When Prices Can Be Too High

On 9th July 2023, in The Times UK, there was a story…

“Advanz Pharma and former owners face £176m bill after 6,000% price rise for NHS”

If you want to know what a 6,000% price rise looks like, over the space of 10 years they increased the price of an out-of-patent thyroid tablet called liothyronine from £4 to £248 per packet.

I’ve written in the past about the ethical aspect of pricing. The short version is this - good companies should be able to make a fair return for the value they provide. Companies that live on wafer thin profits are vulnerable and can easily fail during economic downturns. Companies that make a reasonable profit are resilient, which protects jobs and therefore people’s homes; they can invest in growth which creates career opportunities; they can invest in their team through training or by making the working environment more pleasant.

The key word in that, of course, is ‘reasonable’.

All of this is important because the price itself conveys something about what you are going to experience. A premium price suggests a superior product or a better service. In a B2B context it implies lower risk. This isn’t a 100% unbroken rule, of course, sometimes very high quality things are surprisingly cheap, but it’s a good rule of thumb that we use subconsciously when deciding whether to buy something.

But there are other psychological factors at work here. We like things to be fair.

For example, in one experiment described by Nobel laureate John Harsanyi (the ‘Ultimatum’ game), two people have to split a sum of money. Let’s say it’s $100. One of them is given the money (the proposer) and can suggest any split they want; the other person (the receiver) gets to decide if they want to accept the split, and if they don’t, neither gets anything.

50:50 splits and splits that are a little biased towards the proposer are accepted by the receiver. Splits that are heavily biased towards the proposer, such as $90 for them and $10 for the receiver, are often rejected. Neither gets any money. The receiver would rather punish the unfair offer than get $10.

Fairness matters in pricing. No one likes price gouging, it just feels wrong to us. Think back to the price of hand sanitiser during the Covid pandemic, and the reaction to the dramatic increase.

Now, just to be clear, I’m a fan of higher prices. As I’ve said, companies should be rewarded for the value they deliver. But there is usually a genuine upper limit to a price beyond which it seems unfair (though ultra-luxury goods often seem to be an exception).

The real key to all this, though, is that if you are going to charge a higher price then you really have to do a good job of communicating the value the customer will receive. It’s not their job to work it out for themselves.