Dynamic Pricing: Should Your Small Business Jump Aboard?
If you grimace at the mention of “dynamic pricing,” you’re not alone.
Dynamic pricing, in which a company quickly changes its prices depending on a number of relevant factors (especially demand), has actually been around for decades. However, while it previously was contained to the realm of extremely discretionary purchases such as airline flights and concert tickets, it’s starting to bleed into areas where prices have traditionally been more stable, such as fast food and groceries.
And it’s receiving an icy reception.
Where dynamic pricing goes, so too does wide and loud outcry. And it’s not just directed at companies that have actually implemented the pricing strategy — it’s even targeted at firms that are testing it, and even those that have merely said they’ve considered it.
A long way of saying, if you’re even thinking about thinking about dynamic pricing, you need to evaluate it carefully. The following are some dynamic pricing pros and cons so your business can make an informed decision about how suitable it will be.
Understanding Dynamic Pricing
Dynamic pricing is a strategy where businesses adjust prices based on real-time market demand and other relevant factors. The goal is to optimize revenue by charging different prices to different customers at different times. This strategy is powered by sophisticated algorithms that analyze data such as customer behavior, competitor pricing, and inventory levels, as well as external factors like weather or events.
If that sounds an awful lot like “surge pricing,” that’s understandable. Surge pricing is a form of dynamic pricing, and while they’re similar, they feature one key difference:
- Dynamic pricing can see prices go up or down depending on outside factors. (For instance, a basic dynamic pricing model could start an item at $5, then lower it down to as low as $4 or raise it up to as much as $6 depending on various factors.)
- Surge pricing involves only raising prices when demand is higher. (For instance, a basic surge pricing model could start an item at $5, then raise it to as much as $6 as demand increases.)
Pros of Dynamic Pricing
- Maximizing Revenue: One of the primary advantages of dynamic pricing is its ability to maximize revenue in real time. By adjusting prices based on demand fluctuations, businesses can capitalize on periods of high demand by raising prices. This allows the company to improve profitability without compromising sales volume.
- Competitive Edge: Dynamic pricing allows businesses to attract price-sensitive customers during off-peak times.
- Efficient Inventory Management: Effective dynamic pricing strategies can help businesses manage their inventory more efficiently. By aligning prices with inventory levels and demand forecasts, businesses can reduce the costs of holding excess inventory.
- Personalized Pricing: Dynamic pricing allows for personalized pricing strategies. A business can actually tailor their prices to individual customer segments based on factors such as purchasing behavior and willingness to pay. Depending on how well a business handles this factor, it can actually enhance customer satisfaction and loyalty.
Cons of Dynamic Pricing
- Customer Trust and Perception: One of the biggest challenges with dynamic pricing is its potential impact on customer trust and brand perception. Customers typically perceive dynamic pricing as unfair or exploitative, and they’re especially likely to harbor these feelings toward companies that institute surge pricing.
- Regulatory Scrutiny: Dynamic pricing practices have attracted regulatory scrutiny, especially when consumers perceive it as price gouging. For instance, earlier in 2024, a New York state lawmaker introduced legislation to ban dynamic pricing by fast food companies. Businesses need to navigate legal and ethical considerations to avoid backlash and potential legal challenges.
- Operational Complexity: Spinning up a dynamic pricing strategy requires significant resources. These may include the development of sophisticated pricing algorithms, real-time data analytics capabilities and skilled personnel.
- Risk of Backlash: Companies that implement dynamic pricing risk facing backlash from consumers and the media, even long after the initial rollout. Just consider the reaction to Uber, which has been criticized for not disabling surge pricing during emergencies or natural disasters.
Examples of Backlash
As mentioned above, dynamic pricing is nothing new — most notably, airlines have been using dynamic pricing for literally decades. But the practice is becoming increasingly controversial because it’s being attached to companies that predominantly offer relatively stable pricing to middle- and lower-income consumers.
Let’s look at a couple of examples of high-profile dynamic pricing blowback.
In February 2024, Wendy’s CEO Kirk Tanner said his company would invest $20 million in digital menu boards, which could be used for (among other things) testing dynamic pricing. Almost immediately, Wendy’s faced a barrage of angry criticism on social media. People accused the company of surge pricing and price gouging — even though Wendy’s hadn’t yet taken any pricing actions. Wendy’s was forced to clarify, explaining that it has no plans to introduce surge pricing. Instead, Wendy’s said, any surge pricing would be used to provide discounts during slower periods.
While Walmart didn’t receive nearly so much heat, people still expressed dismay at Walmart’s push to incorporate “digital shelf labels” at roughly half of its 4,600 U.S. stores by 2026. Walmart said it wouldn’t use the labels to enact dynamic pricing. Instead, they’d be used to make its current process of updating price tags easier and quicker.
Is Dynamic Pricing Right for You?
Dynamic pricing is a powerful tool that does offer financial benefits, including revenue optimization and more efficient inventory management. But it can also be a PR nightmare, and add more complexities to a business’s operations and regulatory compliance.
If you’re exploring this or other revenue strategies, you might need an objective third-party point of view. You can get that from McManamon & Co., which provides a number of services for small- and midsize businesses. These include a broad spectrum of consulting services designed to keep you operating at an optimal level.
If you want to learn more or get started right away, call us at 440.892.8900 or contact us online.
Tags: McManamon, small business, small business consulting, small business finances, small business owner | Posted in McManamon & Co., small business, Small business finances