Underpricing Luxury: When a Lower Price Results in Higher Reputation

Abstract

Determining the price point is a vexing problem for firms: price too high and there is no market, but price too low and money is left on the table. Complicating matters further, for many goods there is a secondary market where products can be resold following the initial sale by the firm. Here, the open market determines the price point that end consumers pay. Often that price is higher than the price offered by the firm for goods such as premium handbags, wine, high-end watches, and works of art, so the consumer will see the product’s quality or appeal validated by the market, which leads to a reputation gain for the firm. This phenomenon goes beyond physical products and includes a variety of services, such as live concerts, as reflected in their ticket prices in primary and secondary markets. However, the secondary market can also offer a lower price than the firm’s original offering, which hurts the firm’s reputation. Typically, the luxury market equates higher prices with higher status but neglects the impact of the secondary market. Our research considers the case where initially underpricing a good may be in a luxury firm’s long-term interest. Although underpricing has been used in initial public offering (IPO) markets to increase the firm’s reputation, it has been viewed as a problem or discouraged in other market industries. Our hypothesis is that reputation has long-term value for firms and, in industries where a visible secondary (i.e., resale) market exists for products, price increases after product release lead to gains in reputation as higher resale prices signal quality and value.