Customer Segmentation in Pricing
When implementing customer segmentation in pricing, it is important to understand the influential people in economics and how their theories exist in today’s economy.
Introducing Thorstein Veblen
Thorstein Veblen (July 30, 1857 – August 3, 1929) was a sociologist, economist, and leading intellectual of the Norwegian heritage. Veblen’s family migrated to Wisconsin in the year 1847. He studied economics and philosophy as he was always interested to learn more about the relationship between society, culture, and economics.
Eventually, Veblen became a critic of capitalism for the same reason. After carefully and thoroughly examining social orders, he came to the realization that consumers make purchases in order to signal their financial accomplishments and status. This is what led Thorstein Veblen to coin the terms ‘pecuniary emulation’ and ‘conspicuous consumption’. Today, Veblen is best known for the latter, which is a theory in itself.
The Theories of Thorstein Veblen
Veblen developed two theories of interest for this conversion.
Conspicuous Consumption Theory - In this theory, Thorstein Veblen explains and defines the willingness of consumers to spend more money on products than they are worth. According to Veblen, conspicuous consumption is inherently wasteful due to the real cost that goes into producing Veblen goods. Veblen believed that the same resources used in this type of production should be used to produce more services or products that are rather urgently needed.
Veblen Goods - You can find Veblen’s second theory regarding this issue in ‘The Common Law of Business Balance’. In this second theory, he described that the price of a product increases its desirability. As a result, for certain products, the demand also increases with the increase in price. According to Veblen, only the affluent can afford Veblen goods due to the high pricing of these products or services.
An Experience-Based Example
After that preamble, I have a story to share. Recently, I made two long road trips in rental cars. In both cases, the rental car company provided me with a small SUV. However, both of these cars were of different brands but identical in size.
One brand (Brand A) positions itself as somewhat of a premium brand whereas the other (Brand B) on utility and practicality. The price of Brand A is almost twice as high as the price of the second car.
Nonetheless, my trips gave me the chance to compare the two small SUVs, in some considerable depth. So, which is the better one in my recent experience and opinion?
Well, based on the brand positioning, one might think that it would be the first one. But, alas, it is not. In fact, the second, cheaper SUV of Brand B is the better choice for almost every reason- in my opinion.
The Brand B SUV rides better and softer. It is also quieter as compared to Brand A SUV. What else? This SUV also has comfier front seats and is much more spacious. Not only this, but the instrument cluster is also clearer and more comprehensive.
Talking about Brand A SUV, I found the control of the infotainment system to be confusing and counterintuitive. Meanwhile, the user interface in the car from Brand B was simpler and easier to use. However, the sound quality was not very impressive for both the cars - both offer upgrades not installed in the rentals.
Both SUV cars from Brand A and Brand B have an engine about the same size and horsepower rating. Yet, the engine from the Brand B SUV was preppier and gave me significantly better mileage.
In fact, the more expensive choice "wins" in only two aspects: the quality of the dashboard plastic and having an electrically operated driver's seat.
Learning Points From a Pricing Perspective
From my experience with the two cars, there are quite a few things that we learn in terms of the pricing strategy of a product.
Positioning Matters - As we learn from Veblen, consumers are often willing to spend more than needed. The price itself creates a desire to buy. We can assume that the cost of manufacturing these two cars is not all that widely different.
This suggests that the Brand A SUV is a product that generates a considerably higher margin than the brand B SUV. The positioning of the second brand also means that the brand is stuck at low prices/low margins- even as its product is better, in my opinion. The brand is unable to increase the price unless it positions itself like brand A.
Price Sets Expectations - ‘Expectation Bias’ is a well-documented and well-known pricing strategy that mainly falls under the category of pricing psychology. Using the strategy of expectation bias, a company sets an expectation for the quality and benefit of a product or service through its pricing list.
But, it also affects our satisfaction with the product or service as customers. We pay more for such a product and this becomes a reason why we expect a better outcome. When the brand meets the expectations and requirements of their consumers just right, they earn satisfied customers who will continue to use their product or service.
Customer Segmentation in Pricing is Real
Perhaps more importantly than the above-mentioned learning points, it is about customer segmentation in pricing. It is unlikely for Brand A and Brand B to appeal to the same kind of customers. This is mainly due to the huge difference in their positioning.
In fact, people who prefer Brand A will rarely ever consider Brand B and vice versa. Thanks to the car rental company, I had a unique chance to compare these cars within a very short time period.
Definitely, this is a chance only a few car buyers get to experience, for the simple reason that they would not consider the other brand as an option at all. The reason is either that the price itself makes it out of range or because the brand positioning makes it undesirable for the consumer.
In summary, it is important for a brand to position itself in a way that consumers would want to choose it over other, cheaper alternatives. Not only this, but customer segmentation in pricing must also be consistent with the customers’ willingness to pay and desire to buy. Remember, the willingness to pay among the segments also drives prices in addition to cost and product features, etc.
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