Amazon’s recent takeover of Whole Foods is important for several reasons, especially as an opportunity for the online retailer to experiment with prices in an offline setting. Some media outlets, like Bloomberg, claim that prices have to reach Walmart’s levels. Research from the Journal of Marketing Research suggests that the key challenge for Amazon is to cut select prices just enough to improve Whole Foods’ price perception. A key benefit is that free media coverage enhances Amazon’s own paid marketing in this regard.
Van Heerde, Gijsbrechts, and Pauwels studied exactly these costs and benefits in the Dutch retailing price war. Albert Heijn (AH) initiated by cutting prices across the board and announcing its goal to become cheaper than the average Dutch retailer. Despite competitors matching the price cuts, AH succeeded in improving its price image, without sacrificing its strengths in service and assortment perceptions.
Positive media coverage was partially responsible for future rounds in the price war, which cooled after the media started to focus on the negative aspects for suppliers, employees and the competitor that went out of business. The price war stimulated consumers to reconsider AH, but also helped the hard discounters Aldi and Lidl as the importance of price grew in the minds of the consumers.
How much and for how many products should Amazon cut prices to improve Whole Foods price perception? Previous pricing research shows only a handful of products really count: those for which many consumers are willing and able to remember and react to prices. This list includes frequently bought products (e.g. bread, milk, vegetables) and products making up a large part of the grocery budget (e.g. meat, indulgences). As to the size of the price cut, consumers need not see a large % drop – it is more important the price moves under a psychological dollar threshold. For instance, avocados went from $2.50 to $1.99, almond milk dropped from $3.99 to $2.99 and vine-ripe tomatoes were reduced from $2.99 to $1.99.
Beyond these guidelines though, it is up to Amazon to experiment smartly and get offline pricing right by trial-and-error. In online pricing, the company has come to dominate despite consumers being just a click away from lower prices elsewhere on almost any product. As a colleague remarked “I use Amazon now as a price benchmark tool for categories myself. For any given branded product, Amazon sets the maximum price I feel I should be willing to pay, and beating that price gives me the feeling of a good deal. I’ve noticed over the past two years that I’ve started to buy much more from other websites, and that I’ve used Amazon only as a tool for information search. Which is a dangerous position for them if I’m not just an isolated case (but I might well be).” Indeed, if low prices are not Amazon’s core advantage, continuous testing and learning may well be. As Simon4 concludes “Last month, Amazon bought a laboratory, a network of 456 customer-friendly testing facilities which welcome roughly eight million “volunteers” each week. Amazon’s relentless price testing in the online world anchors its competitive advantage”.
Koen Pauwels is Professor of Marketing, Ozyegin University (Istanbul), and Associate Professor of Business Administration, Tuck School of Business, Dartmouth College.