As anyone who has purchased an airline ticket online can attest, published prices are a relic of days gone by. Adjusting prices in real time to reflect continuous changes in consumer demand and changing understanding of underlying supply costs—or dynamic pricing—has become increasingly common.
In the payments industry, those that get ahead of the competition in offering adjusted pricing have the opportunity to enjoy substantial benefits.
Pricing in financial services and payments has become steadily more precise over the past few decades, driven primarily by more robust and precise segmentation of consumers. These improvements have been possible due to better information that helps predict true costs—think of the effect consumer credit scores have on auto insurance, or real-time credit scoring in consumer lending. But these improvements are still static, enabling better fixed prices for the acceptance of risk or the extension of credit.
Take, for example, the consumer credit card industry. As the industry has come under increased regulatory scrutiny over traditional sources of exception fee revenue, such as late payment fees, Over-the-Limit fees, etc., leaders are enhancing underwriting processes to maintain margins by pricing risk more accurately. Traditional pricing is characterized by risk assessment at the point of acquisition; the main objective is to match customers to a specific product in a static portfolio of products. Each product is often characterized by “fixed” features such as APR, credit limit, etc. What this risk assessment exercise fails to take into account is the dynamic nature of customers’ risk profiles, as risk scores improve and diminish over time.
Improved data management capabilities and point of sale computing power have made real-time assessment of individual credit risk exposure more precise. However, the next wave of dynamic capabilities will increasingly reflect varying cost to serve, fluctuating competitive intensity and, most importantly, shifts in consumer demand and behaviors over time, such as day of the week, time of day, medium to long term financial behaviors, etc.
To realize the full benefits of dynamic pricing, which can significantly increase profitability, payments providers need even greater precision in assessing underlying customer demand—including needs, attitudes and risk profiles—combined with a compelling value proposition. This combination of insight-driven strategy will allow providers to match the right product to the right customer and to continuously re-assess product features based on customer data, enabling credit limit adjustments based on actual usage and bill payment behaviors.
Some of the greatest benefits of dynamic pricing are due to positive self-selection, as retention of the most profitable customers rises and unprofitable customers are either re-priced or lost to less savvy competitors. In this same vein, many customers will benefit through the price reductions that eliminate the subsidies they are providing to their less profitable brethren. Customers who enjoy these benefits will likely be the most engaged with provider brands and have more accounts and products per household, the highest levels of product cross-sell and ultimately higher loyalty.
But implementing dynamic pricing is never easy. Often, the biggest obstacle to capturing benefits is a lack of understanding about demand. The true winners will be able to develop insight-driven demand strategies ahead of their competitors, and move from tinkering with new technologies to creating innovative new product offerings and business models.
Alok Gupta is a Principal and John Parker is a Director with The Cambridge Group, the growth strategy consulting firm that is part of Nielsen