In August 2008 US Airways unbundled its in-flight service and started charging for soft-drinks. It charged $2 for soda and bottled water and $1 for coffee and tea. After six months, US Airways decided to stop the practice. US Airways took pride in its unbundled pricing model. The service did bring in revenue according to the memo from US Airways CEO Mr. Doug Parker to the airline employees. Mr. Parker went on to say that
“The beverage program was distracting from the outstanding improvements in on-time performance and baggage handling US Airways’ 34,000 employees worked so hard to achieve last year,”
Why did US Airway reverse its unbundled pricing? Is it possible that charging for water is taking it too far? Don’t the customers get value from the drinks, why not ask them to pay for it? Could the plan have succeeded if other airlines followed suit or if the pricing was introduced in a different way?
As I have talked about in my previous posts, one plausible answer to all these questions lie in reference price. Reference price is the price a customer is used to paying for a service or the price of an alternative. It is not same as a customer’s willingness to pay which means the maximum value a customer derives from a product and hence will be willing to pay that for the service. No one will pay their willingness to pay because there are always alternatives. The problem with US Airways pricing plan is that its customers have a reference price of $0.00 for soft-drinks. They always received it for free so they balk at paying for the service. A thirsty traveler gets considerable value from a cold drink and hence have high willingness to pay but the reference price of $0.00 prevents them from paying their Willingess-To-Pay.
So what US Airways could have done instead is first improve this reference price and as a result capture some of the willingess to pay of its customers. How can a marketer improve reference price for their product/service when it is currently zero in the minds of customers? One way is to introduce two versions of the service, one expensive option and the other is simply the existing option with a price. The sole purpose of the expensive option is to increase the reference price in the minds of customers and nudge them to prefer the second option which is simply the same old version except with a price tag on it. Will this versioning work?
Recently, some colleagues of mine and I conducted an experiment with this very scenario of Airline unbundled pricing for soft drinks. It was a between groups experiment design with the goal of comparing the means between two samples to test the hypothesis that reference price plays a role in increasing consumer’s acceptance of unbundled pricing. We did the experiment on MBA students and other professionals in our LinkedIn networks. We received a total of 120 responses, split almost evenly between two groups.
We asked one group of people a simple question of
“Our airline is planning to charge $2 for soft drinks including bottle water. How likely are you use this service?”
For another group we asked a different question:
“Our airline is planning to introduce two changes to in flight drink service.
1. Introduce premium soft drinks like Evian bottle bottled water for $4
2. Continue to offer current soft drinks but at a price of $2 a bottle.
How likely are you to use option 2?
The results are striking.
The two groups chose significantly differently even though the option they are choosing is exactly the same, paying for soft drinks that used to be free. The differences visually are obvious and more importantly are statistically significant. Introducing an expensive option, however contrived it might seem, helped increase the reference price and reduced barriers to acceptance.
Now if only US Airways had done this …