Dynamic Pricing: A Comprehensive Guide for Retail and eCom in 2023

A Practical Guide - 2023 For eCommerce And Retail

1) What is Dynamic Pricing?
2) Eight dynamic pricing strategies for enhancing profit and sales across online and offline retail channels (and for sustaining profitability amidst periods of heightened turbulence).
3) The role of dynamic pricing in averting direct losses for retailers.
4) Examining myths surrounding dynamic pricing and its true function in retail.
5) How artificial intelligence manages pricing for major online stores and retail chains.
6) An example of an advanced AI-powered dynamic pricing platform for retail and eCommerce.

What is Dynamic Pricing?

Dynamic pricing is a system of non-static prices that empowers a company to extract higher profits, achieve a greater volume of sales, and reduce direct losses (particularly relevant during periods of instability and large fluctuations in demand).
How it works:

Algorithms flexibly and promptly adjust prices according to market changes (demand, competitive landscape, supply) and company's internal factors (cost prices, stocks, business strategy in a particular market).
Depending on their objectives, the companies achieve growth in profits, sales, customer loyalty, consumer traffic.

Dynamic pricing is based on two fundamental principles:

1 - Real-time sensing of demand, current offers of competitors, changes in the company's internal data, including the mutual influence of substitutes and complementary products.
2 - Automatic price adjustments based on gathered data: prices are altered to ensure the company attains maximum profits (or the greatest feasible sales volume, if it is the set goal).

How To Optimize Your Pricing — Eight Dynamic Pricing Strategies For Retail And eCommerce

Major retailers and eCommerce companies initiated the adoption of dynamic pricing over a decade ago.

We have highlighted below eight prevalent methods for augmenting revenue and gross profit through the utilization of dynamic pricing.

1) Dynamic Price Segmentation

With the Price Segmentation Strategy (also referred to as Segmented Pricing), a retail chain or eCommerce organization can offer varied prices to each distinct customer segment.
Non-experts often associate dynamic pricing specifically with the Price Segmentation strategy.
A majority of the "dynamic pricing scandals" emerged as a consequence of flawed or inaccurate implementation of Segmented Pricing.
For instance, there are stories online about how a regular customer of an online store inadvertently discovered that their "exclusive personal low price" was substantially higher than the standard price accessible to other customers. Another narrative involves two friends booking flights, only to realize that an Android user was presented with a lower price than an iOS user. Similar cases have surfaced regarding taxi passengers.

Such practices are typically labeled as "price discrimination"; we will delve into this issue in greater detail toward the end of the article.
Nonetheless, in actuality, Price Segmentation is seldom related to "discrimination."
Segmented Pricing proves advantageous for nearly any retail or eCommerce company:

The more closely a price offer aligns with a client's individual needs, the more that client purchases, and the more probable it becomes that the client will return for subsequent purchases.
Special prices tailored to each customer segment are particularly pertinent for:
  • Retail companies with inherent customer segmentation.
    Wholesale buyers and retail consumers.
    Individuals and businesses.
    Small and large quantity wholesale buyers.
    Customers with a loyalty card and those without.
    Customers with varying levels of loyalty cards.
    Customers who have spent a certain amount within a specified period.

  • Retail companies whose clientele exhibit diverse price preferences,
    meaning some customers predominantly purchase high-end products, while others favor budget-friendly brands.

  • Retail companies selling intensely competitive products with manufacturer-imposed price restrictions,
    such as recommended retail price (RRP) or minimum advertised price (MAP).

  • Retail companies whose strategy includes promoting a mobile application or increasing the number of purchases through a personal account on the website.

An online garden machinery store launched dynamic personalized pricing within customers' personal accounts, dubbed "Secret Prices with a Promo Code."

The website displayed the standard price, ensuring competitors remained unaware of the "Secret Low Prices" and mitigating the risk of initiating a "price war." Customers could view their personal special offers exclusively in their account, after entering the promo code from the invitation email.

A dynamic pricing solution recalculated the "Secret Special Prices" fully automatically, adhering to complex and flexible pricing rules established by the store's pricing experts. For instance, when a product's inventory was depleted and the store received a higher-cost batch, the "Secret Price" was adjusted based on the new cost of goods to avert company losses.
If the updated price was no longer competitive and enticing, the dynamic pricing solution automatically removed the SKU from the "Secret Sale." This was preempting conflicts with customers who might argue, "You're offering me a regular price, not a special one! You're trying to charge me high by pretending it's a sale."

2) Dynamic Competitive Pricing

Dynamic competitive pricing is an approach that yields immediate results: enhancement of gross profit and sales growth.

Competitive pricing drives sales growth within the initial days following implementation.
How Dynamic Competitive Pricing works in eCommerce / retail companies:

You pinpoint key competitors within each market and establish a pricing strategy tailored to that market.
You launch an automated process for collecting competitors' pricing data.
You input pricing rules into the dynamic pricing system.
As your competitors modify their prices, the system automatically adjusts yours in alignment with your target market price positioning.

For instance, in a specific city and for certain SKUs, your target price position is to be the second-lowest among your competitors. When your competitors alter their prices, you aim to maintain your price at the intended position. State-of-the-art dynamic pricing systems can effortlessly accomplish this task.
In terms of software, dynamic competitive pricing necessitates three components of varying complexity.

Component 1. Collection of competitors' prices (parsing); the most straightforward component. There is an array of ready-to-use solutions and vendors offering tools for gathering prices from both brick-and-mortar stores and online platforms.

Component 2. Rule-based automated pricing.
While effective rule-based competitive pricing does not call for complex algorithms, the flexibility of settings is essential. In practice, any retail/ecommerce business deals with rather intricate pricing scenarios. You can examine a few prevalent examples of such scenarios here: COMPETITIVE PRICING SCENARIOS.
Additionally, here is an example of a dynamic pricing solution with highly adaptable settings: COMPETITIVE PRICING SOLUTION.

Component 3. Identification of key competitors.
Key competitors are those retailers whose price fluctuations significantly impact your store's sales. By analyzing data using machine learning algorithms, a modern dynamic pricing engine can automatically pinpoint key competitors for each SKU. For more information on such algorithms, please refer to this resource: Key Competitors Automatic Identification.
On the internet, one can find instances of unsuccessful implementations of dynamic competitive pricing.

"Two booksellers using Amazon's algorithmic pricing to ensure they were generating marginally more revenue than their main competitor ended up pushing the price of a book on evolutionary biology -- Peter Lawrence's The Making of a Fly -- to $23,698,655.93"
(a sourse: wired.com/2011/04/amazon-flies-24-million/)
One bookseller employed a strategy where the price of the book should be calculated according to the rule "competitor's price + 27%."
The second retailer established a different pricing rule. When the competitor's offer changed, the price was automatically recalculated and set at 1% more than the competitor's one. As a result, the book's price escalated until it reached $23.6 million.

There are warnings about price wars, where several ecommerce shops engage in an automated battle to offer the lowest price. Consequently, the profit margins for the entire market plummet to zero.

Nonetheless, quality pricing solutions can effortlessly prevent such adverse effects.

Leading dynamic pricing platforms offer highly flexible pricing rule settings. With such software, to prevent losses and erroneously high prices, one simply needs to establish upper and lower limits for the permissible margin.

The lowest price strategy is seldom necessary. Even for KVIs, the second-lowest price is often adequate; more information can be found here: The optimal price position for KVIs. Therefore, the root cause of price wars is the incorrect strategy and improper configuration of automated rules, rather than dynamic competitive pricing itself.

3) Dynamic Zone Pricing

Zone Pricing is a pricing strategy that treats each location as a distinct market, with a tailored pricing approach. Typically, Zone Pricing is vital for:

Retail chains, including multichannel ones and those situated in multiple cities.
E-commerce stores that deliver goods across various geographic areas, including those with warehouses solely in their headquarters city.

Without zone pricing and with the same SKU's price for each location, a retail or e-commerce company risks losing customers and profits. For most SKUs, or even the entire assortment, the market environment in two different cities tends to differ significantly:
  • In city A, you are the only vendor offering product X, enabling you to sell it at a favorable markup.
    In city B, the same product X is sold by 10 additional stores besides yours. Your price will be "in the market" in city B with only a minimal margin.
    Charging the same price for X in both cities A and B will result in lost profits in either one or both cities.
  • The list of competitors, the assortment overlap with competitors, competitors' prices for your goods or substitute goods — all of these factors vary from city to city.
With Dynamic Zone Pricing, a retailer or e-commerce shop can significantly boost sales and profits by taking into account the unique characteristics of local demand, supply, competition, and logistics for each SKU in every specific location.
An online store specializing in garden machinery had a warehouse exclusively in its headquarters city but delivered goods to numerous geographic areas. The retailer started offering discounts to customers living farther away to compete more effectively with their local stores. Consequently, regional sales rose to 70% of total sales.
For more information on how to implement Dynamic Zone Pricing and how it functions, refer to: ZONE PRICING.
Zone Pricing
Leading optical retailer implemented Zone Pricing approach and increased sales by 32% with Imprice

4) Dynamic KVI Pricing

"Almost 70% of respondents prioritise getting the best deal when shopping either in-store or online."
PwC, December 2021 Global Consumer Insights Pulse Survey,
"More US consumers reported switching to different brands and retailers in 2022 than at any time since the beginning of the pandemic — and most of them say they intend to incorporate that behavior into their routines. Their reasons? With inflation at a record high, more people are looking for value; price is at the top of the list of consumers' motivations for switching."
McKinsey, May 2022, How US consumers are feeling, shopping, and spending—and what it means for companies, mckinsey.com/business-functions/growth-marketing-and-sales/our-insights/how-us-consumers-are-feeling-shopping-and-spending-and-what-it-means-for-companies
In today's market, offering an appealing price is a crucial factor in motivating consumers to make purchases in a specific store. However, employing a strategy of having the lowest price for every SKU is evidently hazardous, as it can lead retailers to financial ruin.

To address this issue, retailers and e-commerce shops establish their "good deal prices" reputation and manage profitable growth by utilizing a KVI Pricing Strategy.

KVIs (Key Value Items) comprise a selection of goods that simultaneously fulfill several vital functions for a store:
  • 1
    Shape consumer price perception:
    Customers are inclined to notice, compare, and remember KVI prices. A store's price category, such as "exorbitantly expensive" or "offering excellent prices," is determined by KVI prices.
  • 2
    Influence consumer assortment perception:
    Based on the availability of KVIs in a store, a shopper classifies the shop as either "the ideal place where I typically find everything I need" or "a store with only half the items I require; I'll visit this store as a last resort."
  • 3
    Drive traffic to store:
    By offering enticing prices for KVIs, a store attracts new customers and enhances conversion rates for purchases.
Reducing KVIs prices attracts new shoppers and increases conversion to purchase; consumers make decisions easier and faster with a low price. Consequently, sales and gross profit increase.

If a retailer lacks certain KVIs in its assortment, it risks losing customers as they turn to competing stores.
Where can a retailer (or e-commerce shop) recover its margin elsewhere in the assortment, and on which SKUs can it charge higher prices? Such SKUs exhibit the following traits:
  • Price fluctuations of these goods are not critical in determining whether to buy or where to buy.
  • Shoppers have limited awareness of the market price of these SKUs and their substitutes.
Complementary goods and impulse items often hold the potential for increased margins.

Today, the list of KVIs is no longer static, as it was a decade ago, and tends to change significantly within a week or even a day. Owing to the growing complexity of KVI Pricing, e-commerce companies and retailers have started investing in dynamic pricing solutions.
A dynamic pricing platform can assist in pricing KVIs efficiently through:
  • Rule-based competitive dynamic KVI Pricing.
  • AI-driven automatic KVIs Identification.
  • AI-driven calculation of the optimal competitive price position for each KVI.
  • AI-driven Key Competitors automatic identification.
  • AI-driven automatic identification of SKUs, which prices can be raised to recover the retailer's margin.
You can find more information about how to launch Dynamic KVI Pricing and how it works here: KVI PRICING.
KVI Pricing
Supermarket chain turns to data-driven KVI pricing to add value to consumers and increase profits

5) Demand-based Dynamic Pricing

Dynamic demand-based pricing takes into account current customer demand and its fluctuations, adjusting prices accordingly.
Demand-based pricing approach is applicable to the following segments of the assortment:
SKUs without MAP (minimum advertised price),
"foreground" group — infrequently bought items, that do not drive price perception,
"background" group — rarely bought long-tail items, that do not drive price perception.

The approach is not suitable for KVIs.
Is it certain that the price of each specific SKU is optimal, and that your company maximizes profits daily in each market?

What if customers are not concerned if the price of item X increases by 1%? In this case, your store would sell the same quantity, but the sales margin would significantly rise.

What if the price of another item is too high for consumers? By slightly reducing the price, your store could boost sales.
There are two approaches to optimizing retail prices for foreground and background items.

Approach 1 — Rule-based dynamic pricing.
If a retail / eCommerce company optimizes its pricing from a low base — for example, price calculations are based on a system of fixed markups and scheduled promotions — then, with an agile rule-based dynamic pricing system, pricing experiments can provide impressive growth.

How it works:
A pricing specialist identifies segments and groups of items with profit growth potential, relying on their experience and intuition.
They develop specialized dynamic pricing rules for these segments and input them into a dynamic pricing platform.
They monitor the results, searching for the optimal price.

Note that high agility of the rules settings and powerful analytics tools are crucial for pricing efficiency in this case.

Advantage of the method: The pricing specialist maintains complete control over the pricing process and manages any changes.
Disadvantage of the method: With the rule-based approach, it becomes challenging to consider all the critical factors that influence pricing efficiency, particularly the relationship of SKUs within a category, such as product cannibalization, substitutes, complementary goods, traffic drivers, and profit drivers.

Approach 2 — Machine learning algorithms for fully automated assortment-level dynamic pricing. Price optimization, based on demand sensing.

Assortment-level automatic price optimization maximizes a chosen criterion — gross profit, revenue, or sales volume in pieces. AI-driven algorithms identify the optimal set of prices under prevailing conditions. The resulting optimal price set enables retail or eCommerce companies to achieve maximum gross profit, revenue, or sales volume at the assortment level.

Machine learning algorithms assess cross-impacts among products and then segment items based on their roles in consumer baskets: basket drivers, traffic drivers, profit drivers, complementary goods, substitutes, and more. Each segment receives an optimal pricing strategy aligned with the retailer's business goals. Such solutions also enable retailers to optimize prices for specific product categories and swiftly determine optimal prices for new items.

Advantage 1 of the method: The approach helps avoid product cannibalization within categories and consider the cross elasticity of items.

Advantage 2 of the method: AI-driven algorithms help identify situations where competitive pricing falls short. This occurs when all competitors err by setting prices too high from a consumer perspective, resulting in diminished willingness to pay and disappearing demand.
Algorithms assist retailers in finding a new optimal price and reigniting retail demand.

Advantage 3 of the method: readily detect short-term demand surges due to temporary product shortages or unforeseen spikes in demand. In such cases, the pricing solution promptly raises the price of relevant SKUs and maintains it until demand normalizes.
This approach significantly enhances retailers' gross profit.
You can explore an example of such a success story here: CASE STUDY

Advantage 4 of the method: Assortment-level automatic price optimization substantially boosts profits for both brick-and-mortar stores and eCommerce shops. Generally, eCommerce stores experience faster gross profit growth compared to offline stores, as they can adjust prices more easily and rapidly.
For more information on implementing AI-powered Demand-based Dynamic Pricing and how it works, visit: AI-DRIVEN PRICE OPTIMIZATION.
AI-driven Price Optimization
Leading eBook retailer hits +8% growth in revenue
Demand-based Dynamic Pricing
Hypermarket chain automates pricing by leveraging artificial intelligence to stay on top of competition

6) Inventory Turnover Dynamic Pricing

The approach is crucial for stores with a broad assortment, low turnover ratio, and overstocking issues.
In a relatively short time, dynamic pricing helps reduce excess stock, eliminating unpopular items from the assortment, free up the capital for new items, while preserving marginality as much as possible.
The retail company analysed its inventory balance and detected excess stock.

In an effort to eliminate overstocks, one store initiated a "total sale" offering discounts of 70% off the original cost.

In another store, they implemented several tiers of discounts based on the duration of the item's presence in the inventory. This store sold 85% of the items at discounts of 20%, 30%, and 50%, only having to sell the remaining 15% of the goods at the maximum discount of 70%.

Consequently, the first store lost profit on 85% of the items.
Moreover, dynamic pricing solutions enable retailers to minimize the risk of overstocking. Analytical tools facilitate inventory tracking and the identification of SKUs that should not be reordered in the future.

You can find an example of dynamic pricing solution with Inventory Turnover Module here: DYNAMIC PRICING PLATFORM.

7) Stock-Based Dynamic Pricing

Some online retailers and retail chains deliver goods directly to consumers from suppliers' warehouses. In certain cases, multiple suppliers offer the same item at identical or varying prices.
This type of partnership yields numerous advantages and benefits, but it also introduces some challenges.

When items are available from several suppliers, promptly selecting the optimal warehouse for current conditions can be a complex task.
When one supplier's inventory is depleted and the store starts shipping from another supplier's warehouse, the prices between the first and second suppliers may differ. If the second supplier's price is higher and the store maintains its consumer pricing, the margin could be significantly reduced, potentially resulting in a loss, especially during promotions.
How Stock-Based Dynamic Pricing works:
  • The pricing system automatically updates inventory balance data, obtaining information from your ERP system.
  • Pricing system predicts the number of days the stock will last.
  • When the inventory balance reaches a predetermined value or the warehouse is changed, algorithms automatically adjust the price to the optimal level in accordance with set pricing rules and restrictions, and then automatically upload the new price to your ERP and website

    The criteria for optimality depends on set goals
    Sustain the assortment until the next arrival.
    Maximize profits.
    Avert a critical decrease in margin or sales at a loss.
You can find an example of dynamic pricing solution with Stock-Based Module here: DYNAMIC PRICING PLATFORM.

8) Time-Based Dynamic Pricing

What is Time Pricing:
A retail or eCommerce company identifies periods when short-term price adjustments can significantly boost sales or profits, effectively capitalizing on such opportunities.

The most prevalent types of time pricing include:
  • Markdowns, sales, promotions, Black Fridays.
  • Time-limited agreements with suppliers.
  • Circumventing suppliers' price restrictions.
  • Night prices. For example, from 23.00 to 6.00, prices automatically increase and at 6.00 switch back to regular prices.
  • Weekend prices.
  • Prices for periods of surge demand.
  • Prices for a major city event period.
For more information on how to implement Time-Based Dynamic Pricing and how it enables retailers to enhance their profits, visit: DYNAMIC TIME PRICING.

Dynamic Pricing Challenges: Price Discrimination

The most debated aspect of "dynamic pricing challenges" is psychological, stemming from negative reactions by consumers who encounter what is known as "price discrimination."

Price discrimination is a pricing strategy that aims to sell the same product to different consumers at varying prices, based on individual customer characteristics, such as income and willingness to pay more.
Interesting fact.

In the 19th century, stores did not have price tags, and pricing was determined on a case-by-case basis, depending on a customer's presumed willingness to pay a certain price.
As mentioned earlier, people can become upset when they realize they are being charged more for tickets, hotels, or taxis simply because they own an iPhone.

Users of a popular Yoga app were dissatisfied with the discrepancy in subscription fees and left negative reviews on the App Store.
— I absolutely love this app, but... I use an iPhone, and my husband uses Android. Why is his yearly subscription fee 4 times less than mine? It's really unfair!
However, various forms of price discrimination and dynamic pricing exist that do not lead to scandals or negative outcomes. Examples include social benefits and discounts for less affluent segments of the population or practices that have become commonplace.

Free or discounted parking for locals.
Reduced admission fees to museums and parks for locals.
Ticket discounts for children, students, and seniors.
Additional "for seniors" price tags with lower prices in some grocery stores.

We are not surprised when museum entry fees for foreigners are significantly higher than those for local residents. Note that museums typically employ careful wording, such as "special low price for citizens of [name of the location]" or "discount for residents of [name of the location]," while the price for tourists is labeled "basic" or "regular." This approach helps prevent conflict situations.

We don't get upset if we didn't purchase conference tickets during the pre-sale period at the lowest price. Since we understand how the system works, we'll seize the "early time the best deal" next time if it's important.
If your pricing strategy involves offering different prices based on specific customer characteristics, the following tips can help avoid most conflicts:

Label the highest price of an item as the "Regular price."
Lower personal prices should result from individual discounts provided to customers.
A higher personal price might not cause resentment if it includes special benefits or additional services.

Regardless, it's clear that the dynamic pricing methods discussed in this practical guide for retail and eCommerce companies are not associated with price discrimination. Be sure to bookmark this article for reference when studying and implementing effective pricing strategies!
Talk to Imprice pricing experts: