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What Is Differential Pricing and How to Use It

What Is Differential Pricing and How to Use It

July 20, 2021

An effective price tracking strategy offers a wide range of benefits to your business, strengthening your company’s position, streamline your product offering, and maximizing profits. Differential pricing is an integral component of dynamic pricing, allowing you to adjust prices based on different market conditions and circumstances.

Differential pricing is a sophisticated method that benefits almost all businesses if used correctly. It enables you to reach a wider audience, increase your sales, and generate more revenue. It is crucial to develop a differential pricing strategy carefully. Otherwise, you may end up generating less revenue.

Although differential pricing is a part of dynamic pricing, they are different. Differential pricing refers to a product’s price base on customer characteristics, buying behavior, and purchasing patterns. On the other hand, dynamic pricing is pricing set by a company based on the current market conditions and related factors.

Both differential and dynamic pricing lead to increased sales, higher profits, better inventory management, flexibility, and adjusting to the market condition. However, they share some downsides, such as customer dissatisfaction, gaming the system, loss of sales, price fluctuations, and inapplicability in different geographic locations.

Price variations come in numerous forms, such as discounts, coupons, and rebates for a purchase. Thorough knowledge and sophisticated strategy for price management, including differential pricing, enable you to determine what’s best for your business. In today’s article, we will discuss differential pricing. Read on!

What is Differential Pricing?

Differential pricing is a two-price system that focuses on segmented price management, allowing your company to charge different prices for the same product. The purpose is to streamline your business operations and increase revenues based on customers’ demands for the product.

Differential pricing allows for a free market system based on the market demand and supply. In addition, it focuses on a fluctuating price system, leading to optimized price tracking, price matching, and price scraping.

Bear in mind that repricing is an essential part of your differential pricing strategy, enabling you to set different prices for the same product for different customers. Companies often make crucial decisions regularly, but when it comes to analyzing prices, costs, expenses, and profits, they may apply differential pricing to determine their best course of action.

Advantages of Differential Pricing

Price management is crucial because it defines your products’ value for you and your customers. Whether you focus on eCommerce pricing, repricing, price matching, or related operations, it is crucial to develop a solid differential pricing strategy to let your customers know that your products are worth their time and investment. Let’s look at a few advantages of having a differential pricing strategy.

Increased Market Reach

Differential pricing is an essential component of your marketing strategy. One of the 4P’s of your marketing mix is pricing or price management. Price is a crucial element that helps you make an informed decision about your marketing strategy.

For instance, if you have generated enough revenue, you will want to extend your market reach and target more customers. Differential pricing enables you to target a wider audience, engage them with offers and incentives, and boost your overall returns on investments (ROIs).

Because you set different prices for different customers, you give an opportunity for people of different economic classes to try out your product. That’s the beauty of differential pricing because you set different prices for different customers or segments of your target audience.

Remember, more customers mean increased revenue and profits. When you have a high-quality product, your existing customers will do the “word-of-mouth” marketing for your company, leading to boosted customer engagement, loyalty, and ROIs.

Therefore, if you want to broaden your customer base and sell more of your products, you should consider implementing a differential pricing strategy. Increased sales are directly proportional to higher revenues and profits.

Increased Revenues

Businesses are all about increasing their revenues because it is the primary goal every company wants to pursue. Low revenue frequencies mean your business does not flourish on the market, leading to reduced ROIs. A company’s revenue determines its turnover, meaning your business or brand value depends on the generated revenue.

The question is: can you generate or maximize revenue with differential pricing? The answer is “Yes.” For example, Uber is one of the most popular ride-sharing companies worldwide. The company has revolutionized the ride-sharing business model and generated millions of dollars of revenue with differential pricing.

Uber uses the concept of surge pricing and price tracking. The company’s prices go up when there is a high demand from consumers. So, customers pay more for the same ride at a time and pay less when the demand decreases. You can apply the same concept to your eCommerce pricing.

The ultimate objective of each business is to increase sales. However, not all customers can buy your products due to their economic conditions. It means some may purchase your product, and others ignore it.

If you want everyone to try your product, make sure you use differential pricing. That way, most customers will reach out to your company and spend money on your product. Most eCommerce business websites include private-label brands and tops brands to entertain all types of customers.

Better Price Management 

All businesses invest money to streamline their production and related operations. Your investment, also known as the capital, requires careful planning and preparation. You also spend a certain amount on transportation and other avenues of expenditure.

All companies on the market have a similar goal of covering the business costs. Differential pricing is one of the best ways to cover your business costs and implement a sophisticated price management strategy.

We have already mentioned that not all customers can pay the same price for your product. That’s why differential pricing is crucial for your business, allowing everyone to pay different prices per their convenience.

The purpose is to maximize your sales and reap maximum profits. Remember, your company’s products are not restricted to a specific community or high-paying customers. You have to reach out to a broad audience to increase your revenues.

When you have increases sales, you will have better price management, including the efficient and speedy covering of costs. Besides, offering discounts allows you to expand to customers and make your company more attractive to existing and prospective customers.

Streamlined Production

An effective differential pricing strategy is directly proportional to streamlined production. If your products remain on shelves for a long time, you will have reduced revenue generation rates because they don’t sell out. One reason is that your product’s price is too high for consumers, and that’s why they don’t purchase it.

Therefore, you should use differential pricing to overcome such a problem by creating a balance between productions and selling. That way, you can sell your product for different prices and generate more revenue. When you have more profits, you can streamline your production or related operations by investing more money in them.

How to Use Differential Pricing

As stated earlier, differential pricing enables you to set different price points for customers who purchase the same product. Differential pricing, also known as price differentiation or dual-pricing system,” depends on various factors, including location, time of day, the season of the year, and your brand or product. 

Although differential pricing is a common practice in the service sector and eCommerce pricing, many companies that manufacture goods also use such a strategy to set prices based on their clients’ preferences. Here are a few practical tips for using differential pricing. Continue reading!

Identify Market Segments

Segmentation helps businesses to streamline their operations and increase time, money, and resources efficiency. Learning about your customers is essential before you set different prices for your product.

Market Segmentation for Differential Pricing

Source

The purpose is to understand your prospective customers’ needs and wants, leading to customized, tailored, and effective marketing campaigns based on customer segments with a higher likelihood of purchasing your products. 

Therefore, the first step is to identify market segments by considering the price elasticity of demand. You can hire a professional pricing expert and digital marketing team to work as a team. Consider the following things when identifying market segments. 

  • Find your prospective customers based on their needs and wants 
  • Analyze their likes, dislikes, spending behavior
  • Focus on the demographics and lifestyle of your customers 
  • Inspect and analyze the growth potential 
  • Perform a thorough analysis of the risks they can pose to your company 

Develop a Solid Strategy 

Once you have identified market segments, it is time to develop a solid strategy and enforce the scheme. It means using different ways to prevent resale, separate different price groups, and make price comparisons.

It is crucial to focus on the “Rate Fence,” a sophisticated method to set up boundaries and keep the market segments separate. For example, airline companies use differential pricing and charge higher prices for business travelers and discounted prices for tourists.

Understand the concept of elastic and inelastic demand when creating your differential price strategy. Let us continue the airline example for better understanding. An airline company makes the tickets non-transferable to enforce the scheme.

It means a tourist can’t buy a ticket at a discounted price and sell it to a business traveler for a higher price. At the same time, the company prevents business travelers from purchasing tickets at discounts.

Considering the inelastic and elastic consumer demand is an integral part of crafting a solid and profitable differential pricing strategy. For instance, elastic demands occur when people respond to price changes for a particular product or service.

Determine the Type of Differential Pricing You Need

Determining the type of differential pricing is an essential step in developing an effective strategy. We have already explained the significance of identifying customer segments. The difference in pricing is due to numerous market factors.

These include reservations, discounts, loyalty programs, etc. In addition to identifying customer segments, it is crucial to focus on setting a differential pricing strategy based on any of the following factors.

Brand Image 

Do you know a company can have different brand images in different geographic locations? For example, McDonald’s has a steady and strong brand image worldwide. However, a local company in New York may not have a good brand image outside the New York state or the country.

Likewise, a company with a good brand image in one country may not have the same status in another country. Therefore, it will set different prices based on the brand image. Differential pricing is an excellent way to penetrate new markets based on your brand image. You can leverage the power of differential pricing to streamline your business operations.

Products

Many companies have a single product, but it comes in different variations. For example, an air purifier comes with HEPA filters, ionization technology, hydrogen peroxide technology, and UV light technology to destroy pathogens in the indoor space.

Although each product form is different, the design, technology, color, and size within the product itself can determine its price. Thus, you can adopt differential pricing based on the form. For example, you can sell an air purifier with HEPA filters for one price and the one with hydrogen peroxide technology for another price.

Geographic Location

Geographic location is another crucial factor to consider when building a differential pricing strategy. For example, if your company operates in rural areas, you can launch new products or variants of your existing products and increase your prices.

Do you know why? The reason is that you spend a lot of money on transportation of goods to sell it in different rural areas of the country. When your target customers’ location is away from your company, you will set higher prices.

At the same time, you will set a lower price if your target customers are nearby your company. For instance, if your business facility is in Los Angeles, you will set a lower price for your products in California than in Florida.

Thus, differential pricing is an important concept or strategy you can use to sell the same products in different or multiple geographic locations based on the customers’ demands and cost of transportation. Differential pricing is also an effective strategy for multinationalcompanies, playing a substantial role in international selling.

Offer Discounted Prices

Granting volume discounts to your customers is one way to set up differential pricing, allowing you to increase sales and generate more revenue. Differential pricing with discounts increases revenue in a single transaction and grants the customer a lower price per unit.

For example, if you have a small clothing store, you can set a strategy that the customer buys their first product at the regular price and get a 50% discount on the second purchase. That way, you can sell more products by allowing your customers to get bargains. Here are few things to consider:

Group Discounts 

You can offer discounts to a specific group. Although it is unethical to offer preferential pricing to a particular religious, ethnic, or racial group, you can use this strategy to streamline your sales. However, you have to follow an ethical approach.

For example, if you have a small bookstore, you can offer discounted prices to teachers, students, and members of the city library. It means these people will buy books, pens, notebooks, and related items at a discounted price while others will purchase them at a regular price.

Seasonal Discounts 

Seasonal discounts are beneficial for various businesses, including those in the tourism sector. For instance, airlines, resorts, hotels, and restaurants all use this type of dynamic pricing strategy based on the season.

For example, the travel industry dropped its prices during the Covid-19 pandemic when people reduced traveling to protect themselves from getting infected with the novel coronavirus.

However, when businesses had started to reopen, and the government eased restrictions on travel, the travel industry raised its prices due to higher demands. Moreover, an off-season hotel reservation is usually affordable than the one booked for a weekend during the peak tourist season.

Final Words

Differential pricing is an integral part of dynamic pricing, allowing you to set different prices for the same product. However, it is a time-consuming and daunting task for most businesses to develop a strong strategy and increase sales.

You can develop a differential pricing strategy based on market segments, customers’ demands for your product, inelastic and elastic demands, geographic location, seasonal discounts, etc. If you have a new business and want to increase sales, it is worth considering differential pricing. However, we recommend not taking a huge risk.

Therefore, keep things in control and do not let of balancing your strategy. For example, if the production cost of your product is $100 and the selling price is between $75 and $100, you won’t generate higher profits.

On the other hand, if the production or purchase cost is $100 and the selling price is between $120 and $200 based on different factors explained above, in that case, you will generate more revenue and maximize your profits. The tips and tricks given above will help you use the right strategy and streamline your operations, including cost management, price management, repricing, etc.



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