It is interesting to observe how markdowns are managed in practice. Here is an example of two blog posts documenting the dynamics of the optimal markdown discovery. The first uses data from several retailers and argues that markdowns should be reduced or eliminated citing the negative impact of markdowns on revenue and recovery of the economy. The second presents the case of Macy’s for larger and more straightforward markdowns as opposed to the convoluted coupon discounts. So, are markdowns good or bad?
Academic research on the topic had a similar evolution of ideas. Early stream of papers recommended that markdowns should be large, 50%, or sometimes even more. Then, researchers realized that deep markdowns pull consumers into the strategic waiting game, where consumers wait and gamble to get a product at a low price. The result of this realization was in justification of everyday low prices, or very small markdowns. The current state of the debate, including the results from one of my papers, is that some markdowns are good. In fact, there is a sweet spot for markdowns – they certainly should not be as large as 50% also not as small as 10% either. There is a benefit of offering a reasonable (~20%) markdown and bringing in the value-oriented shopper, while keeping those ready to buy at the full price buying. In that sense, Macy’s seems to be doing the right thing.
It is a beginning of teaching semester and this blog inevitably gets more active. One article caught my attention recently. It is related to my research, and as one can probably guess from the title, it’s about retail pricing. Particularly, Walmart and its everyday-low-prices (EDLP) policy. It turns out that Walmart’s (at least online) everyday-low-price policy becomes “everyday-adjusted-price” policy.
The article suggests that the reason for the Walmart’s pricing policy change is competition from Amazon.com. Citing the e-commerce data analytics firm 360pi, it reports that on 15% of the products, Walmart changed prices daily (very close to that percentage at Amazon.com). Furthermore, Walmart prices closely track those at Amazon.com generally staying within 5%.
Competition with Amazon.com may be one of the reason, but to me it seems it is not the only nor the main one. Retailers are in the business of converting goods into revenue, and dynamic pricing simply generates more revenue. The revenue lift is of course conditional on the fact that consumers keep buying at regular (high prices) and not just patiently waiting for bargains. This is where understanding how consumers decide whether to wait or buy becomes important.
Two recent research papers speak directly to this point. One, by my colleagues, shows that human behavior provides rationale for markdown or dynamic pricing over EDLP pricing. The other, by me and co-authors, shows that markdowns can be set even larger than the current methods prescribe, leading to substantial revenue gains. From that perspective, Walmart is doing exactly the right thing by adopting the dynamic price policy.