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Pricing: Maximize your profits even after promotions

Prices frequently fluctuate in the market. Retailers lower the price and increase it afterwards back onto the level prior to the promotion. These strategies are known as high-low pricng (or hi-lo pricing) and are very common. But what happens if the price increase after the promotion happens in several small stepwise instead of a large one? Michael Tsiros and David Hardesty from the University of Miami and the University of Kentucky had a closer look at this phenomenon which provides interesting guidance for managers in price setting decisions. They called this phenomenon steadily decreasing discounts (SDD), meaning that if e.g. a product was offered with a 30 percent discount, the price increased by a 20 percent discount, followed by a 10 percent discount, before the original price was reached again. It is assumed that this approach works best for high-price products irregularly sold.

The two researchers conducted four studies altogether, two laboratory experiments with business students, one field experiment, and one analysis of secondary data. In the first two laboratory experiments, about 450 and 250 students participated. They were confronted with a scenario to buy a personal digital assistant (a predecessor of today’s smartphones). Some were assigned to a hi-lo scenario, others to SDD. All students saw a pricing history of the products (either fluctuating prices between e.g. normal price, fixed discount, normal price, or SDD), for which they could make estimates about future price developments. The students were asked to state if they would be willing to buy the product; how much they would be willing to pay; what the price might be in the following week; they were asked about the image of the store, etc.

By which pricing tactic could a price promotion be ended profitably?

In these lab experiments, they could show that both store and brand image was not influenced by pricing tactics. Tsiros and Hardesty could furthermore demonstrate that respondents were more likely to regret the decision to not buy the product in the SDD scenarios, obviously because they spotted the upward price trend (in fact, they estimated a higher average price in the following week). More importantly, the researchers could also report higher cumulative profits for SDD.

In a next step, the researchers validated their findings in the field. They convinced a kitchen appliance store in an upscale neighborhood to use SDD versus hi-lo pricing for selling a wine bottle stopper. The store owner announced the duration and magnitude of price discounts before. Here, higher sales and profits for SDD could be confirmed. Finally, Tsiros and Hardesty took a specific set of secondary data as a basis that included a range of product categories across about 400 weeks, with volume, price and profit data at the stockkeeping unit level. They searched for stepwise price discounts and could confirm here as well that SDD leads to more sales and profits (in some cases of up to 80 percent).

In our view, the data may help retailers to better manage prices in combinations with promotions. However, a prerequisite for success is that customers recognize the underlying price tactic. But even if customers are aware of the price development over some period of time nowadays, they are often unable to track prices over several days or weeks.

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