[Pricing Nugget #034] Discounts & Price Increases: the More, the Better

You are responsible for setting prices, and you are also responsible for giving discounts and for communicating about price increases. Usually, you present discounts and price increases as a percentage.

One day you sit at your desk, and you wonder whether the way you do it today – presenting a single percentage number to your customers as a discount or price increase – is the best.

Maybe splitting the discount or price increase into multiple percentage numbers is smarter?

We will find out today.

Let us look at an example.

We can frame our discount as a single discount of 40% or a double discount of 20% with an extra discount of 25%.

The economic value of both discounts is the same. So if you have a single discount of 40%, the price you pay is 60%, 40% off.

If you have a double discount, you pay 80% after the first discount, and the 25% extra discount refers to the reduced base after the first discount.

The extra discount means you get 25% off the remaining price after the first discount of 20%, i.e., 25% of a new base of 80% of the original price. The final price you pay is 60%, i.e., 40% off.

That is the mathematically correct way to calculate stacked discounts or sequential discounts.

However, people are not so good with decimals, fractions, and percentages.

We rely more on whole numbers when doing calculations. This "whole number dominance" explains how we do simple math.

In our case here, people neglect the base when adding percentages.

The single discount of 40% is perceived, of course, as 40%, but the double discount is perceived as 45% because people apply a simple heuristic and only add up percentages.

They add up 20% and 25% and do not recognize that the extra discount of 25% refers to a smaller base.

If you have the chance to split up your single discount into double discounts of the same economic value, customers perceive it as more attractive.

A real-life study.

The researchers ran a real-life study and cooperated with a small upscale kitchen appliance store.

In this experiment, they put Totally Bamboo cutting boards into a promotion.

The researchers set up the first promotion, giving a single discount of 40% for two weeks. Two weeks later, they ran a similar promotion with double discounts of 20% and 25% also for two weeks.

To balance the order of discounts, they did the same experiment half a year later. But this time, the researchers offered double discounts first and ran a promotion with a single discount afterward.

They found out that the number of purchasers, the sales volume, the revenue, and the profit increased when offering a double discount instead of a single discount of the same economic value.

But guess what? The same also applies to price increases.

We also have a positive effect on price increases if customers use a simple heuristic of adding up percentages.

Assuming we have a single price increase of 62.5% (I know it is a bit dramatic, but let us stay with this example as this has been used in the study).

The economic equivalent value framed as a double price increase would be a 25% price increase plus a 30% price increase.

The researchers found that customers prefer a double price increase over a single price increase because the perceived number is smaller when simply adding up percentages: 55% based on a base value neglect calculation compared to 62.5%.

What did the researchers find out?

Comparing the separated willingness to pay through the packaged willingness to pay, they found out that in the separated format, the willingness to pay is about 4.6% higher for the same ancillary services.

What did we learn?

Today we learned that customers simply add up percentages and neglect the base these percentages refer to (the "base value neglect" effect).

We saw how we could use it to frame discounts and price increases.

In our case, we learned that customers perceive a double price increase or price discount as better – i.e., lower (price increase) or higher (price discount) – than a single price increase or price discount.