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What does a free service charge signal?
Eduardo Diaz, a loyal MR reader, asks:
A question for you...have you ever compared in the context of "trade repairs" (i.e. garage door repair, plumbing, etc.) the pros and cons of companies that offer free estimates or evaluations vs. companies that charge an inspection charge?
My intuition would make me hypothesize that: Free estimate company would have a stronger incentive to be nice to get the business. They might "sugar coat", if they are unethical and think they can get away with holding you up later. In this model, the customer might feel "obligated" to reciprocate for the courtesy of the free estimate by giving this provider the business. Company that charges for the inspection would have an incentive to be a little more straight with you, this tendency increasing as the inspection charge comes close to cover the cost to the company of the inspection. Incentive to be nice is less in this case. Perhaps, the repair techs with "less people/sales skills" might gravitate to this business model. or perhaps this model attracts more techs that live far away or don't have a "critical mass" of business in a particular area. These trade repair industries are very competitive due to low barriers to entry and difficulty to collude, so I think competition probably drives the cost structure for those companies to a pretty similar point. Thus, I'd expect my total cost with a free inspection company vs. an inspection-charge company should be the same, assuming I'm properly informed by reading up on-line reviews, getting several quotes, etc. in other words, the no charge companies will need to recoup the cost of all the inspections that don't result in profitable repair work.
If you think you are likely to proceed with the repair work (rather than junk the thing, try to fix it yourself, decide you're in fact a garage door hypochondriac, etc.), you might be more likely to pay the upfront fee for the estimate. Of course the company knows you will behave this way. If they have any ability to price discriminate, for the service itself they will charge you a higher price ex post. You in turn will shy away from this equilibrium. In essence paying the upfront service charge reveals something about your type, namely that you are eager for repairs. We're then more likely to see free estimates as the dominant strategy. Some subset of firms will charge for estimates if they can appeal to customers who in essence want to face price discrimination to ensure higher service quality from the wealthier firms with more valuable long-term reputational franchises.
Alternatively, assume that if you have to pay to learn the price, the said price information is valuable. Price information is valuable when the market in question isn't so competitive and when search costs are high. Producers are signaling that their markets are not so competitive when they charge for service estimates and many producers will shy away from letting on about that to their customers.
Sometimes you can flip this kind of argument. You, as a customer, might assume that a firm which charged for estimates had especially informed customers. You might hope to masquerade as another such informed customer and thus patronize such a firm, hoping that it will treat you well because it is used to dealing with informed buyers. It is an open question whether this equilibrium holds up.
You can spin many other scenarios, those are just some ideas that came to mind.
Posted by Tyler Cowen on November 10, 2009 at 07:28 AM in Economics | Permalink
Comments
Alternative: you talk with your neighbors and friends, or use a service like Yelp or Angie's list, to try and find someone with a good reputation.
When I find someone with a good reputation, I try and get them to give me an estimate. At that point I usually know if they charge for an estimate and will proceed, but at least I have the comfort of having some kind of evidence (even if weak) that they know what they are doing and do it well.
Posted by: anon at Nov 10, 2009 8:15:03 AM
Or, you can just view the "free" estimate as a discount. People react to "free" in irrational ways. And, of course, nothing is "free"--just raise your base rate and offer the "free" discount from it.
For the irrationality of "free" offers in consumer psychology, there is a short video by Dan Ariely that illustrates the point: http://www.youtube.com/watch?v=AxQ650qCCdc
As to revealing "type", persons who buy garage door services need it; it is not a discretionary item. More revealing would be someone who said: can you come right now, not later in the week for the "free" estimate, and can you do it when you are here giving your estimate.
Posted by: Bill at Nov 10, 2009 8:36:51 AM
Here is a better example of some of Dan Ariely's commentary on "free" as a motivator:
http://www.predictablyirrational.com/?page_id=178
Posted by: Bill at Nov 10, 2009 8:41:22 AM
How about: estimates are likely to be charged for when they take substantial time and skill to produce, relative to the length and degree of skill of the job. A common form I see with things where this is true, such as computers or cars, is that a quick look and non-binding guess is free; if you decide to proceed they charge a minimum unit of labor, maybe a half hour or hour's labor where they'll do the repair if it turns out to be easy or present you with a formal estimate based on their investigation and ask whether you want to go ahead.
Posted by: Joshua at Nov 10, 2009 9:18:31 AM
Personally, I almost exclusively use contractors whom I have used before or who I get a recommendation for from a trusted source, and whenever possible, I prefer owner operators who do the work themselves. Then I call them and say that they come recommended from good friend x. If it is a job like a garage door, I would just say come fix it, thereby signaling trust. If they overcharge me, then I won't call them again nor will I recommend them to others. If it is a larger job, I may ask for an estimate, but again I signal that they are called in based on a business contact. Once someone has done work for me, I don't even ask for estimates, and I find that this continues to build the trust relationship, and it certainly saves time. That way I can just call them, book a time, and say something like, "ok, I will leave the back door unlocked for you today so that you can fix my washing machine," and I can save the trouble of being there to let them in.
The whole system works for me, and I have a network of repair men and contractors who keep my old house and cars in good order. But I live in a city of maybe 60,000 people, so it may not work in a large metro area.
Posted by: liberalarts at Nov 10, 2009 9:28:01 AM
Some interesting things to think about, especially since just yesterday I had an experience with several unique variables in this line.
My wife and I are buying the house we currently rent and had the inspection on Saturday which showed that the main sewer line in the house was the same age of the house (~90 years old) and would need to be replaced soon, but we couldn't tell the condition of the sewer line under the house (which is a much more expensive to fix)- so yesterday we had a gator cam come in and look under the house for damage. The company we went with charged $400 for the inspection + estimate for the fix, but if we choose to go with their company for the fix then the $400 counts toward the final bill.
Posted by: tom at Nov 10, 2009 9:38:01 AM
My hypothesis: the estimate is a loss leader, because the customer is more likely to get the repair from the company they already dealt with to get the estimate (in order to avoid the time and inconvenience of surveying the market again). Once one company stops charging for estimates, the others are compelled to follow suit because of the psychology of the consumer: they get the estimate from someone who provides it free to save money, then are more likely to follow up with the repair from the same company.
Highly informed and sophisticated consumers are too rare for a business to stay in business by catering to them. Effective businesspeople have a practical understanding of the psychology of their customer base, and how to exploit it to rope in more customers than the competition.
Therefore, I would predict that free estimates would be rarer when the customer is a professional, i.e. in business-to-business transactions, relative to consumer transactions.
Joshua is probably also right about times when the estimate is particularly costly or expensive to do; in those cases it doesn't make sense to use it as a loss leader because the loss is too high relative to the return.
Posted by: Chris at Nov 10, 2009 9:54:32 AM
free service charge I think would depend on the individual doing the assessment. It's hard for me to see someone digging too deep into a repair if it was free. Free seems to be for lightweight issues. Free also doesn't seem trustworthy enough for me. I'll stick with the fee upfront.
Posted by: Stan Gabby at Nov 10, 2009 10:07:00 AM
Are there disloyal MR readers? Is there an MR Secret Police monitoring us for disloyalty? Is a member of the MR Stasi even now watching me type this through a millimeter-size hole in the wall? Are there MR informants, and how do they compare to the East German rate of 6.5 citizens per informant?
Posted by: Brent Royal-Gordon at Nov 10, 2009 10:15:02 AM
It depends. Yes and no
In my area, in general, firms that charge for estimates are frequently the higher cost firms. They use the charging of estimates to discourage price shopping; a comparison that they know they will often lose. In addition, these firms will often try to sell themselves as having more qualified workers, better estimates, etc.
Some charge for initial estimates for new customers but wave the charge for any work done in the future. I assume that they think a return customer is more loyal and less likely to price shop.
Local car dealers often charge for estimates. They argue that they have bought expensive diagnostic equipment and trained skilled technicians to diagnosis problems. Plus if you just gave them $150 it becomes a sunk cost and the next decision is do you spend $500 to repair the car or do you take the information and go for a second estimate. Depending on how you value your time, you just leave it there.
Of course Autozone will give you a free diagnostic test i.e. read the codes off your cars built in diagnostic equipment. While it may not be as good as the dealer equipment, most of the time it is good enough. (Sort of like health care).
Many firms try to raise the cost of estimates by raising your search costs in terms of time. Car dealers used to talk about slowing down the customer, force them to spend more time at your dealership, and keep the customer from shopping.
Worst case is when the free estimate is really just the beginning of a high pressure sales presentation. Worst case, for me, was a brand name basement finishing company that gives free estimates. A long sales presentation, followed by in the sky estimates, followed by a collection of if then statements to close the deal.
For these firms the free estimate is just a way to target potential victims. And don't get me started on time share presentations
Posted by: DanC at Nov 10, 2009 11:52:35 AM
I agree with the poster who obsverved that if the estimate involved a lot of work, it would likely be charged for. I would also add that if the cause of the problem requires me to disassemble, say, a washing machine--then the offer of free comes at a cost to the repairperson, if the consumer is free to select another repairperson who then just comes in and simply fixes the machine with advance knowledge of what the problem is. In that case, discounting the bill for the completed project, but charging for inspection if you do not do the project, makes the most sense. Free riding is always an issue. And, if you can do it yourself, its even sweeter.
Posted by: Bill at Nov 10, 2009 12:07:31 PM
I suspect that the cost of a new search creates a substantial stickiness to the provider of the initial estimate, especially when the service is not very costly (2 or 3 figures). Some services are done on such an infrequent basis that it's unlikely to build a strong repeat-customer relationship. The free service gives the customer a chance to assess subjectively the credibility of the provider.
This discussion could be expanded to other lines of service, too. Look in the yellow pages and note the number of contingency fee personal-injury attorneys who offer free consultations. They don't compete on price (% of recovery as contingency is rarely if ever negotiated) so it seems like they may be relying on stickiness of initial contact.
Posted by: swede at Nov 10, 2009 12:07:50 PM
When I hire an attornoey for personal and business repair or prevention reasons, I always get preliminary refrrals from people I know and trust, as well as doing my own research. Whether they charge for an initial consultation is not relevant to me.
But my limited experience has been that I have been much happier with the attorneys who charged an initial consultation fee than those who didn't.
Posted by: anon at Nov 10, 2009 12:24:14 PM
Providing "free" stuff up front is a good way to make people buy from you down the road. It's why salesmen take prospective clients out to dinner. It's why Hari Krishnas give out flowers. There's a whole chapter in the Robert Cialdini book Influence about the benefits of creating a sense of obligation in people.
Posted by: Scoop at Nov 10, 2009 2:30:21 PM
I think the entire argument hinges heavily on the type of service or work being estimated and the local or regional competition for said work / service. I think it also depends on the type of estimate itself. Take for instance an estimate for putting guttering on your house (it's a family business so it's what I know). It's more than likely that if there are multiple gutter-hanging companies in the area they will have competitive estimate fees, if any fee at all. Gutter-hanging is also a type of work that a consumer would shop around for estimates on, giving each company a reason to match their lower-estimate-cost competition, so as to not price themselves out of an estimate (who'd pay $75 to Joe when Bob and Tom will estimate it for free?) and thusly the entire job. On top of that, an estimate for hanging gutter is relatively quick and easy for an experienced contractor.
I guess to answer the main question, in my opinion an estimate fee would signal that there is a lot of work or time involved in creating the estimate, or that there is little competition for the service or work being estimated.
Posted by: Luke at Nov 10, 2009 4:36:39 PM
There's also the matter of relative economic power: a large buyer (public agency, hospital chain, large developer, etc.) with large projects or lots of work can insist that contractors (or consultants) prepare extensive, detailed cost proposals for no charge, a small client does not have that leverage.
Posted by: Anthony at Nov 10, 2009 6:59:17 PM
A person who gives free estimates can only survive if those estimates turn into paid work. This person therefore has an incentive to find 'defects' that do not exist, and/or to pad the amount of work required in order to earn back the cost of inspection. There are no free lunches.
A person who charges for estimates and also does the work may feel that you have been captured by the high price of the estimate and therefore will be more receptive to price gouging. Especially beware the person who is willing to discount the cost of the estimate against the work - the estimate then becomes a way to lock the homeowner in with the estimator. This would result in an overall higher total price of estimate + work.
It seems to me the most reasonable course is to find an independent estimator who does not also do the repair work. This person would charge for the estimate, but have no incentive to bias the answer in any way. In addition, this person's business model and reputation depends on the quality of the estimate itself, and in addition the person may have his work questioned by the contractor who comes in to do the job after the fact.
Get an independent estimate. Then when you hire someone to do the work, make them agree to the estimate or let them do their own, knowing that you already have an independent one. The exception would be smaller jobs where you expect to do the work anyway and just want an estimate up front to prevent the contractor from jacking the price up once it's started.
Posted by: Dan H. at Nov 11, 2009 6:17:46 PM
What does a free service charge signal?
I think its depends to the services offer of the plumbing services.
Posted by: OKC Plumber Services at Nov 12, 2009 2:54:29 AM
