The Principles of Product Pricing
If you’ve ever asked yourself ‘how much should I charge for this?’ and haven’t had a solid answer then this is for you.
If you've ever asked yourself, 'how much should I charge for this?' and haven't had a solid answer, then this is for you.
But first, a story...
Way back in the day (circa 2005), I used to sell on eBay. But, of course, it was a very different beast back then from today.
eBay was pretty new to Australia and the first eCommerce experience for many people, including sellers and buyers.
The auction format was all the rage; people loved it. They'd bid crazy prices on the strangest things.
We were selling home gyms, and depending on the day and time an auction ended, the price for the same piece of equipment could be as low as $600 or as high as $1,500.
It was crazy!
Of course, we adapted to this and made sure the auctions ended at the optimal days of the week and time of day, but the real lesson was understanding the customers' willingness to pay, a concept I'll detail shortly.
We knew we could comfortably sell the gyms for $850 and make a good profit but accidentally discovering that people were willing to pay $1,500 for a gym was a game-changer.
This article is about changing accidentally to intentionally.
These are the pricing principles and concepts I wish I had understood back then.
SaaS, eCommerce, consulting, food... It doesn't really matter what you're selling; these principles can be adapted.
Understand these things about your customers:
Their willingness to pay
(i.e. how much is your ideal customer prepared to pay for your product)
The best way to get the answer, use the Van Westendrop questions. Here are the questions I ask and how I ask them (the original questions differ slightly, I think mine are a little more conversational):
For a product that does XYZ or solves ABC:
- At what price is it so expensive that you wouldn't consider buying it?
- At what price is it so inexpensive or cheap that you'd question the quality and not consider it?
- At what price would you begin to think it's getting expensive, not out of reach, but you still might consider buying it?
- At what price is it a bargain - great value for money?
After doing it the hard way in the past, I discovered, courtesy of profitwell.com, a much simpler way to really understand what features are important to our ideal customers.
Simply ask these 2 questions:
- Out of the following features, which is the most important to you?
- Out of the following features, which is the least important to you?
This is very different from asking people to rank features from most important to least important. It makes it very clear what to focus on.
What objections do your ideal customers have to your competitors?
Find out by asking them what they use, why they use it and what they don't like.
This helps you overcome these objections in your pricing strategy and marketing copy.
Pre-empting objections and being able to overcome them is key to selling more!
Note: the best way to get this information is through real face-to-face or video interviews, where you can see people's reactions and dig deeper when needed; then, to back up your findings at scale, you can use surveys.
Charge more than you think you can
Just because you're a new business or releasing a new product doesn't mean you don't have a better offer than the competition.
It's easier to reduce prices than it is to increase them later.
The more revenue you make, the more value you can add to current and future customers because you have more to invest back into your products and services.
You can thank @patio11 for this advice.
Price and price messaging should align to your 'atomic unit of value.'
Atomic unit of value has become one of my favourite terms; you can thank @josh_coyne for this one who first introduced me to it!
From what I can find, it originates from 'Hartree atomic units', "a system of natural units of measurement especially convenient for atomic physics."
So, what does it mean?
If you can boil the value you provide down to just one thing, what is it?
For us at Thriday, it's time; we save small businesses time; everything we do, in some way, shape or form, relates to saving small businesses time. That's very different to providing the best invoicing software or the best accounting platform, 'best' is subjective.
Be specific. What's the outcome? What's the value? Talk about that!
For a solar company selling a battery, the atomic unit of value might be energy.
I've seen solar pricing in terms of 'Installed cost per kWh capacity'. This is interesting because a large system doesn't cost much more to install than a small system.
When you see a 16-20kWh unit costs $970 Installed cost per kWh capacity compared to a smaller 1-5 kWh unit at $1,590 Installed cost per kWh, it appears to be great value.
For Thriday, even though our atomic unit of value is 'time', it wouldn't make sense for us to charge by the hour; however, the more revenue you generate, the more time Thriday saves.
In this case, revenue can become a proxy for time.
If our subscription cost increases based on the amount of revenue a company makes, i.e. the time we save them, we're truly aligned to the value we provide.
This has the benefit of making it easy for someone to understand which subscription they should opt for, which we'll talk about in a minute.
It also brings me to the next point:
You should grow as our customers succeed.
This is known as value-based pricing.
The more value you receive as a customer, the more you should be prepared to pay for that value up to your 'willingness to pay' threshold.
To deliver the best product or service you can, you should be growing as your best customers grow, which means charging more for your product as your customers receive more value.
Use multiple pricing axis as a lever for growth.
Some features are more valuable to some people than others.
Collaboration might be super important to some people and not others when it comes to SaaS products, so team plans could be more valuable.
This is where understanding 'feature importance' becomes essential. You can charge accordingly when you know which features are crucial to customers.
Another shout out to @josh_coyne for this!
Pricing should be easy to understand
(It can become more complex with more brand equity)
Your customers should be able to position themselves in one of your pricing options without thinking about it.
If we were to try and charge based on the hours it took to manage your financial admin each month, you'd need to keep a journal for a month to be accurate or look at your calendar and do a few sums.
But, if we show which subscription is best for the revenue you're generating, you immediately know where you fit.
Don't innovate on price.
Pricing shouldn't stray too far from the norm in the way it's presented to your audience.
People who buy SaaS tools have all done it before and have a pre-defined expectation of how they will make an educated decision on how to buy your product. So make that decision as easy for them as you can.
Like me back in the day selling gyms on eBay, you should often experiment with your pricing.
Quarterly pricing experiments should not be out of the question if you have scale.
Your strategy should dictate how much you charge, to who and for how long in the early days.
Price according to objectives
1. Revenue growth - Maximise revenue growth in the short term by selling for as much as your customer is willing to pay
2. Market share - Price low to win market share
3. Profit Maximisation - Sell the latest product at a high price and repackage older products at a lower price to address different customer segments, just like Apple does with the iPhone, for example
Find more detail on this one here: https://tomtunguz.com/the-3-pricing-strategies/
The rabbit hole (best) of content I dived into throughout this process:
- Stripe Atlas: Guide to Software as a Service pricing
- Pricing Lessons from Working with 30+ Seed and Series A B2B Startups | First Round Review
- The Price is Right: Essential Tips for Nailing Your Pricing Strategy | First Round Review
- 9 Thoughts on What Makes For a Good Pricing Page (UPDATED w/Video)
- Discover what drives subscription growth.
- A Simple Framework for Pricing Your New Product. And Nailing it the First Time
- There are Only 3 Pricing Strategies for Your Startup
- How Carta is Capturing the Atomic Unit of the Entrepreneurial Stack
- FAQ on Carta, N-of-1 and atomic units
- Van Westendrop questions
- Quantified Buyer Personas
Well worth following: