What is Dynamic Pricing and Why is it Important?

Dynamic pricing is an e-commerce and retail strategy that applies variable pricing instead of the more typical fixed pricing. As more data is analyzed, optimal prices for items are calculated. The time between price changes depends upon the business and item, but can be as often as every day, or even every hour.

Dynamic pricing strategy isn’t a new thing. In the past, pricing was influenced solely by demand and supply in a locality. How many people want to buy the product? How much inventory of the product is currently available? Is the item perishable? Will the item be replaced by a newer version at any point in the near future? These are all the types of questions that play a big role in traditional pricing.

Dynamic pricing uses advanced data, including data from some of the previously posed questions. Dynamic pricing is often an automated process that looks at more than just the traditional factors.

Image Source: Jody Claborn

Although the roots of dynamic pricing and the study of price optimization can be traced back as far as a century ago, the practice became popular in mainstream business when American Airlines adopted the practice in the 1980s as a form of revenue management. American Airlines used various factors to determine pricing changes including the date of booking and seat availability. At the time, pricing was mostly based on supply and demand. Today, some of the largest companies in the world including Amazon, Walmart, and Best Buy all employ the strategy in their e-commerce online stores.

Why is Dynamic Pricing Important in E-Commerce?

Dynamic pricing has become critical in e-commerce, mostly due to automation. Where as in a store, employees would have to physically change the pricing on thousands of items (as well as create new pricing display information), online the price of an item can be dynamically adjusted without much cost to the business. Let’s take a look at some of the benefits that dynamic pricing provides to e-commerce businesses:

Image source: Wiser

Quicker, More Profitable Sales

Using the data that you have available for dynamic price optimization allows you to improve conversion rates and find optimal pricing that balances conversion rates and margins.

An ideal way of testing and improving your pricing structure is through Paid Advertising. Online feed advertising forums like Google Shopping provide instantaneous feedback on how the market is reacting to your new price. Conversion Rates, Impressions, Click Throughs and Margins can all be measured and optimized against advertising spend to find the optimum price point in different markets and times.

Ability to Adjust to Competition Pricing

According to a survey by Ask Your Target Market, 79% of consumers stated that they consider themselves to be bargain shoppers. 78% said that they compare prices from multiple sources before making their purchase. Adjusting your prices to stay competitive is important in the online environment, where competition research takes the customer only a few seconds.

This is especially true in feed based advertising where all the products are presented to the shopper side by side. In fact, Google Shopping actually penalizes products that are not competitively priced by giving them a lower position in the ad listing regardless of CPC.

Some of the largest digital retailers in the world, such as Amazon, have implemented dynamic pricing and enjoyed huge benefits. In fact, Amazon started to average more than 2.5 million dynamic price adjustments per day in 2013.

Amazon Average Pricing Changes Per Day. Source: Profitero

 Improved Flexibility

The flexibility of dynamic pricing allows e-commerce businesses to target specific goals in their pricing strategies. Companies can look to increase margins, revenues, and even market share through dynamic pricing strategies.

Improved Trend Understanding

Dynamic pricing allows companies to be more aware of and reactionary toward industry trends. Amazon has capitalized on their large amounts of data and understanding of trends by offering discounts on the most popular items within categories. By ensuring that they have the lowest prices on commonly viewed items, they drive the perception that they offer the lowest prices on across all product categories, whether that is true or not.

Better Inventory Management

Dynamic pricing allows companies to react to changes in inventory. For instance, as their inventory of a particular item dwindles, they can increase the price of the item to reflect that fact. If they have overstocked an item, discounts can be triggered to facilitate a reduction. Dynamic pricing ultimately gives you more control of your inventory.

Higher Upsell Conversion Rates

Dynamic pricing provides e-commerce companies with a lot of data on what their customers are willing to pay for specific items. Many companies underprice an initial purchase to serve as a loss leader for an upsell. Because they have the data on hand to know how the pricing of an item affects the conversion rate of the upsell offer, they can pinpoint optimal pricing for both items that results in maximum conversions and revenue.

Common Dynamic Pricing Strategies

Automated dynamic pricing can take a lot of data into account when setting prices. In fact, the largest retailers use a combination of data in their algorithms to determine the final price of an item. Some of the different data types that can be used in dynamic pricing strategies include:

  • Supply and demand based on locality. As an e-commerce business, the supply and demand of different items may differ based on geography. Looking at these factors, prices can be adopted by country, state, or city.
  • Time-based dynamic pricing. Time can also play a role in dynamic pricing. Consider how bars and pubs offer a happy hour, during which the prices on drinks and food are discounted.
  • Competitor pricing. What are the prices being offered by competitors for the same product? Businesses could ensure that their pricing is always lower, or even raise their price to match inflated competitor pricing.
  • Customer behavior. The way that a customer behaves can also influence pricing. If a customer has come to your website three times and looked at the same product, perhaps a small discount would convince them to buy? Using customer actions to trigger pricing changes can be an excellent way to run tests.
  • Segmented Dynamic Pricing. Customer data can also be used to influence dynamic prices. If a customer has filled out a survey and indicated that they have high levels of income, you can use that information to charge a higher price.
  • Peak pricing. Peak pricing refers to changes in price based on current supply. If your company finds that they are unable to fulfill all requests for a specific product, increasing the price of the item makes sense. For example, Uber uses peak dynamic pricing to increase prices when they are at heavy load, and drivers have too many ride requests to adequately serve each person.

Dynamic pricing allows for a lot of creativity. While automation and machine learning ultimately drive measurable growth, there is an almost unending number of ways that data can be used to influence price.

Dynamic Pricing in eCommerce

Dynamic pricing is one of the most useful tools in the e-commerce toolbox and a logical next step for companies that want to grow revenue and improve conversion rates. The ability to laser-target specific consumers gives companies that employ dynamic pricing a huge edge over the competition. It allows them to be more flexible, and price their inventory for the attainment of specific organizational goals. While dynamic pricing uses data in its implementation, it also produces a large amount of new, useful data that can be used to further inform your pricing strategies.

ABOUT THE AUTHOR


Luke is a Content Marketer at Crealytics

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