storm - and for good reason. It requires so little in the way of financial sophistication or researched analyses that anyone can implement it in a matter of seconds. As an added bonus, like van Westendorp's famous technique, it's incredibly easy to defend because incremental price increases are used by tiny companies and big firms alike.

Unfortunately, there is more to consider than the method's simplicity and popularity. You must also evaluate its ability to improve your bottom line.

Raising your prices incrementally does provide useful feedback about your customers' willingness to accept higher prices - but that's also its greatest drawback. It zeroes in on the behavior of your existing customers.

The prices that your existing customers are willing to pay is often very different than what potential customers are willing to pay. Not only have your existing customers been trained to accept your current prices, but different types of customers often stick to particular segments of the pricing spectrum. Sure, there are billionaires who love to order from the dollar menu at McDonalds, but many customers tend to prefer or, at the very least, are accustomed to making their purchases within a relatively narrow band of pricing, due to a combination of affordability, personal comfort, and habit.

While your existing customer base might go along with your experiment and acquiesce to your price increases for a while, eventually, even with the assistance of the world's most brilliant price increase letters, your shoppers will begin to consider alternative offerings.

This is because imposing many price increases over a short period of time causes damage to firms' reputations and encourages potential buyers to view those who pursue such increases as untrustworthy suppliers who will turn the screws on their customers whenever they are able. Should price increases overshoot the limits of customers' aggregate sense of fairness, one would be right to expect very undesirable outcomes for all parties involved. At the same time, reducing prices for new customers after an overshoot can greatly upset those who bought when a vendor's offerings were more expensive.

The boundaries between acceptable pricing for different groups of potential customers may overlap or they may be separated by pricing dead zones that are relatively unpalatable to potential buyers of any stripe.

Any price that is increased past a dead zone is subject to a significant risk of failure. The sudden change in buyer profile will result in higher-end buyers questioning the product's desirability due to its previous price history and buyer profile. Without corresponding changes to an offering's standards, messaging, and sales channels, the resulting price increase and alienation of existing customers may even result in permanent damage to a brand's earning potential. As I suggested in my analysis of restaurant pricing, customer expectations can change radically at different price points for a given class of product.

One additional problem with the incremental strategy is that it needs to be tested periodically, even after a vendor's "optimal" price has been discovered. Sure, there are a handful of companies like Coca-Cola that have maintained the same pricing for decades at a time, but odds are that most companies will need to adapt their pricing based upon changes to customer preferences, competition levels, cost structures, and other factors on a regular basis. Each cycle of experimentation with this method of price discovery only compounds the likelihood of alienating a company's customer base and eroding its earning potential.

Don't get me wrong. The use of incremental price increases to test one's pricing power has its uses. That said, this approach is probably more appropriate for fine-tuning one's prices for a given customer set, rather than as a means of exploring broad market possibilities without a strong understanding of a company's target customers.

Questions come from readers like you. If you'd like your questions answered, send them my way.

♫This Q&A and many others are now available on the Pricing After Dark podcast.

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