Customers have price expectations in their minds before entering a store, as well as expectations of prices in other stores. How customers update their expectations once they see the actual prices can help businesses better manage their promotions and sales for maximum effect.
Before going to a store, consumers have an expectation in their minds about how much the product they want to buy will cost at that store, and at other stores. Once they see the actual price in the store, they will update their expectations about the prices they might find for the product at other stores.
"Their decision on whether or not to buy is driven by the psychological gain or loss that they feel…"
How does the difference between price expectations and actual price impact consumer purchasing decisions? This impact is important for managerial decisions including for promotions and sales strategies.
To explore this issue, a research team from the Indian School of Business, Washington University’s Olin School of Business and University of Virginia’s McIntire School of Commerce designed an experiment that for five weeks allowed participants to make real purchases through an online store. The experiment allowed researchers to collect information on participant expectations prior to seeing the prices in the store (information labelled ‘the PRIOR’ in the research terminology), and their expectations — after seeing the store prices — of the prices they’ll find in other stores (labelled ‘the POST’ in the research).
Two classes of shopping behaviours emerged from the research. Some customers made their purchase decisions based on their PRIOR and the actual price in the store. These types of transactions were labelled the ‘in-store focused’ class of shopping behaviours. Other customers, however, would have a different reaction. Rather than making their decisions immediately, they used the price in the store to update their expectations of the prices they might find in other stores (their POST), and made their purchasing decisions accordingly. These types of transactions were labelled the ‘outside focused’ class.
Previous behavioural research helps explain the difference between the two classes of shopping behaviours. The purchase decision for outside focused customers is driven by an active search for other options beyond the store. The in-store focused customers, however, are not as active. Instead, these customers often use their PRIOR as internal reference points, which they bring to the store. Their decision on whether or not to buy is driven by the psychological gain or loss that they feel based on the difference between the actual prices and their internal reference points.
Companies using price promotions to draw in customers can use this research to help manage customer price expectations and thus ensure a greater response to the promotions. Four scenarios describe the implications of the research based on different managerial actions.
Scenario One: The store lowers prices without making a public announcement. Both the in-store focused and outside focused class will have a favourable reaction because the actual price is lower than both their PRIOR (which is what counts for in-store focused customers) and their POST (which is what outside-focused customer will emphasize). Since outside focused customers might think other stores will have similar sales, the impact is not as great as with in-store focused customers — but it is still somewhat favourable.
Scenario Two: The store lowers prices and promotes these lower prices through advertisements. Reducing prices and promoting the sale will lower the prior price expectations of customers. In other words, the psychological benefit of discovering lower prices in the store is lost (the prices in the store match the customers’ prior price expectations, since the newly lowered store prices were announced through the promotion). Thus, the consumers’ PRIOR won’t necessarily drive purchases for the in-store focused class; the outside-focused class will once again adjust their POST (the expectations of prices in other stores), which as in scenario one is somewhat favourable to the store with the reduced prices.
Scenario Three: The store lowers prices without making a public announcement. However, tags in the store declare that these prices are available “in our store only.” In this case, in-store focused class will have a favourable reaction because the actual price is lower than their PRIOR. The outside focused class will have an equally favourable reaction because their POST won’t be updated (their estimation of prices in other stores will stay where it was when they first entered the store, while the actual price in the store holding the unannounced sale will go down dramatically from their PRIOR.)
Scenario Four: The store lowers prices and promotes these lower prices through advertisements. The store also places tags in the store that declare that these prices are available “in our store only.” Once again, as in scenario two, the store loses the psychological benefit of a PRIOR that is higher than the actual price in the store. And as in scenario three, the outside focused class of shoppers benefit from a POST favourable to the store.
Out of these four scenarios, scenario three is the most effective, since it benefits both classes of shoppers. However, it’s important to understand the make-up of your customer base. If your customers are mostly in the in-store focused class, for example, then scenario one is nearly as powerful. Scenario four works for a customer base of outside focused customers.
One added wrinkle is that customers don’t necessarily stay in one class. For different products, they might become outside focused or in-store focused — somewhat complicating the application of the research. Nevertheless, price expectations must play an important role in decisions involving promotions, sales and advertisements.
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