Sale! Even the word is enough to send a flutter through the hearts of certain shoppers, who salivate in anticipation of scoring a discount off a product’s original price. Few consumers stop to think, however, that the only way they know they are getting a bargain is that the store tells them so.
What if those “original prices” stores base their discounts on aren’t real?
That’s the question Donald Ngwe asks in his new working paper, Fake Discounts Drive Real Revenues in Retail. (pdf)
An assistant professor in Harvard Business School’s Marketing Unit, Ngwe stumbled across possible marketing chicanery almost by accident. He was working on a related project involving a major US-based clothing and accessories brand (he can’t say which), when he noticed something odd happening at their outlet stores.
“THEY NEVER EVEN TRIED TO SELL THE PRODUCT AT THAT PRICE. CONSUMERS COULD NEVER HAVE BOUGHT THAT PRODUCT AT THAT PRICE EVEN IF THEY TRIED”
Some of the products on display were designed specifically to sell at the outlet stores and had never appeared on retail shelves. Those products, however, still showed an “original price” along with the discount—only in those cases, that price was completely made up.
“They never even tried to sell the product at that price,” Ngwe says. “Consumers could never have bought that product at that price even if they tried.”
As he looked into the issue, he realized that the practice is much more common than shoppers might realize. “Almost every item on Amazon has a struck-out price, but if you look at the policy behind that price, it’s incredibly vague,” he says.
Consumers have even brought class-action suits against retailers including JCPenney, Sears, Macy’s, and Kohl’s for their “fictitious prices,” which are forbidden by the Federal Trade Commission. Those cases, however, often hinge on the question of whether consumers would have bought an item anyway, had they known the supposed original prices were fake—a standard that is hard to prove. Some retailers have successfully argued in court, in so many words, that consumers see through the ruse and know full well these prices are just guidelines.
Unrepentant
Perhaps for that reason, some companies have ended up in court several times, showing no signs of changing the practice. “When a retailer like Kohl’s gets sued over this year after year, it tells you this is not only common, but it’s persistent,” Ngwe says.
Examining the data from the outlet stores, he realized there was a wealth of information that could answer whether customers were actually fooled by faux pricing.
In fact, when he compared fake prices to real ones paid by consumers, Ngwe found a clear pattern—for every $1 increase in the posted “original price” for an item, consumers were willing to pay, on average, an extra 77 cents for that item. What was more, Ngwe found that repeat customers who shopped at the store often were least willing to pay more money based on fake prices, while those who shopped at the store least paid higher average prices based on those “original” price tags.
“This makes me think that the fake prices are working to mislead the customers who know the brand the least, and who have the least information about the brand, into making a decision they would not have made otherwise,” Ngwe says.
In other words, customers aren’t merely using the price as, say, an indicator of high quality, but really do believe that it once sold for that much, including that in their calculus of how much to pay.
To confirm that finding, Ngwe set up an experiment in which he showed participants a handbag with a sale price of $40, along with a “true original price” and a “displayed original price,” each of which ranged $40 to $90. They were then asked a series of questions, including whether they thought the bag was high quality, a good deal, and at a fair price. When the true, original price was higher, consumers rated the bag higher on all of those questions; when the displayed price was higher than the true price, however, it had no influence.
That surprised Ngwe. “I expected even if they were given verifiably fake prices, it would still change people’s evaluation of quality, since customers are used to seeing fake discounts,” he says. “Contrary to that expectation, the data tells me no.”
Participants did, however, rate the bag higher on one factor—how dishonest the seller was. Taken together, those findings bolster claims in the lawsuits that consumers are genuinely deceived by fake original prices, and regulators should consider cracking down on the practice more aggressively.
“There is an attitude among a few policymakers that consumers are savvy enough anyway, and that, relative to other forms of deception, fakes prices are somewhat less damaging,” Ngwe says. “My results show that customers don’t see through the ruse. Even in outlet stores where they might expect some level of false discounting, they are still very influenced by these signals.”
Homework needed
Truly savvy customers may still be able to separate fake from real original prices by doing their homework. Some retailers, for example, stitch different codes into their products depending on whether they are originally designed for retail or intended straight for the outlets. More broadly, however, caveat emptor still applies. Consumers should know that displayed original prices aren’t necessarily valid and do their own independent assessment of what an item is worth to them.
For retailers, Ngwe’s research shows that fake original prices could be a strategy to increase sales—but only if regulators don’t crack down harder on the practice. If companies want to make customers feel like they are getting a deal and still be honest, Ngwe suggests they use wiggle words such as “compare at” or “value at” before the original price.
“This could be a very useful tool, because it allows them to inform the customer of the value of a product at the same time that it allows them to price their products competitively,” he says. “They can have their cake and eat it too.”
Deconstructing the Price Tag
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A new study by Bhavya Mohan, Ryan Buell, and Leslie John has an important conclusion for retailers: Explaining what it costs to produce a product can potentially increase its sales.
by Dina Gerdeman
When a company sets a price for a product, shoppers typically have no idea what it costs to produce that item. But it turns out that consumers reward efforts to lay out these figures—to deconstruct the price tag.
In fact, new research shows that when a company selling T-shirts, for example, itemizes what it spends on cotton, cutting, sewing, dyeing, finishing, and transporting each shirt, consumers become more attracted to the brand and more likely to purchase.
“BY UNPACKING THE COSTS, YOU HAVE THE OPPORTUNITY TO EXPLAIN EVERYTHING YOU DID FOR THE CUSTOMER IN PUTTING THAT PRODUCT OR SERVICE TOGETHER”
"By unpacking the costs, you have the opportunity to explain everything you did for the customer in putting that product or service together," says Bhavya Mohan, a Harvard Business School doctoral student in marketing. "When firms communicate the effort that went into making a good, consumers tend to value the product more."
Mohan is an author of the paper Lifting the Veil: The Benefits of Cost Transparency, written with HBS assistant professors Ryan W. Buell and Leslie K. John.
INTIMATE DISCLOSURE
Since cost breakdowns are so often tightly guarded secrets, the researchers say that when a firm does share this information, consumers consider it a form of "intimate disclosure"--and people are often more attracted to brands that disclose intimate information.
Shoppers have greater affinity for brands that advertise how much
it costs to make a product.Photo: iStockPhoto
"If we think about our interpersonal relationships, when people share things with us—as long as they don't overshare—we tend to like them better," Buell says. "We find it interesting that we're seeing evidence of the same thing in our relationships with companies."
To gather data about consumer pricing sentiment, the researchers conducted six lab experiments in which participants answered questions about a simulated website of a fashion retailer selling T-shirts. The research also included a field study of sales figures at a real online retailer, to look at how spelling out a firm's variable costs of production could affect consumer purchase behavior. The researchers found:
• When a firm voluntarily discloses its costs, the consumer is more attracted to the brand, which increases willingness to buy. "There's this lay intuition that when customers find out that a company is making a profit off of them, they might get upset," John says. "But that's not necessarily the case."
• Consumers enmeshed in private, longstanding relationships with the brand were just as likely as newcomers to respond favorably to cost transparency.
• Cost transparency benefits weaken as a company's profit margins grow larger relative to costs. Interestingly, a company that exposes costs still sees a decent level of purchase intent even with a fairly high price markup.
"We wanted to understand when cost transparency would be harmful," Buell says. "With a T-shirt that cost $6.50 to produce, it seemed reasonable to us that cost transparency would be helpful [in motivating buyers] if the price of the shirt was $10. But even at $35, we still saw an advantage to revealing the cost of production, which is interesting because the markup was five times the cost."
• Cost transparency fails only when prices become so high that they are way out of whack with the market norm—and when the firm makes it clear that its own markup is much higher than what competitors charge. For instance, if a company charges $30 for a T-shirt, but emphasizes that competitors are charging only $25, that their costs are the same, and that the competitor's markup is lower, the consumer becomes less attracted to the higher-priced brand and less willing to buy the brand's products.
"It is possible for cost transparency to backfire, but only when a company reveals it is being unfair with customers," Buell says. "It was shocking to us how heavy-handed we had to be." John puts it another way: "Cost transparency doesn't fall apart until we say, 'Hey guys, we're ripping you off.'"
MEANWHILE IN THE REAL WORLD
The researchers took the academic experiments into the real world by examining customers interacting with an online retailer. In anticipation of the holiday season, the retailer introduced a $115 leather wallet on its website that came in five colors. In an effort to promote sales after the holiday, the retailer included an infographic graphic on each product pages that presented the cost of leather ($14.68), construction ($38.56), duties ($4.26), and transportation ($1.00), as well as the total cost of $58.50 to produce the product. But the retailer made a fortuitous error, including the costs infographic for only three of the colors—burgundy, black, and gray.
“COMPANIES MAY TRULY STAND TO BENEFIT FROM BEING MORE OPEN”
This discrepancy was overlooked for a five-week period, creating a natural experiment that compared how customers reacted to the three wallets that outlined costs versus the two—bone and tan colors—that did not. The researchers found that the introduction of the cost transparency infographic increased daily unit sales on a per-color basis by 44 percent.
NOT ALL COSTS ARE THE SAME
Consumers seem to have varying levels of tolerance for different cost variables. Shoppers seem to appreciate the cost of raw materials, such as cotton, but certain expenses, like the cost of transportation, "seem like a waste of money to people," John says—even though it is indeed a very real cost for the company.
Yet even if the costs don't seem allocated in an ideal way from the customer's point of view, the customer still applauds the company's willingness to share its production expenses. "Even if it isn't exactly what the customer might envision, the customer appreciates the act of disclosure," Mohan says.
It's unclear whether a company might see these benefits on a sustained basis, particularly if a number of retailers selling similar items all started revealing their costs. Presently, only a few retailers practice cost transparency.
For example, Everlane (www.everlane.com), is a San Francisco-based online retailer that reveals the variable costs of production for each of its products, as well as images and descriptions of the factories where products are made. And Honest By (www.honestby.com), a Belgian retailer, augments cost transparency on its website with detailed supply chain information for each component of each garment, right down to the hang tag. "This was a novel thing to do, and the advantage is probably greatest when it's perceived as novel," John says.
The paper also noted certain cost transparency caveats for retailers. A firm may not want to share production costs if the cost structure provides a competitive advantage. In addition, contracts with suppliers may prevent making certain information public. And it just may be that companies don't have the information readily available—for example, in cases where goods are produced by a variety of manufacturers.
For companies with goods and services that depend on high fixed costs, such as research and development and overhead, simply providing variable costs may not accurately reflect to consumers many of the other expenses incurred. For example, R&D expenditures in the pharmaceutical industry involve more than just the cost of producing one particular drug. Many drugs may have to fail before one succeeds, and that one hit drug ends up subsidizing the other busts.
"It would be a lot trickier for an industry that spends millions or even billions in developing a product to reveal its costs," Buell says.
RAW HONESTY APPRECIATED
Yet in the retail industry—and perhaps in other industries where customers may take for granted how much effort and money goes into producing a good—many firms may benefit greatly from sharing cost figures. Perhaps it makes the price a company charges seem more fair and justifiable. Or perhaps it's simply a matter of consumers appreciating a little raw honesty from the corporate world.
"Our evidence suggests you should open yourself up and say, 'Here I am, warts and all,'" John says. "When you make yourself vulnerable, people like you more."
Buell hopes the research findings get company executives thinking about finding ways to engage more openly with consumers in general as a potential way of piquing interest—and even boosting sales. (HBS related research on how consumers view pricing can be found in the article Brain Marketing: Is the Product Worth the Price?.)
"One of the big takeaways from my perspective is that this opens up the door to companies considering engaging their customers in a more meaningful dialogue. Costs are one of those things historically that we might have thought of as taboo in a dialogue between consumers and companies. It's interesting to think how revealing something that is usually hidden can change the nature of the relationship. Companies may truly stand to benefit from being more open."
Name Your Price. Really.
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Is it worthwhile for retailers to experiment with "pay what you want" pricing? Shelle Santana unmasks the surprising logic behind how much customers will pay, and when. One finding: sellers can dramatically change what some buyers are willing to pay.
by Michael Blanding
Years ago, when I was a student in New York (and like many students, perpetually broke), I would often go to the Metropolitan Museum of Art for entertainment. The museum had a policy that visitors could pay whatever they wanted, so for as little as a penny, I could spend the afternoon wandering the galleries.
But there was a catch: I couldn't just put my money in a slot; I had to stand in line with everyone else, many of whom were paying the suggested donation of $15. Sometimes, I boldly told the clerk I would pay 5 cents. Other times, however, I paid $1, $5, or even $15.
“IF YOU CAN NUDGE PEOPLE INTO A MORE COMMUNAL RELATIONSHIP, THEY HAVE A HIGHER WILLINGNESS TO PAY”
According to Shelle M. Santana, an assistant professor in the Marketing unit at Harvard Business School, I may have been influenced by communal norms.
Santana has closely studied "pay-what-you-wish" (PWYW) pricing—a phenomenon that admittedly makes no rational economic sense. When presented an opportunity for a freebie, "classical economic theory says you should pay nothing," says Santana. "Why buy something when you can get it for free?"
And yet, research has shown that when people are able to set their own prices, almost everyone pays something—and sometimes well over the suggested price. "I was really interested in that broad variance and who pays a little and who pays a lot and under what circumstances," says Santana.
Sellers Can Influence What Buyers Pay
In a series of experiments—including a field experiment where she posed with students as snack bar employees—Santana found that by subtly manipulating the environment, sellers can dramatically change what some buyers are willing to pay.
Retailers are experimenting with allowing customers to write
their own price. ©iStock.com/Rawpixel Ltd
Examples of PWYW pricing abound in all industries: Radiohead's self-released its In Rainbows album with "name your price" downloads; the Dallas Theater Center holds "Pay-What-You-Can" nights to draw in new patrons; Boston Pedicab operates under an "open fare" system; and Panera Bread runs four nonprofit "Panera Cares" locations with PWYW pricing.
Oftentimes, businesses use the strategy as a promotion to get new customers, sometimes with a social tie-in for extra incentive—for example, a restaurant will run a PWYW promotion and donate part of the proceeds to a charity to feed the hungry.
Not all PWYW strategies are created equal, however. Santana investigated data from a pet adoption agency in New York, finding that on average patrons paid close to the $150 adoption fee, with some paying as much as $260. For a PWYW premiere of the documentary Freakonomics, however, by far the most typical ticket price paid was a penny. "It got me thinking, why are these situations so different," says Santana.
Borrowing from social psychology literature, she surmised it might have something to do with how the way customers think about the transaction influences their behavior.
"Exchange norms" are defined by reciprocity—I get this, you get that. It's the kind of interaction we have with business associates or when we are buying a house or a car. On the other hand, "communal norms" are based on relationships between people, and don't necessarily need to be balanced evenly. It's the kind of interaction we have when taking a friend out to dinner. "If you give me a dollar, I may not feel the need to give you back the dollar immediately," says Santana.
Are Consumers Pro-social Or Pro-self?
Furthermore, Santana borrowed a concept from strategic games and socially interdependent decision-making that divides people based on their "social value orientation" (SVO). When faced with a decision on how to allocate resources between themselves and others, some people are "pro-social," meaning they are likely to value more equal distributions of resources, while others are "pro-self," meaning they try and maximize value for themselves. She wondered, when faced with a PWYW situation, would people with pro-social ideals pay more?
Santana explores these questions in a new working paper, Because We're Partners: How Social Values and Relationship Norms Influence Consumer Payments in Pay-What-You-Want Contexts, written with Vicki G. Morwitz, the Harvey Golub Professor of Business Leadership and Professor of Marketing at New York University's Stern School of Business.
For their first experiment, Santana and Morwitz asked participants how much money they would pay for a cookie sold at a local café. Those who elected to purchase a cookie paid anywhere from zero to $2, with an average price of 89 cents.
At the same time, participants completed a questionnaire to determine their SVO. Sure enough, those with a pro-social orientation forked over an average of $1.22 for the cookie, while those with a pro-self orientation paid an average of 62 cents. "Just as we expected, people who were pro-self paid less, and people who were pro-social paid more," says Santana.
She and Morwitz then took the findings a step further, to see if they could change the results by changing the nature of the transaction. In a new experiment, they offered a scenario in which a local coffee shop was promoting a PWYW cup of coffee. The researchers presented the deal in two ways: In the first description, they stressed that the shop offered great coffee with great value and efficient service, setting up an exchange norm. In the second, they emphasized that the servers always offered a warm greeting, took an active personal interest in the lives of their customers, and recommended new coffees based on their preferences, signaling a communal norm.
When asked what they would pay for the coffee, pro-social participants increased the amount they paid under the second condition but only by 13 percent, $2.45 to $2.79. But significantly, pro-self participants paid almost a third more, $1.98 to $2.63, raising their price to almost as much as the pro-social group.
"In the context of a communal norm, their motivations shifted," says Santana. In other words, just by changing the context of the situation, they were able to suppress pro-self's ordinarily selfish behavior and make them temporarily more generous.
Into The Field
It's one thing to test this theoretically, it's another to put it into practice in the real world. For their last experiment, Santana and Morwitz went into the field, designing a PWYW promotion for a pack of gum at an NYU student café. Again, they presented two scenarios. In the first, they set up a sign with a pair of hands shaking that read, "Special Promotion: It's Your Turn to Set the Price Today!" In the second, they put up a new sign, which was rotated throughout the day, with a group of hands in a circle that read, "Because We're Partners, It's Your Turn to Set the Price Today!"
Over the course of 11 days of sales, that subtle change in messaging clearly changed what students were willing to pay—increasing the price 21 percent from an average of 57 cents to an average of 69 cents. For companies interested in doing a PWYW promotion, Santana says that finding implies they can mitigate the risk, and achieve better results, just by shifting the context to create a communal norm.
"Sellers have more power to shift these norms than they might think they do," she says. "If you can nudge people into a more communal relationship, they have a higher willingness to pay."
Furthermore, while past research has shown that customers are willing to pay more when a portion of the proceeds is donated to charity, Santana and Morwitz's research shows that such an expensive tie-in may not be necessary.
"It doesn't have to be costly to move to these communal norms," says Santana. "What we showed is there are simple, subtle, low-cost ways to get people to pay a little more."
How Our Brain Determines if the Product is Worth the Price
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Are consumers more likely to buy if they see the price before the product, or vice versa? Uma Karmarkar and colleagues scan the brains of shoppers to find out.
by Carmen Nobel
Think of the last time you went shopping.
By the time you decided to buy a product, you knew both what you were buying and how much it cost. But was your decision affected by whether you saw the price or the product first? That's the question at the heart of new experimental research that uses neuroscience tools to shed light on how our brains make purchasing decisions.
"We were interested in whether considering the price first changed how people thought about the decision process, and whether it changed the way the brain coded the value of a product," says Uma R. Karmarkar, a neuroscientist and assistant professor in the Marketing unit at Harvard Business School, who conducted the research with Baba Shiv, a marketing professor and neuroeconomics expert at Stanford University's Graduate School of Business, and Brian Knutson, an associate professor of psychology and neuroscience at Stanford. "Because we had neuroscience tools at our disposal, we had the benefit of exploring both those questions," Karmarkar says.
“WE WERE INTERESTED IN WHETHER CONSIDERING THE PRICE FIRST … CHANGED THE WAY THE BRAIN CODED THE VALUE OF A PRODUCT.”
The researchers found that price primacy (viewing the price first) makes consumers more likely to focus on whether a product is worth its price, and consequently can help induce the purchase of specific kinds of bargain-priced items. Their study, Cost Conscious? The Neural and Behavioral Impact of Price Primacy on Decision-Making, will appear in a forthcoming issue of the Journal of Marketing Research.
The research could help retailers and marketers decide when it's best to lead with price, which products work best with that strategy, and how to frame sales messages to consumers. (HBS related research on how consumers view pricing can be found in the article Deconstructing the Price Tag.)
The Brain Shopping Experiment
In a series of experiments, participants went shopping—while lying on their backs inside a functional magnetic resonance imaging (fMRI) machine. The fMRI uses a giant electro-magnet, often 3 teslas strong, to track the blood flow throughout the brain as test subjects respond to sensory cues. In this case, participants were responding to pictures of products and their prices.
A new neuroscience study looks at how our brains make purchasing decisions. ©iStock.com/julos
In the first experiment, conducted at an imaging center on the Stanford University campus, each participant was given $40 of shopping money before viewing a series of 80 products and their prices on a screen inside the fMRI machine. "This made the shopping experience more real," Karmarkar says.
To encourage purchasing, the products were offered at sub-retail prices. Sometimes participants saw the price first, and sometimes they saw the product first. But in every case, they eventually saw an image of both the product and the price presented together. At that point, they chose whether to purchase the product, indicating yes or no with the push of a button. After exiting the machine, participants filled out a survey to rate how much they had liked each product, on a scale of 1 to 7.
The researchers focused on brain activity at the moment participants saw the product and price presented together. They were most interested in the medial prefrontal cortex (the area in the brain that deals with estimating decision value) and the nucleus accumbens (an area that's been called the pleasure center, and whose activity is correlated with whether a product is viscerally desirable). "What we cared about was whether the neural patterns in these areas looked different at the point when the information on the screen was eventually the same," Karmarkar says.
The results showed that the brain activity varied according to whether the participant had seen the price or product first. "The pattern of activity in the prefrontal cortex suggested to us that sequence matters: At the very simplest, the neural signals looked different when the price came first versus when the product came first," Karmarkar says. "When the product came first, the decision question seemed to be one of 'Do I like it?' and when the price came first, the question seemed to be 'Is it worth it?' "
That said, price primacy didn't have much of an effect on actual purchasing behavior. Participants bought about the same number of items and reported similar "liking" ratings regardless of whether they had seen a product or price first. The researchers suspected that even if participants were more critical of a product's value in the price primacy condition, the products were equally attractive under both conditions.
Most of the participants were in their 20s, and most of the products appealed to their demographic—movies, clothing, noise-canceling headphones, and so on. "If you really love something, and you can afford it, you're going to buy it," Karmarkar says. "For those kinds of 'easy' decisions, it doesn't matter much whether the product or the price comes first."
And while the results of this initial experiment had been significant to neuroscience, Karmarkar's team also wanted to show that their research could have real-world implications for retailers—a direct effect on whether a consumer decided to buy a product. They hypothesized that price primacy might actually increase the likelihood of buying products, but only if the decision was related more to the product's usefulness than to pure emotional desire.
Water Filtration Pitchers And Batteries
To that end, the researchers designed a follow-up study in which 83 participants sat at their computers, evaluating arguably boring but utilitarian products: a water filtration pitcher, a pack of AA batteries, a USB drive, and a flashlight. Similar to the fMRI study, the products were offered at a discount.
For all four products, participants viewed only a price or only a picture of the product for eight seconds, followed by a decision screen displaying both price and product. They then indicated the extent to which they wanted to buy the items on a scale from 0 to 100, with anything above a 50 categorized as intent to purchase the product.
This time, price primacy had a direct effect on purchasing decision. Participants were significantly more likely to purchase a product if they saw the price first than if they saw the product first. For retailers this indicates that it makes sense to lead with the price, at least when advertising utilitarian items. At the same time, in cases where they advertise prices first, retailers may want to go out of their way to highlight a product's functionality over its form.
"The question isn't whether the price makes a product seem better, it's whether a product is worth its price," Karmarkar says. "Putting the price first just tightens the link between the benefit you get from the price and the benefit you get from the product itself."
But the research also revealed a notable caveat: After participants indicated whether they wanted to buy a product, they reported exactly how much they'd personally be willing to pay for the item, typing a dollar amount into an online form. Surprisingly, the average willingness-to-pay amount was slightly lower in cases where they had viewed the price first. This indicates that if retailers want to take advantage of price primacy, they need to advertise true bargains. So, for insance, a gigantic neon sign advertising $5 off a $20,000 car? That's going to turn customers away.
"If it's an insignificant discount, then you're actually putting yourself at a disadvantage by highlighting the price first, because people are now cognitively scrutinizing the price and making sure it's worth it," Karmarkar says. "You can't just try to fool people into thinking it's a great price."
What if those “original prices” stores base their discounts on aren’t real?
That’s the question Donald Ngwe asks in his new working paper, Fake Discounts Drive Real Revenues in Retail. (pdf)
An assistant professor in Harvard Business School’s Marketing Unit, Ngwe stumbled across possible marketing chicanery almost by accident. He was working on a related project involving a major US-based clothing and accessories brand (he can’t say which), when he noticed something odd happening at their outlet stores.
“THEY NEVER EVEN TRIED TO SELL THE PRODUCT AT THAT PRICE. CONSUMERS COULD NEVER HAVE BOUGHT THAT PRODUCT AT THAT PRICE EVEN IF THEY TRIED”
Some of the products on display were designed specifically to sell at the outlet stores and had never appeared on retail shelves. Those products, however, still showed an “original price” along with the discount—only in those cases, that price was completely made up.
“They never even tried to sell the product at that price,” Ngwe says. “Consumers could never have bought that product at that price even if they tried.”
As he looked into the issue, he realized that the practice is much more common than shoppers might realize. “Almost every item on Amazon has a struck-out price, but if you look at the policy behind that price, it’s incredibly vague,” he says.
Consumers have even brought class-action suits against retailers including JCPenney, Sears, Macy’s, and Kohl’s for their “fictitious prices,” which are forbidden by the Federal Trade Commission. Those cases, however, often hinge on the question of whether consumers would have bought an item anyway, had they known the supposed original prices were fake—a standard that is hard to prove. Some retailers have successfully argued in court, in so many words, that consumers see through the ruse and know full well these prices are just guidelines.
Unrepentant
Perhaps for that reason, some companies have ended up in court several times, showing no signs of changing the practice. “When a retailer like Kohl’s gets sued over this year after year, it tells you this is not only common, but it’s persistent,” Ngwe says.
Examining the data from the outlet stores, he realized there was a wealth of information that could answer whether customers were actually fooled by faux pricing.
In fact, when he compared fake prices to real ones paid by consumers, Ngwe found a clear pattern—for every $1 increase in the posted “original price” for an item, consumers were willing to pay, on average, an extra 77 cents for that item. What was more, Ngwe found that repeat customers who shopped at the store often were least willing to pay more money based on fake prices, while those who shopped at the store least paid higher average prices based on those “original” price tags.
“This makes me think that the fake prices are working to mislead the customers who know the brand the least, and who have the least information about the brand, into making a decision they would not have made otherwise,” Ngwe says.
In other words, customers aren’t merely using the price as, say, an indicator of high quality, but really do believe that it once sold for that much, including that in their calculus of how much to pay.
To confirm that finding, Ngwe set up an experiment in which he showed participants a handbag with a sale price of $40, along with a “true original price” and a “displayed original price,” each of which ranged $40 to $90. They were then asked a series of questions, including whether they thought the bag was high quality, a good deal, and at a fair price. When the true, original price was higher, consumers rated the bag higher on all of those questions; when the displayed price was higher than the true price, however, it had no influence.
That surprised Ngwe. “I expected even if they were given verifiably fake prices, it would still change people’s evaluation of quality, since customers are used to seeing fake discounts,” he says. “Contrary to that expectation, the data tells me no.”
Participants did, however, rate the bag higher on one factor—how dishonest the seller was. Taken together, those findings bolster claims in the lawsuits that consumers are genuinely deceived by fake original prices, and regulators should consider cracking down on the practice more aggressively.
“There is an attitude among a few policymakers that consumers are savvy enough anyway, and that, relative to other forms of deception, fakes prices are somewhat less damaging,” Ngwe says. “My results show that customers don’t see through the ruse. Even in outlet stores where they might expect some level of false discounting, they are still very influenced by these signals.”
Homework needed
Truly savvy customers may still be able to separate fake from real original prices by doing their homework. Some retailers, for example, stitch different codes into their products depending on whether they are originally designed for retail or intended straight for the outlets. More broadly, however, caveat emptor still applies. Consumers should know that displayed original prices aren’t necessarily valid and do their own independent assessment of what an item is worth to them.
For retailers, Ngwe’s research shows that fake original prices could be a strategy to increase sales—but only if regulators don’t crack down harder on the practice. If companies want to make customers feel like they are getting a deal and still be honest, Ngwe suggests they use wiggle words such as “compare at” or “value at” before the original price.
“This could be a very useful tool, because it allows them to inform the customer of the value of a product at the same time that it allows them to price their products competitively,” he says. “They can have their cake and eat it too.”
Deconstructing the Price Tag
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A new study by Bhavya Mohan, Ryan Buell, and Leslie John has an important conclusion for retailers: Explaining what it costs to produce a product can potentially increase its sales.
by Dina Gerdeman
When a company sets a price for a product, shoppers typically have no idea what it costs to produce that item. But it turns out that consumers reward efforts to lay out these figures—to deconstruct the price tag.
In fact, new research shows that when a company selling T-shirts, for example, itemizes what it spends on cotton, cutting, sewing, dyeing, finishing, and transporting each shirt, consumers become more attracted to the brand and more likely to purchase.
“BY UNPACKING THE COSTS, YOU HAVE THE OPPORTUNITY TO EXPLAIN EVERYTHING YOU DID FOR THE CUSTOMER IN PUTTING THAT PRODUCT OR SERVICE TOGETHER”
"By unpacking the costs, you have the opportunity to explain everything you did for the customer in putting that product or service together," says Bhavya Mohan, a Harvard Business School doctoral student in marketing. "When firms communicate the effort that went into making a good, consumers tend to value the product more."
Mohan is an author of the paper Lifting the Veil: The Benefits of Cost Transparency, written with HBS assistant professors Ryan W. Buell and Leslie K. John.
INTIMATE DISCLOSURE
Since cost breakdowns are so often tightly guarded secrets, the researchers say that when a firm does share this information, consumers consider it a form of "intimate disclosure"--and people are often more attracted to brands that disclose intimate information.
Shoppers have greater affinity for brands that advertise how much
it costs to make a product.Photo: iStockPhoto
"If we think about our interpersonal relationships, when people share things with us—as long as they don't overshare—we tend to like them better," Buell says. "We find it interesting that we're seeing evidence of the same thing in our relationships with companies."
To gather data about consumer pricing sentiment, the researchers conducted six lab experiments in which participants answered questions about a simulated website of a fashion retailer selling T-shirts. The research also included a field study of sales figures at a real online retailer, to look at how spelling out a firm's variable costs of production could affect consumer purchase behavior. The researchers found:
• When a firm voluntarily discloses its costs, the consumer is more attracted to the brand, which increases willingness to buy. "There's this lay intuition that when customers find out that a company is making a profit off of them, they might get upset," John says. "But that's not necessarily the case."
• Consumers enmeshed in private, longstanding relationships with the brand were just as likely as newcomers to respond favorably to cost transparency.
• Cost transparency benefits weaken as a company's profit margins grow larger relative to costs. Interestingly, a company that exposes costs still sees a decent level of purchase intent even with a fairly high price markup.
"We wanted to understand when cost transparency would be harmful," Buell says. "With a T-shirt that cost $6.50 to produce, it seemed reasonable to us that cost transparency would be helpful [in motivating buyers] if the price of the shirt was $10. But even at $35, we still saw an advantage to revealing the cost of production, which is interesting because the markup was five times the cost."
• Cost transparency fails only when prices become so high that they are way out of whack with the market norm—and when the firm makes it clear that its own markup is much higher than what competitors charge. For instance, if a company charges $30 for a T-shirt, but emphasizes that competitors are charging only $25, that their costs are the same, and that the competitor's markup is lower, the consumer becomes less attracted to the higher-priced brand and less willing to buy the brand's products.
"It is possible for cost transparency to backfire, but only when a company reveals it is being unfair with customers," Buell says. "It was shocking to us how heavy-handed we had to be." John puts it another way: "Cost transparency doesn't fall apart until we say, 'Hey guys, we're ripping you off.'"
MEANWHILE IN THE REAL WORLD
The researchers took the academic experiments into the real world by examining customers interacting with an online retailer. In anticipation of the holiday season, the retailer introduced a $115 leather wallet on its website that came in five colors. In an effort to promote sales after the holiday, the retailer included an infographic graphic on each product pages that presented the cost of leather ($14.68), construction ($38.56), duties ($4.26), and transportation ($1.00), as well as the total cost of $58.50 to produce the product. But the retailer made a fortuitous error, including the costs infographic for only three of the colors—burgundy, black, and gray.
“COMPANIES MAY TRULY STAND TO BENEFIT FROM BEING MORE OPEN”
This discrepancy was overlooked for a five-week period, creating a natural experiment that compared how customers reacted to the three wallets that outlined costs versus the two—bone and tan colors—that did not. The researchers found that the introduction of the cost transparency infographic increased daily unit sales on a per-color basis by 44 percent.
NOT ALL COSTS ARE THE SAME
Consumers seem to have varying levels of tolerance for different cost variables. Shoppers seem to appreciate the cost of raw materials, such as cotton, but certain expenses, like the cost of transportation, "seem like a waste of money to people," John says—even though it is indeed a very real cost for the company.
Yet even if the costs don't seem allocated in an ideal way from the customer's point of view, the customer still applauds the company's willingness to share its production expenses. "Even if it isn't exactly what the customer might envision, the customer appreciates the act of disclosure," Mohan says.
It's unclear whether a company might see these benefits on a sustained basis, particularly if a number of retailers selling similar items all started revealing their costs. Presently, only a few retailers practice cost transparency.
For example, Everlane (www.everlane.com), is a San Francisco-based online retailer that reveals the variable costs of production for each of its products, as well as images and descriptions of the factories where products are made. And Honest By (www.honestby.com), a Belgian retailer, augments cost transparency on its website with detailed supply chain information for each component of each garment, right down to the hang tag. "This was a novel thing to do, and the advantage is probably greatest when it's perceived as novel," John says.
The paper also noted certain cost transparency caveats for retailers. A firm may not want to share production costs if the cost structure provides a competitive advantage. In addition, contracts with suppliers may prevent making certain information public. And it just may be that companies don't have the information readily available—for example, in cases where goods are produced by a variety of manufacturers.
For companies with goods and services that depend on high fixed costs, such as research and development and overhead, simply providing variable costs may not accurately reflect to consumers many of the other expenses incurred. For example, R&D expenditures in the pharmaceutical industry involve more than just the cost of producing one particular drug. Many drugs may have to fail before one succeeds, and that one hit drug ends up subsidizing the other busts.
"It would be a lot trickier for an industry that spends millions or even billions in developing a product to reveal its costs," Buell says.
RAW HONESTY APPRECIATED
Yet in the retail industry—and perhaps in other industries where customers may take for granted how much effort and money goes into producing a good—many firms may benefit greatly from sharing cost figures. Perhaps it makes the price a company charges seem more fair and justifiable. Or perhaps it's simply a matter of consumers appreciating a little raw honesty from the corporate world.
"Our evidence suggests you should open yourself up and say, 'Here I am, warts and all,'" John says. "When you make yourself vulnerable, people like you more."
Buell hopes the research findings get company executives thinking about finding ways to engage more openly with consumers in general as a potential way of piquing interest—and even boosting sales. (HBS related research on how consumers view pricing can be found in the article Brain Marketing: Is the Product Worth the Price?.)
"One of the big takeaways from my perspective is that this opens up the door to companies considering engaging their customers in a more meaningful dialogue. Costs are one of those things historically that we might have thought of as taboo in a dialogue between consumers and companies. It's interesting to think how revealing something that is usually hidden can change the nature of the relationship. Companies may truly stand to benefit from being more open."
Name Your Price. Really.
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Is it worthwhile for retailers to experiment with "pay what you want" pricing? Shelle Santana unmasks the surprising logic behind how much customers will pay, and when. One finding: sellers can dramatically change what some buyers are willing to pay.
by Michael Blanding
Years ago, when I was a student in New York (and like many students, perpetually broke), I would often go to the Metropolitan Museum of Art for entertainment. The museum had a policy that visitors could pay whatever they wanted, so for as little as a penny, I could spend the afternoon wandering the galleries.
But there was a catch: I couldn't just put my money in a slot; I had to stand in line with everyone else, many of whom were paying the suggested donation of $15. Sometimes, I boldly told the clerk I would pay 5 cents. Other times, however, I paid $1, $5, or even $15.
“IF YOU CAN NUDGE PEOPLE INTO A MORE COMMUNAL RELATIONSHIP, THEY HAVE A HIGHER WILLINGNESS TO PAY”
According to Shelle M. Santana, an assistant professor in the Marketing unit at Harvard Business School, I may have been influenced by communal norms.
Santana has closely studied "pay-what-you-wish" (PWYW) pricing—a phenomenon that admittedly makes no rational economic sense. When presented an opportunity for a freebie, "classical economic theory says you should pay nothing," says Santana. "Why buy something when you can get it for free?"
And yet, research has shown that when people are able to set their own prices, almost everyone pays something—and sometimes well over the suggested price. "I was really interested in that broad variance and who pays a little and who pays a lot and under what circumstances," says Santana.
Sellers Can Influence What Buyers Pay
In a series of experiments—including a field experiment where she posed with students as snack bar employees—Santana found that by subtly manipulating the environment, sellers can dramatically change what some buyers are willing to pay.
Retailers are experimenting with allowing customers to write
their own price. ©iStock.com/Rawpixel Ltd
Examples of PWYW pricing abound in all industries: Radiohead's self-released its In Rainbows album with "name your price" downloads; the Dallas Theater Center holds "Pay-What-You-Can" nights to draw in new patrons; Boston Pedicab operates under an "open fare" system; and Panera Bread runs four nonprofit "Panera Cares" locations with PWYW pricing.
Oftentimes, businesses use the strategy as a promotion to get new customers, sometimes with a social tie-in for extra incentive—for example, a restaurant will run a PWYW promotion and donate part of the proceeds to a charity to feed the hungry.
Not all PWYW strategies are created equal, however. Santana investigated data from a pet adoption agency in New York, finding that on average patrons paid close to the $150 adoption fee, with some paying as much as $260. For a PWYW premiere of the documentary Freakonomics, however, by far the most typical ticket price paid was a penny. "It got me thinking, why are these situations so different," says Santana.
Borrowing from social psychology literature, she surmised it might have something to do with how the way customers think about the transaction influences their behavior.
"Exchange norms" are defined by reciprocity—I get this, you get that. It's the kind of interaction we have with business associates or when we are buying a house or a car. On the other hand, "communal norms" are based on relationships between people, and don't necessarily need to be balanced evenly. It's the kind of interaction we have when taking a friend out to dinner. "If you give me a dollar, I may not feel the need to give you back the dollar immediately," says Santana.
Are Consumers Pro-social Or Pro-self?
Furthermore, Santana borrowed a concept from strategic games and socially interdependent decision-making that divides people based on their "social value orientation" (SVO). When faced with a decision on how to allocate resources between themselves and others, some people are "pro-social," meaning they are likely to value more equal distributions of resources, while others are "pro-self," meaning they try and maximize value for themselves. She wondered, when faced with a PWYW situation, would people with pro-social ideals pay more?
Santana explores these questions in a new working paper, Because We're Partners: How Social Values and Relationship Norms Influence Consumer Payments in Pay-What-You-Want Contexts, written with Vicki G. Morwitz, the Harvey Golub Professor of Business Leadership and Professor of Marketing at New York University's Stern School of Business.
For their first experiment, Santana and Morwitz asked participants how much money they would pay for a cookie sold at a local café. Those who elected to purchase a cookie paid anywhere from zero to $2, with an average price of 89 cents.
At the same time, participants completed a questionnaire to determine their SVO. Sure enough, those with a pro-social orientation forked over an average of $1.22 for the cookie, while those with a pro-self orientation paid an average of 62 cents. "Just as we expected, people who were pro-self paid less, and people who were pro-social paid more," says Santana.
She and Morwitz then took the findings a step further, to see if they could change the results by changing the nature of the transaction. In a new experiment, they offered a scenario in which a local coffee shop was promoting a PWYW cup of coffee. The researchers presented the deal in two ways: In the first description, they stressed that the shop offered great coffee with great value and efficient service, setting up an exchange norm. In the second, they emphasized that the servers always offered a warm greeting, took an active personal interest in the lives of their customers, and recommended new coffees based on their preferences, signaling a communal norm.
When asked what they would pay for the coffee, pro-social participants increased the amount they paid under the second condition but only by 13 percent, $2.45 to $2.79. But significantly, pro-self participants paid almost a third more, $1.98 to $2.63, raising their price to almost as much as the pro-social group.
"In the context of a communal norm, their motivations shifted," says Santana. In other words, just by changing the context of the situation, they were able to suppress pro-self's ordinarily selfish behavior and make them temporarily more generous.
Into The Field
It's one thing to test this theoretically, it's another to put it into practice in the real world. For their last experiment, Santana and Morwitz went into the field, designing a PWYW promotion for a pack of gum at an NYU student café. Again, they presented two scenarios. In the first, they set up a sign with a pair of hands shaking that read, "Special Promotion: It's Your Turn to Set the Price Today!" In the second, they put up a new sign, which was rotated throughout the day, with a group of hands in a circle that read, "Because We're Partners, It's Your Turn to Set the Price Today!"
Over the course of 11 days of sales, that subtle change in messaging clearly changed what students were willing to pay—increasing the price 21 percent from an average of 57 cents to an average of 69 cents. For companies interested in doing a PWYW promotion, Santana says that finding implies they can mitigate the risk, and achieve better results, just by shifting the context to create a communal norm.
"Sellers have more power to shift these norms than they might think they do," she says. "If you can nudge people into a more communal relationship, they have a higher willingness to pay."
Furthermore, while past research has shown that customers are willing to pay more when a portion of the proceeds is donated to charity, Santana and Morwitz's research shows that such an expensive tie-in may not be necessary.
"It doesn't have to be costly to move to these communal norms," says Santana. "What we showed is there are simple, subtle, low-cost ways to get people to pay a little more."
How Our Brain Determines if the Product is Worth the Price
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Are consumers more likely to buy if they see the price before the product, or vice versa? Uma Karmarkar and colleagues scan the brains of shoppers to find out.
by Carmen Nobel
Think of the last time you went shopping.
By the time you decided to buy a product, you knew both what you were buying and how much it cost. But was your decision affected by whether you saw the price or the product first? That's the question at the heart of new experimental research that uses neuroscience tools to shed light on how our brains make purchasing decisions.
"We were interested in whether considering the price first changed how people thought about the decision process, and whether it changed the way the brain coded the value of a product," says Uma R. Karmarkar, a neuroscientist and assistant professor in the Marketing unit at Harvard Business School, who conducted the research with Baba Shiv, a marketing professor and neuroeconomics expert at Stanford University's Graduate School of Business, and Brian Knutson, an associate professor of psychology and neuroscience at Stanford. "Because we had neuroscience tools at our disposal, we had the benefit of exploring both those questions," Karmarkar says.
“WE WERE INTERESTED IN WHETHER CONSIDERING THE PRICE FIRST … CHANGED THE WAY THE BRAIN CODED THE VALUE OF A PRODUCT.”
The researchers found that price primacy (viewing the price first) makes consumers more likely to focus on whether a product is worth its price, and consequently can help induce the purchase of specific kinds of bargain-priced items. Their study, Cost Conscious? The Neural and Behavioral Impact of Price Primacy on Decision-Making, will appear in a forthcoming issue of the Journal of Marketing Research.
The research could help retailers and marketers decide when it's best to lead with price, which products work best with that strategy, and how to frame sales messages to consumers. (HBS related research on how consumers view pricing can be found in the article Deconstructing the Price Tag.)
The Brain Shopping Experiment
In a series of experiments, participants went shopping—while lying on their backs inside a functional magnetic resonance imaging (fMRI) machine. The fMRI uses a giant electro-magnet, often 3 teslas strong, to track the blood flow throughout the brain as test subjects respond to sensory cues. In this case, participants were responding to pictures of products and their prices.
A new neuroscience study looks at how our brains make purchasing decisions. ©iStock.com/julos
In the first experiment, conducted at an imaging center on the Stanford University campus, each participant was given $40 of shopping money before viewing a series of 80 products and their prices on a screen inside the fMRI machine. "This made the shopping experience more real," Karmarkar says.
To encourage purchasing, the products were offered at sub-retail prices. Sometimes participants saw the price first, and sometimes they saw the product first. But in every case, they eventually saw an image of both the product and the price presented together. At that point, they chose whether to purchase the product, indicating yes or no with the push of a button. After exiting the machine, participants filled out a survey to rate how much they had liked each product, on a scale of 1 to 7.
The researchers focused on brain activity at the moment participants saw the product and price presented together. They were most interested in the medial prefrontal cortex (the area in the brain that deals with estimating decision value) and the nucleus accumbens (an area that's been called the pleasure center, and whose activity is correlated with whether a product is viscerally desirable). "What we cared about was whether the neural patterns in these areas looked different at the point when the information on the screen was eventually the same," Karmarkar says.
The results showed that the brain activity varied according to whether the participant had seen the price or product first. "The pattern of activity in the prefrontal cortex suggested to us that sequence matters: At the very simplest, the neural signals looked different when the price came first versus when the product came first," Karmarkar says. "When the product came first, the decision question seemed to be one of 'Do I like it?' and when the price came first, the question seemed to be 'Is it worth it?' "
That said, price primacy didn't have much of an effect on actual purchasing behavior. Participants bought about the same number of items and reported similar "liking" ratings regardless of whether they had seen a product or price first. The researchers suspected that even if participants were more critical of a product's value in the price primacy condition, the products were equally attractive under both conditions.
Most of the participants were in their 20s, and most of the products appealed to their demographic—movies, clothing, noise-canceling headphones, and so on. "If you really love something, and you can afford it, you're going to buy it," Karmarkar says. "For those kinds of 'easy' decisions, it doesn't matter much whether the product or the price comes first."
And while the results of this initial experiment had been significant to neuroscience, Karmarkar's team also wanted to show that their research could have real-world implications for retailers—a direct effect on whether a consumer decided to buy a product. They hypothesized that price primacy might actually increase the likelihood of buying products, but only if the decision was related more to the product's usefulness than to pure emotional desire.
Water Filtration Pitchers And Batteries
To that end, the researchers designed a follow-up study in which 83 participants sat at their computers, evaluating arguably boring but utilitarian products: a water filtration pitcher, a pack of AA batteries, a USB drive, and a flashlight. Similar to the fMRI study, the products were offered at a discount.
For all four products, participants viewed only a price or only a picture of the product for eight seconds, followed by a decision screen displaying both price and product. They then indicated the extent to which they wanted to buy the items on a scale from 0 to 100, with anything above a 50 categorized as intent to purchase the product.
This time, price primacy had a direct effect on purchasing decision. Participants were significantly more likely to purchase a product if they saw the price first than if they saw the product first. For retailers this indicates that it makes sense to lead with the price, at least when advertising utilitarian items. At the same time, in cases where they advertise prices first, retailers may want to go out of their way to highlight a product's functionality over its form.
"The question isn't whether the price makes a product seem better, it's whether a product is worth its price," Karmarkar says. "Putting the price first just tightens the link between the benefit you get from the price and the benefit you get from the product itself."
But the research also revealed a notable caveat: After participants indicated whether they wanted to buy a product, they reported exactly how much they'd personally be willing to pay for the item, typing a dollar amount into an online form. Surprisingly, the average willingness-to-pay amount was slightly lower in cases where they had viewed the price first. This indicates that if retailers want to take advantage of price primacy, they need to advertise true bargains. So, for insance, a gigantic neon sign advertising $5 off a $20,000 car? That's going to turn customers away.
"If it's an insignificant discount, then you're actually putting yourself at a disadvantage by highlighting the price first, because people are now cognitively scrutinizing the price and making sure it's worth it," Karmarkar says. "You can't just try to fool people into thinking it's a great price."
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