Discounts for the price-conscious well-informed consumer

A little more than a year ago, J.C. Penney’s new management announced a change to its pricing strategy, in an effort to turnaround the troubled store – get rid of “nonstop promotions” and move to a simpler pricing structure. In the current issue of the New Yorker, James Surowiecki tells of the resulting fail:

The biggest problem with [J.C. Penney CEO Ron] Johnson’s strategy is simple: he misread what Penney’s customers wanted. Doing away with constant markdowns was, on the face of it, sensible: instead of starting with a high price and quickly marking it down, start with a lower price. But Johnson failed to see how attached customers were to markdowns. “In most of the retail universe, price is the most powerful motivator,” Cohen said. “This game of cat and mouse with regular, ever-changing discounts is illogical, but it’s one that lots of consumers like to play. Johnson just ignored all that.”

Actually, it’s not illogical at all.

Every arts manager knows that her potential customers are different in the prices they are willing to pay for what is on offer. A few people in your community will pay $50 a seat to see a new production of Miss Julie, but there are others who will pay $8 but no more. An ideal pricing strategy would be one that found a way to get $50 from those willing to pay it, but still fill out the rest of the auditorium with those only willing to pay $8. No system is going to be perfect, but there are a few common tactics available: scaling the house; cheaper seats on less popular nights, student and senior discounts, selling discounted day-of-show tickets only to those who come in person, and so on. But any sophisticated system of pricing is trying to come to terms with offering a deal to the price-conscious customer that will not be taken up by the customer willing to spend that $50.

But there are less well-known strategies for price discriminating between those content to pay a higher price and those who will only buy when the price is right. One of these is to offer bargains to the well-informed shopper that are not likely to be taken up by the uninformed shopper, even if the same deal is available to everyone. Consider: why do stores have coupons? They give a bargain to those who take the time to find them, read them, save them, bring them to the store. But what a hassle! Why not just lower the in-store price? The answer is that the store will sell at a higher price to the customers who could not be bothered with coupons, but just want to get their shopping done, while attracting those very price-conscious customers with bargains to be had through coupons. In-store sales that are seemingly random across products serve the same purpose: they keep bringing back those price-conscious customers who recognize a good deal when they see one, but will generally not be taken up by the uninformed customer who pays something closer to full price (I read some years ago that seniors typically pay less over time for the same bundle of groceries than do younger people because seniors shop more often (for smaller amounts) and recognize when an item has a particularly good sales price – I cannot remember the scientific paper, but grocery shopping with my mother provides me with confirming evidence).

And so to J.C. Penney: it had in place a model that was attractive to price-sensitive consumers that it dropped in favor of something less complex when in fact those customers liked the complexity. Price-conscious consumers would sort through the various markdowns and find good deals, and in turn keep coming back to the store. Simple pricing is not necessarily good pricing, since it takes away a lever for charging different prices to those with different willingness-to-pay for what is on offer. Discounts and sales can be offered in such a way that the informed, price-sensitive consumer will find them out and take advantage of them, without it being something that will be taken up by all customers.