Shopping Confidential: Pricing Gets Complicated

The proliferation of channels, outlets, platforms and media has dramatically expanded consumers' options. It has also confused them and confounded merchants.

Central to the chaos is pricing. As former President Clinton once famously said, "It depends what you mean by 'is'."

The challenge for consumers is trying to figure out whether they are getting a deal or a hose job. For retailers, both online and tangible, the question is how to manage expectations and margins. Just as marketers are struggling to provide convergent solutions which are consistent across a range of outlets, consumers are trying to match the information they receive at one sales point with contrasting data they may elsewhere.

The process is informed, at least conceptually, by so-called dynamic pricing systems. Airline tickets and high-speed algorithmic securities trading operate on similar principles. Prices can and do change according to demand and other factors. Merchants, like the unfortunate ex-CEO of JC Penney who attempt to exert what they believe is a need for control quickly find that they have lost it. Because consumers have grasped that the gamification of shopping began well before computer gaming became associated with business strategy. They have adopted - and adapted to - the provision of coupons, deals and promotions as part of their value proposition. As the following article explains, they are even aware that they may not be receiving the best price, but they are stimulated by the gaming scenario. We've long known that shopping is the world's most popular leisure pastime. What retailers are now learning is that mindset has become institutionalized, whether they like it or not. JL

Stephanie Clifford and Catherine Rampell report in the New York Times:

Simplifying pricing, it turns out, is not that simple.

WHEN the board of J. C. Penney ousted its chief executive, Ron Johnson you might say it was, in some small way, because he didn’t understand Tracie Fobes.

Ms. Fobes, who lives in Raymore, Mo., plans meals around discounts offered at the grocery store and always checks coupon apps on her cellphone before buying clothes. When, a little over a year ago, J. C. Penney stopped promoting sales and offering coupons and instead made a big deal about its “everyday” low prices, Ms. Fobes stopped shopping there. It wasn’t that she thought the prices were bad, she said. She just wasn’t having any fun.

“It may be a decent deal to buy that item for $5,” said Ms. Fobes, who runs Penny Pinchin’ Mom, a blog about couponing strategies. “But for someone like me, who’s always looking for a sale or a coupon — seeing that something is marked down 20 percent off, then being able to hand over the coupon to save, it just entices me,” she said. “It’s a rush.”

Devoted coupon users like Ms. Fobes may be more frugal than the typical consumer. But most shoppers, coupon collectors or not, want the thrill of getting a great deal, even if it’s an illusion. In recent months, Penney recognized that human trait and backtracked on its pricing policy, offering coupons and running weekly sales again. And it started marking up items to immediately mark them down for the appearance of a discount.

The switch came too late to make Penney’s numbers look better — sales dropped 25 percent in 2012, to $13 billion — and too late to help Mr. Johnson. And Penney’s failure to wean consumers from sales and discounts probably won’t stop retailers from trying to simplify pricing in the future. But it should give them pause.

For sellers, setting and holding one price makes plain, economic sense. “You’re always going in and changing prices and that takes manual labor,” said Ronald Friedman, retail practice leader at the accounting firm Marcum. “Also, if you have one price, you have a better feel for expected margins and gross profits, you can manage to your budgets a lot better, and it’s more efficient.”

It also leads to more stable inventories. “It makes the operations side of things much easier to predict,” said John T. Gourville, a marketing professor at Harvard Business School. “You don’t have these whiplash effects of selling, say, a ton of Diet Coke one week and virtually none the next week.”

Mr. Johnson explained a similar logic when he moved the chain toward simplified pricing. In January 2012, while introducing his new plan to investors, the press and vendors, Mr. Johnson said that in the previous year, the company held 590 sales events; almost three-quarters of the stuff it sold was marked down 50 percent or more.

But here’s the thing: customers weren’t actually paying less. The chain just kept raising the prices that customers saw on the racks, and then discounted those prices during promotions. Why keep playing a game that is expensive and troublesome for the seller and a mirage for the consumer?

J. C. Penney was not the first retailer to be astonished by the brilliance of this realization. In 2006, Macy’s had a similar idea after acquiring the coupon-happy May department stores. It decided to “retrain” those customers, as its chief financial officer put it at the time, by drastically cutting coupons. By 2007, it had abandoned that strategy. Its chief executive acknowledged that pulling back on coupons was Macy’s biggest mistake in its acquisition.

Even Walmart, which actually does pull off the trick of “everyday low prices” in its domestic stores, is finding it hard to convert consumers to a single-price model in countries like Brazil and China, where retailers give deep discounts on a few main products, then mark up the rest, said Mark Wiltamuth, an analyst at Morgan Stanley.

The problem, economists and marketing experts say, is that consumers are conditioned to wait for deals and sales, partly because they do not have a good sense of how much an item should be worth to them and need cues to figure that out.

Just having a generically fair or low price, as Penney did, said Alexander Chernev, a marketing professor at the Kellogg School of Management at Northwestern University, assumes that consumers have some context for how much items should cost. But they don’t.

“J. C. Penney might say it’s a fair price, but why should consumers trust J. C. Penney?” he asked. “At the end of the day, people don’t want a fair price. They want a great deal.”

Consumers infer that they get a great deal based on the reference point provided by the higher, presale price. Social scientists refer to this idea as anchoring, and it applies to all sorts of consumer behavior and expectations. Without that anchor, consumers have trouble determining whether the store is actually giving them a good price.

Even the words a retailer uses in its marketing can affect how a customer judges a deal — “sale” or “special” leads people to think the item has a high value, but a straight markdown leads them to think it’s a cheaper item, according to a study in the Journal of Retailing.

Consumer demand is naturally lumpy and seasonal, and stores have to fight for a share of those spikes in demand. There’s a reason, after all, that the year’s most hyped doorbusters are always offered on the same day, Black Friday. Limited-time sales can also lure consumers into a store, which is particularly important if retailers don’t have a differentiated, high-value product (as Mr. Johnson’s previous employer, Apple, does). And despite the bargain-basement feel of coupons, they are a tool to draw in a broader consumer base — one shopper to buy at a high price, and a more price-sensitive shopper to buy the same item at a lower one.

Simple low pricing can work if retailers take narrow profit margins, analysts say. Costco, for instance, almost never runs sales and doesn’t adjust prices much, but it depends on annual membership fees for profit. Walmart, which also offers low prices, makes up for thin margins with a high volume of customers who visit often.

“Instead of having a lot of variable pricing on individual items, across all items they can guarantee you’ll get the lowest price for your basket,” said Pradeep K. Chintagunta, a marketing professor at the University of Chicago Booth School of Business.

PENNEY did not offer anything so clear. The chain told customers to expect low prices — but not the lowest prices. “Walmart is able to tell customers exactly how much they’re saving compared to a local supermarket,” Professor Chintagunta said. “But what am I gaining now by shopping at Penney’s, 20 percent on average? Ten percent? Penney’s couldn’t communicate that, and consumers couldn’t make an assessment about whether it was worthwhile to go there.”

Penney had pulled up the anchor, only to see many of its most avid customers sail away.