The Value of Personalized Pricing

57 Pages Posted: 2 Mar 2018 Last revised: 13 May 2020

See all articles by Adam N. Elmachtoub

Adam N. Elmachtoub

Department of Industrial Engineering and Operations Research & Data Science Institute, Columbia University

Vishal Gupta

Data Science and Operations, Marshall School of Business

Michael Hamilton

University of Pittsburgh - Katz Graduate School of Business

Date Written: October 1, 2018

Abstract

Increased availability of high-quality customer information has fueled interest in personalized pricing strategies, i.e., strategies that predict an individual customer's valuation for a product and then offer a price tailored to that customer. While the appeal of personalized pricing is clear, it may also incur large costs in the form of market research, investment in information technology and analytics expertise, and branding risks. In light of these trade-offs, our work studies the value of personalized pricing strategies over a simple single price strategy.

We first provide closed-form lower and upper bounds on the ratio between the profits of an idealized personalized pricing strategy (first-degree price discrimination) and a single price strategy. Our bounds depend on simple statistics of the valuation distribution and shed light on the types of markets for which personalized pricing has little or significant potential value. Second, we consider a feature-based pricing model where customer valuations can be estimated from observed features. We show how to transform our aforementioned bounds into lower and upper bounds on the value of feature-based pricing over single pricing depending on the degree to which the features are informative for the valuation. Finally, we demonstrate how to obtain sharper bounds by incorporating additional information about the valuation distribution (moments or shape constraints) by solving tractable linear optimization problems.

Keywords: price discrimination, personalization, market segmentation

Suggested Citation

Elmachtoub, Adam and Gupta, Vishal and Hamilton, Michael, The Value of Personalized Pricing (October 1, 2018). Available at SSRN: https://ssrn.com/abstract=3127719 or http://dx.doi.org/10.2139/ssrn.3127719

Adam Elmachtoub (Contact Author)

Department of Industrial Engineering and Operations Research & Data Science Institute, Columbia University ( email )

535F S.W. Mudd Building
500 West 120th Street
New York, NY 10027
United States

HOME PAGE: http://www.columbia.edu/~ae2516/

Vishal Gupta

Data Science and Operations, Marshall School of Business ( email )

Marshall School of Business
BRI 401, 3670 Trousdale Parkway
Los Angeles, CA 90089
United States

HOME PAGE: http://www-bcf.usc.edu/~guptavis/

Michael Hamilton

University of Pittsburgh - Katz Graduate School of Business ( email )

Pittsburgh, PA
United States

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