The Psychology of Price Increases

In last week’s post How to Raise Prices, I referenced two interesting articles on techniques for raising prices, and also suggested using unbundling to differentiate between customers who want maximum value and customers who want minimum price. Today, let’s look at three interesting price increases– Oracle’s list price increases, Apple’s iPhone price “decrease”, and airline surcharges.

Oracle raises list prices by 15% or more
Oracle is making waves with double-digit price increases (see “Oracle increases prices 15 to 20 percent: The joys of pricing power” on CNet), but what does this really mean? Are they really getting customers to pay 15-20% more? Probably not.

Oracle is unusual in the software industry in that they publish a global list price. Most enterprise software companies (Mimiran included) vary pricing by region and don’t publish prices to avoid focusing on price early in the sales cycle. Oracle’s prices and earnings are dollar-denominated, meaning that overseas software sales have been getting cheaper for customers in Europe and Asia, while Oracle’s local expenses have gone up in dollar terms. In other words, a nominal price increase was necessary just to reverse the price decrease brought on the falling dollar.

Second, enterprise software deals rarely close at list price. The price increases provide more room for negotiation. One of the most important aspects of list price changes in B2B environments is how much of the price change flows through to the actual price the customer pays.

Third, the move serves as a nice signal to SAP and other vendors to stop driving prices into the ground.

The software industry is consolidating, especially around Oracle, which has been gobbling up competitors, but they won’t get a real 20% price increase. However, if they end up netting 1 or 2%, that’s still a few hundred million dollars in incremental profit.

Apple’s “Cheaper” iPhone 3G
Apple made a big splash by announcing that their new iPhone would not only support faster 3G internet access and GPS, but would also sell for the magic price point of $199. This represents a $200 price drop, along with more functionality. Isn’t the rapid march of technology amazing? Not so fast. At the same time Steve Jobs announced that he was making the iPhone more affordable, AT&T upped the price of data plans for the iPhone by $10/month. To get the discounting price, customers must commit for 2 years. So you might save $200 up front, but you spend an additional $240 over the next 2 years, and an additional incremental $10/month after that. Basically, Apple and AT&T are financing your iPhone purchase for you with a very high interest payment plan. The beauty of it is that the lower upfront cost only happens once, while the ongoing revenue stream stays as long they can keep the customer. And while everyone who does the math knows that this is actually a price increase, what sticks in consumers’ minds is “wow, an iPhone for $199.”

On the backend, AT&T’s payments to Apple make it a strong pricing move for Apple, as well, and analysts seem bullish on the revenue potential.

Airline Surcharges
And now let’s get to everyone’s favorite pricing punching bag– the airlines. American, United, and other carriers have introduced fees on checked luggage to go along with fees for fuel prices, talking to a person, using curb-side checkin, and buying inedible snacks on planes. Delta also announced fuel surcharges on redeeming frequent flier miles. Naturally, travelers are unhappy. Checking a bag on some carriers will now cost you an extra $15, while the second bag will cost $25. And it’s an extra $50 if you actually want to pick it up at your destination. (Just kidding about that last part.)

While this is irritating for fliers (I’ve heard some say “why are you nickel and diming me?”) the alternative would be to raise prices across the board. Airlines are hemorrhaging money (what else is new?) because of higher fuel prices and the slowing economy. They need to do something, and price increases are an inevitable part of the mix. Flying is going to be more expensive for a while, until jet makers can create much more efficient planes. The next generation will help, but not enough to offset the rise in fuel prices.

Of course, airlines are good at slapping on surcharges. They are not good providing a good customer experience. They haven’t done anything to address the ridiculous “security” procedures. (I’ll save the story of how I accidentally took a swiss army knife in a carry on bag that was hand searched by TSI for another time.) They have taken pillows off planes and charged for “snacks”. Why not work with the government to reduce the unnecessary elements of the security burden? Why not team up with airport restaurants, or even bring in Starbucks or someone similar to allow customers to order onboard food when they checkin? The system might take some work to implement, but it would allow the airlines to bill customers immediately instead of worrying about making change on the plane, allow customers to get some halfway decent food (depends on the airport), and the revenue sharing would probably bring in more incremental profit than the current program. The partners would drop food off before the flight, the airline could keep the hot food hot and the cold food cold and deliver it after take off. The passengers waiting inline for 15 minutes at Starbucks would save 15 minutes. Food revenue per customer would probably go way up, even if the airlines turned the bulk of the revenue over to the partner.