When former Apple retail boss Ron Johnson took his leave from Cupertino to become the new CEO of JC Penney late last year, there wasn’t as much “WTF-ing” as you might expect. Sure, there was some incredulity as Johnson left the gleaming stores he had founded for JC Penney’s chain of mouldering clothing outlets, but there was also a lot of optimism: if anyone could turn around a business like JC Penney, it would be Johnson.
Johnson may still succeed, but his first moves at rehabilitating JC Penney have been failures. The stock is tanking and JC Penney posted a $163 million loss last quarter alone. Customers, it seems, are not reacting well to the new JC Penney, which eschews sales, circulars, coupons and fine print for plain, honest pricing… the kind of store where all the .99s are dropped from the price tag.
Why? Honest pricing might work for Apple, but in most of the retail word, it appears to be a sucker’s game. Customers, it turns out, only say they want fair pricing. What the really want to do is treat shopping like a game.
In a fascinating article discussing the work of behavioral economist Xavier Gabaix, MSNBC columnist Bob Sullivan puts his finger on the pulse of what appears to be going wrong for Ron Johnson at JC Penney. Basically, what it comes down to is that Johnson’s philosophy at JC Penney is to eliminate price shrouding, and while it might seem straightforward that customers would react well to the move, the truth is far more depressing.
What’s price shrouding? Here’s Gabaix’s description:
In days gone by, price tags were simple. An apple cost 10 cents. A cup of coffee cost $1. But today, the consumer marketplace is far more complicated, giving sellers the opportunity to create confusion. Many items have follow-up costs that make the original price tag meaningless.
Computer printers are the classic example. You might get a great deal on a printer, but if the ink is expensive, you lose in the end. In fact, Gabaix argues that it’s impossible for consumers to intelligently shop for printers. No consumer knows how much ink costs — the cartridges don’t come in standard sizes, the amount of ink used to print varies and ink costs are unpredictable. That makes the true price of a printer “shrouded,” in Gabaix’s terminology. Not quite hidden, but not quite clear, either. Advantage seller. It’s easy for printer companies to lowball printer price tags and overcharge for ink, enabling them to print money.
If you think about it, shrouded price tags are everywhere. The hotel website might say “$99 a night” but you know the
bill will be more like $120 or $130. Pay TV companies promise $30-a-month service, which ends up costing more like $50. And what happens when you buy a TV with a store credit card that offers an upfront discount but a complex interest charge? And so it goes.
Put in this way, shrouding unambiguously seems like a bad thing, but shrouding introduces a thrill to shopping for many people on the hunt for a deal: the illusion that the system can be “gamed” for the biggest discount possible.
In other words, all those circulars JC Penney just jettisoned, all those weekly sales they got rid of? Those kept customers coming in, because ultimately, selling good clothes at fair prices is only part of what makes a business like Penney’s successful. The other part is making customers feel like they are getting a deal.
This is what’s killing JC Penney, says Gabaix:
It’s simply impossible, Gabaix argues, to be the one company that attempts to bridge this information gap. If a firm tries to educate consumers on tricks and traps, and tries to offer an honest product, a funny thing happens: Consumers say, “Thank you for the tips,” and go back to the tricky companies, where they exploit the new knowledge to get cheaper prices, leaving the “honest” firm in the dust.
“Once you educate consumers on the right way to shop, they will seek out the lowest cost store, and that will be the one with the shrouded prices,” he said. “Once they are savvier consumers, you make less money from them.”
Gabaix calls this the “curse of debiasing.” And it leads to this depressing conclusion: “Shrouding is the more profitable strategy.”
Why does it work for Apple then? Mostly because Apple’s not in the business of selling a commodity like clothing: it’s selling high-end technology. Ron Johnson seemed to believe he could take Apple’s way of doing things and roll it out to a company like JC Penney… and maybe ultimately he can. After all, the Apple Store was originally inspired by the GAP. But Johnson won’t be able to do it by eliminating shrouding alone.