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We have multiple ways of evaluating prices. These differ in terms of how easy they are for us to do and how accurate they are. Understanding how customers evaluate pricing can help you correctly price your products or services. So, today, we will talk about three simple tactics you can use to maximize your pricing to gain profit.

However, before we delve deeper into that, let’s first cover the three different consumer psychology theories about how customers evaluate pricing. These include internal reference prices, external reference prices, and price images.

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Internal reference prices refer to something happening inside of your head. It’s the expectation you’re bringing to a price evaluation based on your experience. This experience might include previous shopping that you’ve done yourself, any prices you’ve seen in advertisements, any price discussions you’ve had, and prices from related categories you’ve shopped in before. In other words, anything memory related contributes to that internal reference price.

With this evaluation method, you compare that internal expectation to the price offered. If it’s above your expectation, then you evaluate that price as being high or expensive. If it’s below, you assess it as being lower.

Much research has studied what gets pulled up as that internal reference price. It can be almost anything. Therefore, when researchers model this using data, a lot of times, it’s a weighted average of prior prices that you remember. The most recent ones tend to have more importance than prices you saw long ago, but they can all influence you.

By contrast, external reference prices are those you encounter in your environment. For example, if I’m evaluating one brand of milk’s price, the other brands I see in the dairy case are the external reference prices.

These external reference prices are not limited to the dairy case; they do not need to be in the same category. External reference prices can be from the bread aisle or the eggs. For example, you might walk past a bread display and see the prices, and then when you go to evaluate the milk, those bread prices are still in your head. Therefore, you compare those to the milk.

Anytime we talk about context effects, choice architecture, or nudging, it happens at the external reference price level. If I can give you a decoy or a more extreme option, that changes how you evaluate a price.

Sale prices do, too. For example, a 20% markdown or £2 off or $5 off affects your price evaluation. Also, if the price tag says $10 but it’s been marked down to $8, then you compare the sale price to the regular price, which is both external reference prices.

(Moreover, research indicates people evaluate more significant numbers more favorably regarding discounts. Therefore, if your $10 item is marked down $2, it is considered a better deal if it says 20 percent off.)

Price image is the reputation for pricing a brand or retailer has. We also call this the Halo Effect, which is the idea that a brand’s reputation spreads across many other evaluations.

So, Costco has a reputation for low prices. I am familiar with that reputation, so when I hear of something at Costco, I think it must be low-priced because everything at Costco is. However, that isn’t always the case.

I watch this guy, and he has confirmed it:

He said that when you buy there you are not necessarily getting it cheaper, and sometimes you pay more! My podcast partner made that mistake with his wife when he tried to buy milk there, and she informed him that milk at the grocery store was a lower price than that at Costco.

By contrast, Apple has a reputation for high prices. So, when I saw the price of Apple Vision Pro, their augmented reality headset, I expected that it would be expensive, and it was. Also, in electronics, the prices drop over time, so they usually launch with a premium price, so I expected that, too. I thought it would probably be around the same price as the MacBook Air, but it wasn’t. It was much more. All of those things, internal and external, went into my evaluation of the price, and despite my expectation that it would be high, it still was bloody expensive.

Interestingly, I could have all these expectations going into a new product launch. However, you can see how it can happen with my internal references, the external reference of the actual price, and Apple’s price image.

So, how do these things fit together? People like to use two dimensions to evaluate prices: accuracy and ease. In other words, they use internal references for accuracy, and if that isn’t available to them, they will switch to whatever is easiest to evaluate. Accessible evaluations will often be a combination of external reference and price image.

Internal reference prices are usually the most accurate because they tend to have more information. So, if you know the cost of milk from the grocery store, you know how much more Costco’s is.

However, if you don’t know the milk price at the other store, you probably use the price image to decide. Costco has a low-price image, so you might assume the milk price is the lowest. That’s easy.

Using These Principles to Maximize Your Pricing

Unlike milk with a standard size across retailers, other products are harder to compare prices accurately. For example, a jar of pickles at the typical grocery store has a fairly standard size and price. However, it’s difficult to compare a pickle jar that is a few ounces to a Costco-sized pickle jar, which is eight gallons. Costco uses that to its advantage, forcing customers out of their accuracy comparisons into their easy ones. Moreover, since they do not often offer competing brands in different offerings, they strategically move customers into price image evaluations, which usually work out in Costco’s favor.

(Speaking of Pickles, do you want a business problem solved? Contact us here, and we may feature your pickle on the show.)

Costco’s strategy provides a nice segue into using these principles to your pricing benefit. So, as marketers, it’s essential to determine how they decide. Then, you want to consider how you want them to make that decision and if it’s different than what they are doing now. Then, you can create a strategy.

For example, do you have a price image with which to contend? Or is it working in your favor? If not, how can you change that? Suppose your price image is that you are expensive, driving business away. Can you show them external references demonstrating your prices are competitive with the other providers?

It is also essential to recognize that people prefer accuracy when available. Therefore, if you can help provide more accuracy when a customer depends upon a less accurate comparison method, they will help them decide to buy with you. For example, suppose you can provide a quote and competitive ones from two other providers. In that case, you are giving the customers external references that are more accurate than the price image alone.

By anticipating what your customers are using to evaluate, you can optimize how you present pricing information that tilts the scales in your favor.

Colin has conducted numerous educational workshops to inspire and motivate your team. He prides himself on making this fun, humorous, and practical. Speak to Colin and find out more. Click here!