Price segmentation divides the market into different groups based on their willingness to pay for a product or service.
With this strategy companies charge different prices to different groups of customers for more-or-less the same product or service.
The goal is to maximize profits by charging higher prices to people who are willing and able to pay more while charging lower prices to those who can’t afford to pay as much.
Question: How much should you charge for your product?
Response: As much as the customer is willing to pay!
That is the essence of Price Segmentation.
And when Price Segmentation is combined with Benefit Segmentation, you can comfortably charge different prices to different customer segments for the identical product because each segment will have a different perceived value for the product.
Price Segmentation: A Definition
Price Segmentation is the marketing strategy of maximizing profits by charging different prices to different customer segments for the same product.
The core idea behind Price Segmentation is to not leave anything on the table.
So if a customer is capable and willing to pay more for a product, you charge that customer more.
On the other hand, if you risk losing a customer because they think your product is unaffordable or overpriced, then you lower the price just for them so that you can hang on to them as a customer.
Now, whether to do this at a loss or not is a business decision that each business needs to make based on its strategic objectives.
Price Segmentation allows you to offer discounts to customers who are more price-sensitive, while still getting a full price (or more!) from those who are more likely to buy at any cost.
The benefits of this strategy include higher average order values, increased conversion rates, and reduced marketing costs.
We’ll take a look at how you can use this tactic to better your bottom line!
Maximize Profits with Price Segmentation
To understand how you can maximize profits with price segmentation, let’s take an example.
Let’s say you run a hotel.
Your hotel attracts 4 types of customers:
- students
- couples
- families with small children
- retirees
Pricing without Price Segmentation
If you do not use Price Segmentation strategies, all your hotel rooms will be of the same price for each type of customer shown above. Right?
This means you’ll charge the student the same as you will a family with two small kids.
Let’s put this on a graph to understand what this means.
On the Y-axis you see the 4 segments: students, couples, families with small children and retirees.
On the X-Axis we plot the “willingness” to pay of each of these segments.
For this exercise we assume that couples and families with small children are most willing to pay, followed by retirees and then by students who are the least willing to pay.
The table below shows the exact amount each segment is willing to pay.
| Customer Segment | Willingness to Pay |
| Students | $75 |
| Retirees | $110 |
| Couples | $130 |
| Families with small children | $150 |
Now, let’s say that you set the price for each room of the hotel at $100.
At $100 per room, students will refuse to pay and instead find a cheaper alternative to your hotel. So this is lost business for you.
On the other hand, all other segments would have been willing to pay more than $100. Retirees were willing to pay $110, couples $130 and families with small children $150.
So without Price Segmentation (ie having the same price for all segments), not only do you lose an entire segment, you also leave money on the table for all other segments.
Pricing with Price Segmentation
Now, let’s say that you decide to do Price Segmentation. This means you will charge different prices for different segments.
You could offer a 30% discount to students. This will bring your hotel within an affordable range for them and you could potentially attract some students and convert them customers.
With the Retirees and Couples segments you could charge a bit more and give them some of your fancier rooms. You could throw in a welcome drink on arrival or offer them rooms with their own coffee machines.
And for families with small children you could charge even more and if needed offer them larger rooms or extra beds.
Even with these extra benefits for some segments, and all else considered equal, your profitability will be higher with Price Segmentation than without.
Examples of Price Segmentation
Airlines
Airlines sell identical seats to different people at different prices.
Passengers who buy a ticket well in advance will usually get a lower price than those who buy at the last minute. This is Price Segmentation based on time of purchase.
Airlines also dynamically change the prices on their website based on demand and supply. If they see that there is a higher search volume for a certain flight, they will raise the prices for this flight even before sufficient passengers have made a purchase. But since prices change algorithmically, different passengers will end up paying different prices.
Software licenses
Software companies will often sell product licenses on a monthly, annual or lifetime basis.
All three types of licenses give access to the same product but at different prices. This is Price Segmentation based on volume purchase.
Here’s an example of how Adobe does Price Segmentation of its market.
It has different pricing for 4 market segments: Individuals, Business, Students & Teachers and Schools & Universities
Image Source: Adobe
Then if you decide to purchase Adobe Photoshop, there is Price Segmentation based on the duration of the license and the frequency of payments
A month-by-month license is the most expensive on a per-month basis.
This is followed by an annual license but which is paid monthly.
And the least expensive option is the annual license fully paid upfront.
Image Source: Adobe
Sporting Events
Sporting events habitually sell tickets in different parts of a stadium, arena or court at different price points.
Tickets close to the players and the action are sold are much higher prices than tickets way up in the upper decks.
In the end, all visitors are able to watch the same game. But by using Price Segmentation based on location, sporting events are able to maximize their profits by charging high prices to those who are willing to pay more and lower prices to those who would rather watch from home than pay higher prices.
Key Takeaways
- Price Segmentation is a pricing strategy where you charge different prices to different types of customers based on their ability and willingness to pay, with the goal of maximizing your profits.
- With Price Segmentation you make higher profits from customers who pay the most and lower profits (or even losses) from customers who pay the least.
- This differential pricing allows you to retain those low-budget customers who otherwise would have gone to a cheaper competitor.
- Price Segmentation can be done using different variables like Time of purchase, Volume of purchase, Location, Type of customer, etc.