Saturday, 16 December 2017

Dynamic Personalised Pricing - what it means to the consumer



On a project recently at a retailer, we broached the idea of dynamic personalised pricing. The basic idea is to identify each customer via facial recognition, using all relevant activities of the customer both online and in bricks and mortar, determine a price for specific items that we would like to offer the customer. The operationalisation would involve informing the customer of this offer and range from app notification, sms/instant messaging...

It’s not that difficult to pull-off, but you need quite a bit of investment in hardware, and ideally some changes to the bricks and mortar layout. The idea, of course, is to increase sales and profits by selling stuff to customers at prices they are likely to accept. However it also means you pay more for your quinoa than I do, since I am most likely less health conscious than you are.
How does that make you feel, as a customer?

Let me first start by explaining how this is viewed in Economics.

Imagine you are on a hot beach, and a financially savvy genie offers you ice-cream. How much are you willing to pay for your first ice-cream? May be $3? How about your second? Well since you would be less hot and thirsty, may be $2.50 since you enjoy the second ice-cream less than the first. And $1.80 for the third since you are starting to get sick of ice-cream...



Let’s say you feel greedy and decide you’d like to buy 3 ice-creams. What price will you pay? In a normal world, you will pay a flat price, and that’s would be $1.80 for each ice-cream. You wouldn’t buy a 4th ice-cream at $1.80 because you’d be willing to pay only say $1.2 for it. The total you pay for the ice-cream is 3x$1.80=$5.40.




But this is a genie world, and the genie would prefer to sell you the first ice-cream at $3, the second at $2.50 and the thirst at $1.80.  Hence you would pay $7.30. The key is that the genie has used his/her powers to understand you r willingness to pay and exploited that. The genie can convince you to buy a 4th ice-cream by selling it to you at $1.20 (as long as the ice-cream costs less than $1.20 to produce the genie is still making higher profits).




Let’s just focus on the 3 ice-creams; in one case you pay $5.40, in the other $7.30. The difference, that is $1.90, is called the consumer surplus in economics. It’s a monetary value of the difference between how much you are willing to pay and how much you do pay. In the normal case you, as consumer, enjoy the consumer surplus, in the genie world he captures the consumer surplus and it becomes ‘genie surplus’.

Things become more interesting if your calorie conscious friend is next to you on the beach. He is only willing to pay $2.40 for the first ice-cream he consumes and $1.80 for the second, $1.00 for the third.



In a normal world, at price of $1.80, you would get 3 ice-creams with a surplus of $1.90 to you, and your friend gets 2 ice-creams with a surplus of $0.60 (he pays $3.60 but would have been willing to pay $4.20). The total surplus consumes enjoy is $2.50 ($1.90 to you, $0.60 to your friend).

The greedy genie eats up your entire surplus and that of your friend by personalising the prices, each one of you pays a different price for each ice-cream.

In Economics, this is called “price discrimination”, setting different prices for the same product to different people/markets. The word “discrimination” has certain connotations and was chosen accordingly.

Why should the genie stop there? He/she is after all a greedy one.

There is no simply no reason for the genie to charge both you and your friend $1.80. For example, he might decide that the heat is a good reason to try and make your friend more appreciative of the joys of ice-cream and sell a third ice-cream to your friend at $1.00. The genie has a plan to nudge your friend away from the calorie counting days to the more indulgent path. For you, the genie decides that you will still buy ice-cream tomorrow anyway, so he shouldn’t decrease the price so much.


Now, you and your friend are paying very different prices. What do you feel? Does it matter? Is the price you are willing to pay for something independent of how much your friend pays?

How about the dynamic piece would you ask?

Now let’s say the temperature goes up. A hot wind has started to blow.

The benefits you derive from the ice-creams increase. It is hotter; you and your friend are now willing to pay 20 cents more for every ice cream.


In ‘old school’ where prices are printed, there’s nothing much the seller can do. So you enjoy $0.60 more of surplus and your friend enjoys $0.40 extra. 

A programmatic system could tie the price of ice-cream to temperature, and the price of ice-cream goes up by $0.20, and the seller captures this increase in your (and your friend’s) willingness to pay by taking advantage of dynamic pricing (think of the supermarkets where prices are electronically set and can be easily changed). There is no personalisation yet.


Every unit is sold at the same price; it’s just that the increase in willingness to pay across the board has allowed the seller to charge 20cents more for every unit. Only the surplus on the last units is completely captured by the seller, the rest deliver the same amount of surplus as previously (because we assumed an increase of $0.2 across the board and the price rose by $0.2 too).


In the world of price discrimination, the supplier can also easily absorb the increase in willingness to pay. How about personalised dynamic pricing?



You can bet the genie will instantly scoop up this extra $1.20 of surplus by selling you the ice-creams at $3.20, $2.70, and $2.00 and your friend at $2.60, $2.00 and $1.20 since he still wants to convert your friend).

The question is how far are we from the genie’s world?

We are already there; as I mentioned at the start, this was part of a discussion with a prospect. (no worries, they didn’t bite. Yet.)

The article by the guardian (1) that inspired this article mentions it is easier to implement dynamic personalised pricing online; that is true, but it is actually not that difficult in the bricks and mortar world too; all that is required is to invest in cameras (security camera feeds can be used). The physical equivalent of hovering your mouse over a product is you spending time looking at that product on the shelves isn’t it? The only thing that needs to be determined is whether the hover is because of the product or because of some distraction (and it is easier from a camera feed).

Where the organisation really can exploit the customer is when you combine online and bricks and mortar behaviour (via customer identification and proper data integration/customer 360/scv...), the organisation can even drive customers to different channels, all this then ends up in the domain of personalised customer journeys.

Most organisations are not at this stage of analytical maturity yet.

So what can you do as a consumer if you do not agree to be exploited/discriminated?

One way out is arbitraging: get your calories counting friend to buy the ice-cream and sell it to you, you’ll both be better off. Another way is to play different providers against each other; find a different genie and compare prices – at this moment price comparison may be expensive, but more and more price aggregators are popping up, making the cost of comparing lower. Store products and take advantage of lower prices...

Hopefully there will still be alternatives to dynamic personalised pricing, going “old school” isn’t a bad idea; in fact one of the competitors to Uber for example is advertising the fact that its prices are predetermined.

(1) https://www.theguardian.com/global/2017/nov/20/dynamic-personalised-pricing





Monday, 16 October 2017

Financial Advisory firms are arguing about furniture while the house is on fire.



A recent article in the business times – Talent war, consumer confusion worry smaller financial advisory firms (1) - makes for interesting reading. To me it’s like arguing about rearranging furniture when the house is on fire.



The article highlights 2 major issues that are affecting Financial Advisory firms:

  1. There is a lot of poaching among FAs and Insurance companies, and such poaching may not add value to customers nor indeed to the organisations themselves. This is exacerbated by ‘traditional agents’ being metamorphosed overnight into ‘advisors’.
  2.  There are many types of Financial Advisories with different incentive structures and this can muddy waters.
            According to the business times, the 5 different business models are:
1                     Exclusive FA - fully owned by an insurer, mainly selling their product
2                     Hybrid FA - wholly owned by an insurer but also offering others’ products
3                     Dominant FA – insurer has majority stake, but offers others’ products
4                     Independent FA – offers products of many insurers
5                     Exempt FIs – banks, insurers, insurance brokers 

What is the common thread? Or rather, what is missing? 

The customer is an afterthought instead of being at the centre.

The way insurance companies, brokers and FAs have been going about their business has not changed. The focus is on the product, on the distribution channels, not on the customer. That is at the core of the problems for existing players in this space, and why this industry is more than ripe for disruption.


Unless the players change their focus, they might not be around for very long.

Let me first tackle the simple problem of poaching.

Most organisation in this space try to be everything to everyone, hence they create many products with slight variations to address slightly different perceived needs customers; this leads to a huge mess of products that do not make it easier for their distribution channels to identify the best option for each customer (2). This is exacerbated by the incentive structures that are also product focused: sell my latest product and get more commission/fees... This is even true within say insurance companies where the different product lines feel they are competing for the limited customer dollar. (Again, note the emphasis is on flogging my product, not necessarily providing what the customer needs.)



Players who at least focus on customer segments are at a huge advantage over the jack of all trades types simply because they have to understand the needs of the segments they choose to go after, and are thus able to design products that suit these segments, and get the distribution channel that is suitable. The suitable distribution channel could be a mix of agency/advisors of the right skill and demographics and remote channels whether web or phone for example.

An organisation that is able to really focus on specific segments will have a natural barrier to poaching. Imagine you are a distributor, why would you, who are at ease serving the segment you are focusing on move to another organisation where the focus is not there, where the customers may not be from the segment you are good at serving, where the products might not be as suited to your preferred segment? After all, a sign-on bonus can only get you that far and you have to start generating revenue sooner rather than later.

Furthermore, as a distributor for an organisation suited for the segment you are good at dealing with you do not have to worry about your customers churning, decreasing persistency, or even avoiding you because the products you offer them have been designed for them. Customers are not stupid.

The advantages of an organisation being focused increase when the organisation becomes truly data driven and able to execute on a segment of 1 basis, total personalisation. In such a case, the needs of the customer could even be anticipated and a combination of modular features put together to create a personalised product at a personalised price. Why would any distributor want to leave on organisation that enables him/her to reach that level?

Poaching is a direct result of organisations that are not focused of specific customer segments, let alone customer centric, but rather focus on products or distribution channels, and this is not a new problem (3). Apparently self-regulation will not be enough this time and there are rumours of MAS intervening as reported in the business times article.

How about the second issue, that of different business models?

The answer is again the same; these different business models exist because they are designed to reward behaviour that favours the organisations or the distributors, not the clients. For example, FAs owned by traditional insurance companies are likely to pay higher commission/fees to the distribution channel if the product of the insurer is sold. Please note that this incentive to the distribution channel is usually paid irrespective of the degree of suitability of the product to the customer.

Basically, any organisation that becomes customer centric will, along its journey, adjust its incentives to reward customer centricity. From my past experience in the industry, I have seen superstar agencies that are showcased and feted. Basically they attained their status via sales volume, irrespective of what was sold. In fact many of them focused almost exclusively on a very narrow set of products. Unless their customers really need only that narrow set of products, they were not serving their customers like superstars should, on the contrary.

Analytics can help design modular features than can be put together to personalise products to the needs of individuals, but unless the organisation is able to consume this data and act on it, unless the distribution channels are incentivised to make use of these functionalities, then the analytics would have been in vain. This is why the Analytical Maturity of an organisation is critical.

Not that many organisations are even ready to start making the move to being customer segment driven, let alone be truly data driven and customer centric. However those who lag behind will be the first to get overtaken by aggressive disruptors.

While the house in on fire, deal with the fire and take steps to ensure no fire can start again, rather than rearranging the furniture, it will burn with your house too.

2                 In fact they might not need to find the best solution for their customers (that’s if they have fiduciary responsibilities, and what supposedly distinguished advisors from agents), they sometimes just need to find a suitable solution (suitability) https://www.assuredretirementgroup.com/investment-advisor-vs-insurance-agent-vs-financial-advisor/