Pricing Strategies for Your Business: Decoy Pricing vs Price Anchoring
To most of us, money is an uncomfortable topic to discuss. We’d much rather talk about sports, politics, or travel, but it’s an indispensable part of our livelihoods.
On that note, let’s discuss pricing — a topic many businesses aren’t entirely satisfied with. Whether it’s a freelancer or a large enterprise, many feel as though they’ve either left some money on the table or lost some customers in the process.
Truthfully, there’s a very fine line between charging too little, thus missing out on profits, and charging too much, thus missing out on sales.
In light of this difficult balancing act, this article provides two main methods marketers use to create an effective pricing strategy.
Understanding people
Before we get into pricing, we should first understand people — they’re the only customer we have (nobody is selling to aliens as far I know).
Though most of us like to think otherwise, the harsh reality is that we don’t know what a fair price is. Basic economics teaches us to purchase the item yielding a higher utility, yet that’s rarely an objective metric.
Pricing is completely relative. A product on its own isn’t expensive or cheap. You wouldn’t be able to tell the price of bottled water if you had never seen any beverage prices before. That’s simply because you don’t have a comparison to base it off.
Only when you have similar options can start to tell whether it’s expensive or cheap. For example, if a coke bottle costs $2 and a water bottle costs $10, you’d be able to deduce the water seems expensive — especially as coke contains water.
Now that we understand human behavior better, let’s delve into the two main pricing methods marketers use: Decoy Pricing and Price Anchoring.
1. Decoy Pricing
Decoy pricing is a method where consumers are lured into purchasing the product the vendor wants to sell most.
Sellers typically present consumers with three different price ranges. Research shows they’re likely to go for the middle one because it combines better quality than the cheaper one but has no specialized extras of the expensive one.
Let’s look at an example of Netflix’s decoy pricing strategy: they offer three main plans. On the top, we have the Premium (the highest quality plan), and on the bottom, we have the Basic (the lowest quality item), which leaves most consumers settling for the in-between standard plan.
Why is that? The rationale goes along these lines: the Premium plan has excessive-resolution, too many screens, and a price higher than most subscriptions for the average user. On the flip side, the basic has an insufficient resolution, only one screen, and a considerable price for the modest plan, making it rather limited for the average user. Given these choices, consumers often see the Standard plan as the perfect compromise.
True, there may be outliers, but Netflix doesn’t mind — on the high side, they’re covered with a premium price; on the low side, the minor tech costs and boosted Standard plan sales offset any downsides.
2. Price Anchoring
This concept refers to creating a base price that customers use when making purchasing decisions. For example, when a product is discounted from $100 to $50, the initial higher price is referred to as the anchor price.
Depending on the difference, this may make the discounted product seem like a great deal.
A textbook example of price anchoring is Apple. When the company first introduced the iPad back in 2010, Steve Jobs delivered one of his renowned presentations. Towards the end of the presentation — when he would drop the big announcement — he ingeniously applied price anchoring to an unsuspecting audience.
Instead of getting straight to the actual price, he displayed a large image of the “expected price” according to the analysts of $999 — or just under $1000. He let that number sink in, talking for a solid minute with the price on a large screen behind him.
Then, after much anticipation, he dropped the bomb with an “ I am thrilled to announce to you that the iPad pricing starts not at $999, but $499.”
The reality was that there was never a $999 product, it was $499 all along, yet through an ingenious delivery, he made it seem like customers were saving $500.
How to apply these concepts
Although large corporations such as Apple and Netflix spend millions on pricing strategy, most of us can still apply many of their tactics to optimize our offerings.
1. Decoy Pricing
If you wanted to implement decoy pricing, you could create pricing tiers. This gives customers a relative price range to compare (an example would be the Netflix model).
You often see pricing tiers with stockbroker fees, insurance premiums, and gym subscriptions.
To illustrate, let’s suppose a photographer charges $10 per photo, $50 per five photos, and $100 per eleven photos. The reality is that the editor would be satisfied charging $8 per photo, meaning all the options are beneficial. However, from the consumer’s perspective, he/she identifies $100 per eleven photos as the clear bargain. From the photographer’s perspective, he/she has secured the largest sale available, creating a win-win scenario.
2. Price Anchoring
Whether you want to use your premium plan, your original price on sale, or even a competitor's price, they all serve as pricing anchors. Through these, you can get consumers to rely on a specific number when making a purchasing decision.
A simple, yet effective strategy is to discount a product. By clearly displaying the original price vs. the discounted price, consumers tend to fixate on the original price to see how good of a bargain they’re getting.
Another alternative is to display a competitor's prices on your page to demonstrate how you offer more for less (I would recommend checking whether you can explicitly mention other competitors in your jurisdiction to avoid legal repercussions).
It’s for a reason that there’s a saying in marketing that goes:
“How do you sell a $2,000 watch? Put it next to a $10,000 watch.”
Top Takeaways
- Pricing strategy is fundamental to any business, yet it’s not often maximized.
- Don’t push it; if done properly, these tactics are great. But if you’re too greedy, they can easily backfire with offended customers.
- Put yourself in the customer’s shoes. After all, a business wouldn’t be sustainable without them.
Although pricing is still king in the business world, the growing importance of environmental, social, and corporate governance (ESG) causes will hopefully start having a greater weight on consumer decisions going forward.
