I just read a provocative post about smart and stupid customers on the Harvard Business Review blogs. It argues that information asymmetry (one party having more knowledge than another) is justification for “savvy” pricing which creates more profitable customers. In other words, it’s okay to gouge customers as long as they don’t know they are being gouged.
The only problem with that strategy is eventually the customer is going to find out that they were being gouged. In 2004, General Mills found out that they were being gouged by Saatchi and Saatchi New York. While Saatchi has remained on General Mills’ agency roster, they have lost significant chunks of GMI business over the years.
As I have said before in this blog, marketing is about relationships, it is about persuasion, not manipulation. When there is an asymmetry in a relationship, they don’t work. Relationships based on a pricing strategy that banks on a customer’s lack of knowledge, or lack of market pricing transparency is not sustainable in the long run.
Behaviour like this is why my relatives call me an “evil marketer” at family get togethers (when they aren’t calling me the Nutty Professor). And this is why we have a culture of mistrust of corporations. Maximizing profit seems like a smart thing to do. Until the relationship crumbles. And then, you’re left with nothing.
Traditional pricing strategy is bunk, derived from economic theory. Most introductory marketing textbooks rely on the concept of the rational man to explain pricing. What we know from behavioural economics (see Dan Ariely, Predictably Irrational) is that consumers are anything but rational when making decisions.
In that spirit, here is an entertaining five-minute deconstruction of economics by Yoram Bauman, PhD:
Moral of the story? Don’t believe everything in your textbook.
I have just finished my final turn at judging a local high school business plan competition. I learn from the plans that I review for this competition every single time I participate. This year, the young entrepreneurs competed exclusively compete on price. Which is a very bad idea.
It’s good to compete on cost (just ask Southwest Airlines). But it’s bad to compete on price. If the industry that you are entering is highly price competitive, don’t enter it. Competing on price will only land you in a downward spiral that never ends, or at least never ends until bankruptcy.
Find yourself a market segment that is unique, small and needs highly specialized service. Find a segment that has the ability to pay for these highly specialized services. Whatever you do, don’t feel guilty about charging them premium prices for those products or services. Keep evolving those products or services to meet new needs.
Or, you can follow the Wal-Mart/Southwest Airlines strategy. Keep your prices low and your costs lower than the competition. Build bigger margins. Deliver consistent service. Get bigger and out hustle the competition. Compete on cost, not on price.
Whatever you do, do not compete on low prices. To quote my friend Sam, (age four), “because that’s berry berry bad”.