Name-Your-Own-Price Sales Channels: Revenge of the Hive

If you’re feeling lucky today, you may want to surf over to Priceline and try to snag a cheap hotel room. Priceline’s name-your-own-price feature lets consumers try to match ambitious bids to unspecified travel discounts, for flights, rental cars, and hotels. The system relies on the suppression or muddling of details and the random fluctuation of lowest-acceptable bids, and buyers cannot back out once their offer is accepted. 

Queen's School of Business Professor of Operations Management Jeff McGill and his colleagues have studied Priceline and its ilk, taking the side of the befuddled bargain hunter. “Against a randomized strategy like this,” they’ve wondered, “is there anything we can do?”

The answer depends partly on the extent to which a consumer is willing to cooperate with others to “game” the system, and partly on what that consumer considers a worthwhile discount. For some, said McGill at a School of Business research seminar in January 2012, extracting even a minor deal out of a big corporation is reward enough; for others a paltry five or 10 percent in savings is hardly worth the “cost” of signing up and the slow bidding process.

Murky Markets

A number of online sales channels, Priceline and Hotwire among them, operate opaque markets — they collect a fee for selling cut-rate travel services without revealing the supplier until the sale has been completed. This allows participating suppliers, such as American Airlines or Hilton Hotels & Resorts, to quietly fill otherwise empty seats and rooms without cheapening their brand or missing out on late-booking, full-freight customers. 

“The marginal cost of sticking someone in a room is something like 10 bucks once it’s there and it’s empty,” said McGill.

In recent years, major corporations have spent hundreds of millions of dollars to put in place so-called “revenue management” systems; the practice saves them five to nine percent annually, which goes straight to their bottom line. Opaque sales channels, McGill noted, can expand the pay-off from these revenue management systems. 

Priceline’s name-your-own-price option further muddies information by withholding even available hotel rates, though shoppers can still narrow their options according to specifications such as zones and star ratings. Consumers have the incentive to try to hit the lowest price that a corresponding hotel is willing to match; they can place only one bid per 24 hours and the website randomly selects a hotel of their general description that may or may not be willing to match a bidder’s pitch at a given time. If not, the bid is rejected and the bidder must wait for another day. If a bid is accepted, lower available rates are then out of bounds.

“[Priceline] really did go to great lengths,” said McGill. “They patented the technique they use to scramble the information consumers are getting.” 

This deliberate complication ensures that even the savviest and most patient shoppers cannot simply march their bids up to the best discount. The market is kept in constant flux. “It’s like trying to hit a moving target,” he added. 

Pooling Potential

So where is the chink in Priceline’s armor? The answer may lie in consumer collaboration. To find out, McGill and his colleagues looked at the ways in which online consumers can band together. “We had a simple job,” said McGill. “Not to come up with the best way to do this, but to come up with a plausible way that might be simple enough for your general consumer to use, that you can update with historical data.”

The researchers focused on three forms of consumer collaboration: basic information exchange, in which consumers share data but place bids independently; bid coordination, in which consumers attempt to exploit the peculiar characteristics of the opaque market at a given moment; and risk pooling, where participants share the savings they receive as a group.

They found that basic information exchange and bid coordination produce negligible benefits — both methods max out at an average savings of about five percent.

The benefits of risk pooling, by comparison, are dramatic, and compensate the consumers who risk and lose more to obtain data for the collective. As a coordinated group with a common travel destination (it helps to work with friends or acquaintances), everyone tries to maximize the total savings instead of individual benefits, and the surplus is redistributed to make everyone equal in the end. This may not be quite enough to make Ayn Rand roll over in her grave, but it can result in an average hotel savings of about 30 percent for shoppers with low tolerances for risk. 

“When you think about how muddy the market is, with all these fluctuating and random prices, this is not too bad,” says McGill.

The bottom line is that consumers can benefit at least modestly from any form of cooperation as long as they first check airline or hotel websites to identify realistic open market prices, agree on both a high discount (say 75 percent) and a low discount price (around 25 percent), and share data about successes and failures at the different prices.

— Alan Morantz