Can There Ever Be a Fair Price? Why Jcpenney's Strategy Backfired

When jcpenney announced its "Fair and Square" pricing last January, investors cheered, sending its stock up. But several months later, the company delivered disappointing results: Store traffic had declined by 10% and sales by more than 20%. What went wrong?

"Our marketing isn't doing the work ... We've got to get our pricing across," jcpenney's CEO, Ron Johnson, commented at a press conference discussing the quarterly results, adding that consumers "need to understand the value we're offering."

But was it just a matter of miscommunication? Or did jcpenney's marketing team make a mistake by getting rid of the frequent deep-discount sales that consumers have associated with the company for decades?

The idea behind the new pricing strategy, which involves reducing the base price of all items by about 40% and eliminating deep discounts, is simple: "The customer knows the right price for every product, so we are going to price things right from the start," Johnson said. Jcpenney vowed to price its merchandise so that "customers will not pay literally a penny more than the true value of the product."

Sounds straightforward — even enticing. What consumer wouldn't subscribe to the idea of paying a price that reflects a product's true value? But there are several flaws in this strategy.

• "True value" is subjective. Because customers have varying needs and financial resources, they differ in the amount of money they are willing to pay for a given product. "True value" means different things to different people. Given jcpenney's diverse customer base, finding a single "true price" is a challenging task.

• "True value" is relative. Consumers often use the regular price of an item to determine its "true value." Consider a store offering a pair of jeans priced at $20 and another offering a pair of $30 jeans on sale for $20 (a 33% discount). In which store will customers perceive they are getting greater value and be more likely to make a purchase? For many customers the $10 discount underscores the value they receive from the purchase. Jcpenney might be wrong in arguing that because less than 1% of its revenue comes from items bought at full price, its "original prices are pretty much meaningless."

• "Fair" often means "cheap." Imagine that a customer has purchased a pair of Levi's 550 jeans at jcpenney's everyday low price of $40 (jcpenney now rounds off the .99 price endings). A few days later, she sees the same pair of jeans on sale at another department store for $34.99 — a not-unlikely scenario. Does she still think of jcpenney's pricing as fair? Even if consumers concede that higher prices can be viewed as "fair," do customers prefer fair prices to low prices?

• Fair prices to customers or to shareholders? Jcpenney's primary responsibility is to its shareholders, not its customers. This might lead to a conflict when customers' view of what's fair means prices that are at or below jcpenney's costs. Therefore, despite its best intentions to offer fair prices, jcpenney can't let customers dictate prices.

• No discounts means higher price image. Consumers are often unaware of the prices for individual items and instead rely on their beliefs about the average level of a store's prices. Because sales are one of the factors that influence these beliefs, discontinuing them is likely to raise jcpenney's price image. As a result, instead of being perceived as beneficial, the elimination of sales promotions might have the opposite effect on jcpenney's price-conscious customers, lowering the likelihood that they will return.

• Sales create customer value. Discounts tend to create additional value for many consumers who enjoy searching for and finding deals. Therefore, jcpenney's prices may need to be substantially lower to compensate for this extra value (referred to as transactional utility in behavioral economics) that customers used to receive from sales.

• It is difficult to break from the past. Jcpenney has been known for its frequent and deep discount strategy, offering about 590 sales events last year alone. So what are customers to think about jcpenney's pricing during the past few decades? Was it unfair? Do they perceive the new concept of Fair and Square pricing as credible and buy into it, or do they regard it as yet another retailing gimmick?

So the drop in jcpenney's store traffic and sales volume might not be just an issue of miscommunication. The real reason why consumers "don't get" jcpenney's strategy might be that its pricing is misaligned with the needs and shopping habits of its core customers, who have become accustomed to frequent sales.

For the past several decades, most department stores, including jcpenney, have spent billions of dollars trying to "educate" consumers to take advantage of ongoing sales.

Jcpenney's own data suggest that customers' "hunger" for sales has increased dramatically over time, such that discounts of 60% are now required to get shoppers to buy, up from 38% 10 years ago.

And even though it is true that the sales promotions run by most department stores defy common business sense, both in terms of volume and content, jcpenney's "fair and square" pricing might have gone from one extreme to the other.