Why pricing is the ‘easy growth trap’ in luxury

A New York Times article, 'Tesla Cuts Prices Sharply as It Moves to Bolster Demand' explains how price cuts will make more of the company’s electric vehicles eligible for a federal tax credit in the US. They also are meant to address slowing demand as competition for electric vehicles increases. Meanwhile, Tesla’s CEO Elon Musk seems — as some of the firm’s major shareholders have stated vocally — distracted with his acquisition of Twitter.

Like in China (the first country to see this significant price reduction), customers in the US who had bought a Tesla only days prior to the price cut were furious and demanded to be compensated for overpaying. The price reduction was seen by many as a breach of trust by a brand that had positioned itself as different from traditional automotives: not least by (supposedly) being transparent on pricing and operating without discounting. 

I have co-developed a valuation model for brand equity that will soon be published in the Harvard Business Review, and a major variable for decay in brand equity is volatility in pricing. Brands that go beyond a certain point in price volatility can initiate such a strong brand equity loss that they may never be able to recover. This is why I call a price reduction the 'easy growth trap.'

For groups like Tesla, it can be tempting to stimulate demand with price cuts. However, what most of these businesses underestimate is how destructive such a move is to the trust that clients put into a brand. And once trust deteriorates, it is extremely challenging — if not impossible — to repair. Impact on trust is multidimensional when brands cut prices. 

First, especially in luxury, it signals that the brand provides less value to a client than it initially promised. Hence, existing clients will be frustrated and often reevaluate their previous purchases and their relationship with the company. Unhappy brand advocates easily turn into angry brand haters. And since brand advocacy and word of mouth are critical in terms of acquiring new clients, alienating the existing customer base is never a good idea.

A useful example is the following story regarding one of the top ten Swiss luxury watch brands. A few years ago, it significantly reduced the prices of its watches in the US. A timepiece originally priced around $16,000 (108,000 RMB) now retailed for around $13,000 (87,000 RMB). Existing customers were furious. Many lost their trust and appreciation for the label as they felt cheated. As a result, it lost some of its best and most loyal clients for whom the original price was no issue. The price reduction did not compensate for the lost revenue. Even worse, it evaporated profitability significantly. The objective was “easy growth”; the result, a disaster.

Second, the brand is forced to compete even more closely with its lower-priced rivals, which in turn may react with price decreases of their own — and may have a better cost structure. Whether the result is a full-blown price war in which everyone loses or a competitive war in which more players try to compete for the same price-sensitive clientele with incentives, the effect on future competitiveness and profit structures will be significant. 

Peloton’s frequent price reductions and discounts also damaged the brand. Photo: Peloton

Third, as already mentioned, the effect on brand equity can be so negative that brands pass beyond a point of no return where customer acquisition becomes extremely challenging if not impossible. I have written before that the problems experienced by Peloton — the US-based maker of connected fitness equipment and on-demand classes — became significantly compounded by near-all-year-round price promotions and continuous price reductions. Peloton, a brand that was once seen as an aspiration, became a hard-promoted commodity which, almost on a monthly basis, offered discounts of up to $600 (4,000 RMB), or close to 30%, for their exercise equipment. 

In luxury pricing projects we are doing all over the world, I have not seen even one example where a price reduction accelerated the sales of a brand in the long term while preserving profitability and brand equity. The short-term gains always come at a price, so to speak. And the price, in most cases, is the brand. 

Labels should instead conduct in-depth brand audits to understand the root cause of waning demand. In the case of Tesla, there are several factors: crowded supercharging stations as the brand grows are impacting the driving experience. An aging model lineup with Model S and X being practically unchanged in their exterior design is now competing with an increasing number of rivals from Mercedes and Porsche to Kia. A service center experience with often incredibly long waiting times to get appointments, and a lack of human interaction (as clients are forced to communicate with the brand via the app). Every model announced has been delayed, including the Tesla Roadster or the Cybertruck, alienating clients who were willing to place early reservations. And there are many more factors. 

If brands ignore the root cause of decreasing demand and rely on price reductions, existing brand issues will only be compounded. Necessary actions are delayed and reduced profitability will decrease future competitiveness. Top clients are alienated. Brand equity goes down the drain. That’s why pricing is the easy growth trap in luxury, overused too often — and the starting point of brand destruction. Don’t tap into that trap. 

Daniel Langer is the CEO of the luxury, lifestyle and consumer brand strategy firm Équité, and the executive professor of luxury strategy and pricing at Pepperdine University in Malibu, California.