Markets for many standardized products are characterized by considerable price dispersion. Consequently, consumers often face purchase decisions involving uncertainty related to getting the “best” or “lowest” price. To reduce this uncertainty, retailers often communicate to consumers that they have low prices by offering a guarantee that their price is truly a low price on a specific product or a group of products. Typically, this low price guarantee (LPG) offers to refund the difference between a retailer’s offer price and any lower price found in the market and may include an additional penalty.

In academic research signaling theory has been used to examine the effects of LPG, treating it as a marketplace signal that permits consumers to distinguish between low-priced and high-priced retailers. Thus far, findings have been generally consistent with the signaling framework and indicate that exposure to low price signals favorably affect consumer value perceptions and discourage search for lower prices. In this study we examine the role of an important contextual variable, marketplace price dispersion, in consumer evaluations of low price signals. Across two studies we demonstrate that low price signals are likely to favorably affect important consumer outcomes when consumer perceptions of price dispersion are low, but not when they are high. We also demonstrate that retailers who are truly low-priced may be able to overcome the detrimental effect of high market price dispersion and restore a low price signal’s effectiveness by stepping up the penalty or refund level associated with the guarantee. 

Our prediction regarding the moderating effects of perceived price dispersion is based on two complementary lines of reasoning considering consumer perceptions of financial risk. First, when consumers perceive high market price dispersion, they might consider responding to an LPG-accompanied offer to be highly risky, simply because of potentially losing out on a possible bargain by not seeking lower prices. In such instances consumers might rely on LPG as a signal of low prices in case of low, but not high perceived price dispersion. A second possibility is that consumers’ assessment of financial risk involves elaborate consideration of the retailer’s motives. As price dispersion increases, consumers might become more uncertain about the price position of a specific retailer and it becomes more costly to procure such information. Consumers might believe that this situation gives high-priced retailers more of an opportunity to place a false LPG in the market and get away with it, lowering the diagnostic value of the LPG signal.

In our first study, we used an aggressive form of LPG where a retailer explicitly claims to offer the lowest prices on its products. Results from this study demonstrate that a low price signal favorably affects key consumer perceptions when their perception of market price dispersion is low but not when it is high. In addition, the effect of LPG on consumers’ perceptions of offer value is mediated by consumer estimates of lowest market price and perceptions of financial risk.

Our second study replicates these findings with a milder form of LPG and, additionally, shows that higher levels of penalty can help restore a low price signal’s effectiveness when price dispersion is high. Specifically, we find that low price signals with progressively higher levels of penalty (150% refund vs. 100% refund) lead to more favorable consumer responses when perceived price dispersion is high. However, penalty level has no such incremental benefit in case of low perceived price dispersion perhaps because stronger proof of the signal’s ability to help determine the low-priced nature of the retailer is deemed redundant.

Our findings confirm theory-based expectation that consumers are likely to use low price signals as heuristics for low price only when it is less risky for them to do so. This research also provides evidence that consumers might be processing low price signals somewhat rationally. We find that consumers are likely to be more skeptical toward an LPG when perceived price dispersion is higher. Finally, our findings have important implications for low price signal equilibria. It appears that when perceived price dispersion is high, a separating equilibrium can result if low-priced retailers increase the penalty level associated with a low price signal.

Our research yields several implications for retailers. Retailers using an LPG may see more benefit in markets where consumers are not extremely confident of market price estimates. It also seems that an LPG is likely to be more useful when consumers perceive higher financial risk. However, retailers must be aware that an LPG may not significantly affect consumer perceptions in markets with high perceived price variation. This is particularly disadvantageous for retailers who are truly low-priced, since those retailers would want LPG to be particularly effective in such markets. However, our research also shows that retailers who are truly low-priced and who issue LPG with honest intentions need not worry as they can easily restore the guarantee’s effectiveness by raising associated refunds. Finally, our findings indicate that high-priced retailers may be able to effectively use an LPG when consumers do not perceive high market price dispersion. This puts low-priced retailers in such markets at a disadvantage and an additional way in which the low-priced retailers might be able to counter this problem is by providing information about local competitors’ prices to consumers.