Letting the customers pay whatever they wish

Should a company let its customers pay whatever they wish (including nothing!) for their purchases?

Or, is it wise for a company to give the customer a non-payment option for a product or service they buy?

I bet you say, ‘no way!’

However, the research says the contrary: It has been proven that, if the customers can choose to pay whatever price they want for their purchases, including zero dollars, the profits of the companies may increase!

Hence, some companies started adopting this new pricing method, which is called ‘Pay What You Want (PWYW)’ pricing and accepting whatever is paid by the clients.

Participative Pricing System

Actually, this Pay What You Want (PWYW) is one of the pricing methods within the Participative Pricing System – a pricing system that enables the integration of consumers into the price-setting process. As opposed to the traditional Non-Participative Pricing System in which seller determines the price and posts it, the Participative Pricing System integrates the clients into pricing by granting them control over the price.

Participative Pricing System comes with several options. The options change with the type of interaction and the number of buyers and sellers involved in the transaction. Consequently, the Participative Pricing System is categorized under two main sections, namely, horizontal interaction and one-to-one interaction.

In ‘horizontal interaction’ pricing, which is rather familiar to us, several buyers and/or several sellers engage for a transaction and bid for the best price. Examples of horizontal interaction pricing are auctions, reverse-auctions and exchanges. In auctions, there are multiple potential buyers who compete by increasing bids to buy a product from a single seller where the highest bidder becomes the actual buyer. Whereas in reverse-auctions, multiple potential sellers compete by decreasing bids to sell a product to a single buyer where the lowest bidder becomes the actual seller. Finally, in exchanges, multiple sellers and buyers compete on both sides of the market and the transaction is enacted when bid and offer prices match (Figure 1).

Figure 1: Participative Pricing Mechanisms with Horizontal Interaction

Adapted from: Kim et al., 2009

In ‘one-to-one interaction’ pricing there is only one seller and one buyer. The examples of one-to-one interaction pricing are negotiation, name your own price (NYOP) and pay what you want (PWYW). Again, negotiation and name your own price are methods familiar to us. In ‘negotiation’, the buyer and seller bargain over the price for the product. ‘Name your own price (NYOP)’ is an extension of negotiation, as the seller has an undisclosed threshold minimum price in his/her mind (e.g. the cost plus a premium) and the customer’s bid should be equal to or higher than this undisclosed threshold price for the transaction to occur. However, in pay what you want (PWYW), the buyer is free to set any price above or equal to zero, and the seller has to accept it! So, in PWYW method, the seller does not have the right to refuse to sell its product even if the price offered by the buyer is zero. Thus, in PWYW, the buyer’s control over the price is at its maximum level. (Figure 2)

Figure 2: Participative Pricing Mechanisms with One-to-One Interaction

Adapted from: Kim et al., 2009

Merits of Pay What You Want

Although the PWYW is open to customer abuse as it grants the non-payment option to the buyer (which may result in a mispricing below the costs or even non-payment), findings indicate that buyers do not always exploit the pricing mechanism and the profitability of the companies can be enhanced.

The theoretical explanation is as follows: Revenues generated by PWYW depends on the price determined by the customer’s direct valuation of the products. As the products are created by the resources used by the companies, the PWYW reinforces the effective and efficient utilization of resources. In other words, through PWYW, customers rate and praise (or vilify) the value of the product by offering the price that they believe appropriate which provides feed-back to companies in directing and allocating their resources towards creating offerings that are valued more by customers. Thus, PWYW can be used to enhance the usage of right resources effectively and efficiently as PWYW provides automatic reinforcement through higher prices and higher revenues for better outcomes. Hence, through PWYW, the customers can ‘teach’ the companies what they value, which will in turn enhance the usage of right resources efficiently. Consequently, higher efficiency increases profitability.

Of course, PWYW is not applicable to all products. If you try to sell automobiles, houses, computers, furniture, etc. by PWYW method, you may go out of business fairly quickly. Yet empirical findings indicate that the PWYW method performs better when used for (1) services, (2) certain standard convenience goods or (3) the complementary products that are given free or bundled with the main offering.

For example, a delicatessen in Frankfurt which was selling snacks and refreshments like sandwiches, salads, chocolate, wine, cold and hot beverages announced a special promotion to its customers in which the customers could pay whatever they wanted for the hot beverages. Under this promotion, which is a simple application of PWYW, the average price for the hot beverages increased by 10.16% - from €1.75 to €1.94 and the bi-weekly revenue of the delicatessen increased by 3.14% from €1,529.20 to €1,577.14.

In another case, a Persian restaurant, again in downtown Frankfurt, which was offering a fixed-menu-lunch-buffet for €7.99 shifted to PWYW. This time although the average price of the buffet decreased to €6.44, biweekly revenue of the restaurant soared by 32.35% - from €1,254.43 to €1,660.26.

Do you know how many times you paid something even though you did not have to?

I can hear you saying: ‘This cannot work in the long run. Whenever people become aware that they are not required to pay, they will not continue to pay.’

What if I tell you, you actually did pay so many times voluntarily and willingly, even though you knew that you did not have to!

And I insist that you will continue to pay, knowing that you do not have to pay…

Are you puzzled?

Then think of the times you left a tip in a restaurant!

… and I bet, you will continue to drop tips even though you know that you don’t have to!

References

Hunt, S. D. and Morgan, R. M. 1996. ‘The Resource-Advantage Theory of Competition: Dynamics, Path Dependencies, and Evolutionary Dimensions’, Journal of Marketing, Vol. 60 (October 1996), pp. 107-114.

Kim, J., Natter, M., and Spann, M. 2009. ‘Pay What You Want: A New Participative Pricing Mechanism’, Journal of Marketing, Vol. 73, (January 2009), pp. 45–58.

Kaufmann, K. and Manuel, S. 2014. ‘The impact of buyer-seller relationships and reference prices on the effectiveness of the pay what you want pricing mechanism.’ Marketing Letters. Dec, Vol. 25 Issue 4, pp. 409-423.

Riener, G., and Traxler, C. 2012. ‘Norms, moods, and free lunch: Longitudinal evidence on payments from a pay-what-you-want restaurant.’ The Journal of Socio-Economics, 41(4), pp. 476–483.

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