Managing price expectations through product overlap

John T. Gourville and Youngme Moon

How should a retailer think about carrying, pricing, and promoting products that overlap with another store? For some, the answer is straightforward. If a retailer is the low-cost provider, perhaps through economies of scale, the carrying of overlapping products and the ability for consumer to easily compare prices on those products may be a great competitive advantage.

Unfortunately, most retailers are not “the low-cost provider” and, instead, need to compete on such non-price factors as location, service, product quality, or product assortment. But as the ability to compare prices across stores increases, driven greatly by the steady growth of the Internet, the concern is that even these retailers will be forced to compete on price, resulting in products being bid down to marginal cost.

The result? Current wisdom in the academic, managerial, and public press suggests that such retailers should look to carry an ever-increasing percentage of unique or non-overlapping products, thereby eliminating the ability to compare prices across stores, or should look to make such price comparisons difficult.

In this paper, we challenge these generally accepted recommendations and argue that overlapping products allow at least one class of retailer—the higher-end retailer—to signal the fairness of its prices and foster a more favorable price image than might otherwise exist.

To make this point, consider two consumer electronics stores—a large discount retailer and a higher-end, boutique retailer. Imagine that you are shopping in one or the other and notice a $400 digital camera. You like its features and consider buying it. Prior to making the purchase, however, you notice that the store also carries a DVD player with a non-sale price of $149. You recently purchased the same model at Circuit City at the non-sale price of $139. What do you do?

Our prediction is that one’s behavior will differ depending on which of the two stores you are in. In particular, whereas a consumer’s prior expectation for the large discount store might be that prices are as low or lower than in most other stores, her prior for the higher-end, boutique retailer might be that she is paying a significant price premium for a more upscale product assortment, a nicer atmosphere, or a higher level of service. As a consequence, finding a DVD player that is priced $10 more than in a benchmark store can have far different implications for the two types of retailers. For the discount retailer, it may create doubt, providing evidence that the store is more expensive than otherwise anticipated. For the boutique retailer, however, the same $10 price difference can be reassuring, providing evidence that the price premium being paid is smaller than expected.

In a well-controlled laboratory study, we show this to be the case. We presented 198 subjects with a wine-shopping scenario in which they saw advertisements for two different wine stores—Store A and Store B— with each ad listing the names and prices of five wines. We manipulated price expectations through the price points of competing stores. In one condition, both Store A and Store B promoted wines that were low to medium-priced. But in a second condition, Store B promoted wines at a much higher price point than Store A. We also manipulated whether any wines overlapped between the two stores (no vs. yes) and, if so, at what price differential (i.e., $1 less in Store B vs. no difference vs. $1 more in Store B). We then asked subjects to assess which store had fairer prices and which store they would choose to shop in.

As conventional wisdom would suggest, when Store A and Store B both advertised low to medium-priced wines, the existence of overlapping products only benefited the store that was less expensive on those wines. However, when Store B advertised a set of wines that was at a much higher price point than Store A, the existence of overlapping products never hurt the perceived pricing fairness of Store B. Indeed, Store B benefited significantly from overlap when it was less expensive and when it was the same price, and it was not harmed when it was slightly more expensive on these overlapping products.

Importantly, a consumer’s category expertise moderated this interaction. For relative novices in the product category, the beneficial effect of product overlap was magnified to the point were product overlap always helped the higher-end retailer, regardless of whether the overlapping wines were $1 less expensive, the same price, or $1 more expensive.

From this we conclude that for a higher-end retailer, product overlap can be used to signal that prices are more reasonable than might otherwise be expected. Specifically, we argue that the widely accepted recommendation to increase the cost of price-based search or to carry increasingly differentiated product lines is much too broad. In fact, a higher-end retailer may very well benefit from doing exactly the opposite—i.e., purposefully carrying products that overlap with competing stores and making the prices of those products transparent to consumers.