What Small Businesses Need to Know About Dynamic PricingIt isn't just for airlines and hotels anymore.
Ever wonder why airline ticket prices and Uber fares change so rapidly? It’s called dynamic pricing, and it’s all about leveraging supply and demand to bring in the most revenue possible.
Airlines, entertainment venues and big-box online retailers like Amazon have been using dynamic pricing for years, and now more small businesses are finding ways to leverage it.
Here’s a rundown of what small business owners need to know about the dynamic pricing trend.
What is dynamic pricing?
“Dynamic pricing is a strategy in which businesses regularly adjust prices up or down based on market supply and demand,” explained Greg Loewen, CEO of Digonex, which develops customized, automated dynamic pricing solutions.
Compared to “set it and forget it” static pricing, dynamic pricing helps businesses optimize prices based on market conditions and historical trends. The algorithms used to make these calculations are complex and include factors such as historical sales patterns, competitors’ prices, profit margins, time of day and even the weather.
Improved profits and happier customers
According to market research firm McKinsey & Company, businesses that use dynamic pricing often see sales grow between 2 and 5 percent and margins increase up to 10 percent.
But increased revenue isn’t the only benefit. If done well, dynamic pricing can boost customer satisfaction. The Indianapolis Zoo, for example, switched to dynamic pricing in 2014 with the goal of improving customer satisfaction.
“We were opening a world-class exhibit that would gain national and international attention and knew our crowds would be large,” said Judy Palermo, the zoo’s senior PR manager. To ensure that weekends and other peak days weren’t overcrowded, the zoo used dynamic pricing to adjust demand and ensure guest satisfaction.
In addition to flattening attendance curves, Palermo said the pricing strategy lets “savvy visitors” save money by buying tickets in advance, before the demand for a particular date increases and prices increase along with it.
If there’s bad weather in the forecast, the zoo may drop prices, meaning that customers willing to brave the rain can get a bargain.
Transparency is essential
“Dynamic pricing works best when it is transparent to a business’ customers and the ‘rules of the game’ are fair and well understood,” said Loewen. Because you’re essentially charging different customers different prices, or different prices to the same customer at different times, it’s important to be open and upfront about your pricing policies.
Palermo said when the zoo launched its new pricing structure, they did a marketing campaign to educate customers on how the new structure could help them save money.
“We launched a marketing plan, ‘Pick Your Day, Pick Your Price, Pick Your Package,’ that explained the pricing benefits and new structure. In the first year, where we had record attendance, we only had 28 complaints about the pricing out of 1.2 million visitors.”
What industries can use dynamic pricing?
“There are very few industries where a single, static price is the optimal price for every customer segment throughout the year,” said Loewen. “That is the problem that dynamic pricing helps to solve.”
In recent years, dynamic pricing has been showing up in unexpected places and industries, from event and entertainment businesses to equipment rental companies and ad agencies selling broadcast advertising.
Even bars are trying out dynamic pricing. The Blind Burro in San Diego adjusts drink prices every five minutes based on what guests are drinking. As more consumers order a particular brand of bourbon or tequila, other brands may drop in price. Price fluctuations are displayed on TV screens around the bar so customers can base their next round on up-to-the-minute prices.
Get help from a pro
If you are interested in creating a dynamic pricing strategy for your small business, bring in an expert to help you do it right. Loewen said for firms with under $1 million in annual sales, it may be difficult to justify the cost of developing a custom dynamic pricing solution, but there are consultants who can help small businesses create a rules-based pricing model or DIY solution.
With the help of a pricing consultant, business owners can create their own in-house dynamic pricing model by analyzing historical sales patterns using a simple Excel spreadsheet. The key, Loewen said, is “being willing to test and learn how your customers respond to price changes.”
For example, a small, local bakery may not have the space and staff to accommodate all the interest they get during peak wedding season. “This indicates a clear supply/demand imbalance,” he said. The owner could test out dynamic pricing by raising the price of a cake by $5 or $10 in peak season.
When demand is high, it makes sense for Bridezillas — and other customers — to pay a premium.