Dynamic pricing is a strategy that is used at the retail level. It can be implemented at physical locations or through an e-commerce platform. It applies variable pricing to goods and services, creating pricing changes based on the perception of how much a consumer is willing to pay at a specific time for an item.
It is more than just a supply-and-demand pricing strategy. Rarity is certainly an influence, though the household income of the consumer, the number of people who want the product, and the long-term viability of the product are all influential pricing factors as well.
Because dynamic pricing is based on large levels of advanced data, many businesses which use dynamic pricing have automated the process to maximize its benefits. Here are the dynamic pricing advantages and disadvantages to examine.
List of the Advantages of Dynamic Pricing
1. It can be used as a way to boost sales.
Dynamic pricing is often seen as a way for businesses to increase prices. Although this may be true to some extent, the practice can also be used to lower prices as well. There are times when a lower price can trigger lagging sales, helping a business meet its sales revenues for a day, a month, or longer. Something as simple as a flash sale is a way to promote the use of dynamic pricing at the local level.
2. It can be used to maximize profits.
If competitors are offering goods or services at a substantially higher price, then dynamic pricing is a strategy which can be used to maximize profits. You can adjust the price of items based on the shopping patterns of potential customers if you know what they want ahead of time. Say a customer wants to purchase a pencil. Your competition sells pencils at $2 each, while you sell them at $0.75 each. Dynamic pricing strategies would let you sell that pencil to the customer shopping around at $1.25, giving them the perception that they’ve saved money.
3. It can create higher levels of demand.
Dynamic pricing is often used at events because open seats equate to zero revenue. If the day of the event arrives and seating is still available, it may be offered at a lower price to some consumers. That allows you to still maximize profits, giving you access to whatever revenues may be available at that time. You may find this process in the hotel industry, with transportation options, and other industries where demand levels can be highly variable.
4. It allows for pricing to reflect demand.
Imagine that you grow tomatoes for a living. During the summer months, it is much easier to grow them because you have access to lots of sunshine and precipitation. That means it costs less to produce the crop, which is a savings you can pass along to your customers. In the winter months, you’re stuck growing tomatoes in your greenhouse. You have to pay for extra light and water, not to mention the cost of the greenhouse. With dynamic pricing, you then adjust the cost of your tomatoes to reflect the extra work required to bring them to the market.
5. It provides more insights into customer behaviors.
With dynamic pricing, the demand curve for each customer becomes easier to calculate. This curve indicates the minimum and maximum price a consumer is willing to pay for a specific transaction. Numerous data points are used to create this curve, including the device that is being used for shopping purposes. With this additional information, more insights into consumer behavior can be obtained, which makes it more likely that a sale can eventually happen.
List of the Disadvantages of Dynamic Pricing
1. It is something that customers hate with a passion.
Customers aren’t opposed to something other than a fixed-price strategy. They just don’t like it when they are targeted by a dynamic pricing strategy. Even though it can be used to save money, it is often used to boost the margins of the business instead. That means customers feel like they’re being overcharged for what they need and there isn’t anything they can do about it. For that reason, a pricing strategy should always match a company’s brand identity.
2. It is a system that some customers can game.
Shoppers have figured out that dynamic pricing models are often used. They know that if they shop around too much for a specific item, the cost of that item might increase. That has led to an increase in the use of private browser sessions for product research, limiting the amount to of information that can be collected through this process. Smart customers will spend less because they’ve put in the time to figure out what you are doing.
3. It offers the potential of a price war.
Have you ever watched an old-fashioned price war between two gas stations? One lowers the price of their fuel, which causes the other business to lower it even further. This process continues until one business reaches a point where they cannot sustain themselves at the artificially low price. That is what many retailers fear when looking at dynamic pricing as an option. That’s why automation software can be useful, as you can ensure that an item is never priced below cost.
4. It may lead to customer alienation.
Customers hate it when they discover that someone else paid a lot less for the same item they purchased. Many businesses which employ dynamic pricing have customers come back to them, demanding a refund for the difference in what they paid compared to someone else. Even if that refund is provided, there is still a greater chance that the consumer will create negative content for the business which may affect future customers.
5. It may lead to the loss of a sale.
With internet saturation levels increasing every year, many customers are researching the products or services they want in advance of a purchase. They may even know what the MSRP of certain goods are when they contact a business to make a purchase. If the product is priced higher than what they expect, then they’ll go somewhere else to make their purchase. Many won’t even say anything. They’ll just leave your business or website and potentially never come back again.
6. It reduces customer loyalty.
When consumers become upset about the pricing strategy of a business, their desire to return to that business in the future is greatly reduced. Trust leads to repetitive purchases of goods and services. If your pricing strategy is dynamic, you’re encouraging those consumers to look for better prices elsewhere. If they happen to find a better price, the reduced loyalty they experienced will increase the chance that a business will lose that potential sale.
7. It increases industry competition.
Although customers want to be loyal to a specific brand if they find it to be valuable, dynamic pricing changes the value proposition being offered. It communicates that a business is more focused on their profits instead of providing something for the customer. When that happens, competition increases in the industry because more brands believe that they can create a disruptive influence.
8. It may create a customer service headache.
One of the best examples of dynamic pricing gone awry occurred with Uber in 2014. After a shooting incident in Sydney, numerous customers contacted Uber to book travel outside of the danger zone. The automated processes recognized the increased demand and initiated surge pricing to maximize profits for the company. Fares reached up to 4 times the normal fee. Uber even justified the expense initially, saying that fares were increased to encourage drivers to enter the danger zone. There was no consideration for the danger because that had not been programmed into the algorithm.
These dynamic pricing advantages and disadvantages show that businesses which employ this strategy can make more money. The average company employing dynamic pricing can improve their margins by 10%, if not more. That comes, of course, at the expense of consumers who are alienated by this pricing strategy. If implemented carefully, it can be beneficial.