Here are some questions I received from my colleagues and entrepreneurs who read my articles on pricing based on value.
Does pricing based on segmentation and value to segments apply only for established enterprises?
Is value an irrelevant term for innovative new products that aren’t just improvements over existing products and are truly different from anything that existed before?
Does pricing for information goods (bits over atoms) require us toss out all our understanding of economics and look for a new one?
Pricing on value for the customer is tough when you are a startup with very low reference point to measure the true value. There are some direct value in using my product, and there are indirect benefits. How do you measure/estimate all these?
These are valid questions, there are no pre-packaged answers for all. But the basic premise of marketing remain unchanged even for startups and digital economy – segmentation and targeting.
Let me answer one of the questions – how to determine value to customer for new offerings – based on what I did in the past. The solution was a stopgap and served its purpose when the value to the customers was not clear. It was based on relative price – that is price relative to what customers pay for products and services in the same class.
One of the clients had a product that was easy to explain but was difficult to define value to customers. The product was generic enough for customers of all sizes and verticals but it was clear not all of the customers had the same wherewithal to pay. Since the value was not clear neither was customer WTP and hence there was no demand curve. The product is bits not atoms and had no marginal cost. So it is fair to say this had all the complications raised by entrepreneurs.
What job is your customer hiring your product for: The first step I did is positioning the product – there are many definitions of positioning the one I mean here is creating a connection in the minds of the customer to a product/service they already know and use. This is the hard part and the first one may not be the right one. One way to define this is by answering “what job is the customer hiring your product for?” (Clayton Christensen). Position your products for those jobs. (Note that the usual marketing strategy is S-T-P, here it is P-S-T)
Segmentation: The second step is segmentation based on value. Since value is the undefined part here, I looked at what is the total customer spend to solve those jobs. For instance if you are positioning your product for team collaboration, find out what different customers spend yearly on alternatives they use. Dig deeper and find indirect costs that are incurred due to inefficiencies of current solutions they use. Rank order the different segments based on their spend and other factors.
Targeting: You cannot go after all segments. This is especially true for a startup with limited everything. The total opportunity size may look attractive but you need to identify those segments that are attractive in terms of opportunity size, ease of reach, other competitors serving those segments and future potential. I chose the segment that had the most annual spend and did not have a way to track the ROI on its spend.
Pricing to get a share of the budget: Then I priced it as a share of the average spend of the segment. For example for the team collaboration case if the average annual spend by a customer was $1 million, I would have priced it as 0.1% to 0.5% for my offering. As you notice, this has no relation to value but makes it easy for you to have a conversation with the customer by pricing it relative to what they pay for similar services. Your pitch could be, “for 0.1% of what you spend on X our product will help you achieve results 1, 2 and 3”.
The net is I am not recommending this approach for everyone nor would I do it next time but this helps to illustrate the point that there are ways to price a new product when the value isn’t always clear. It was basically asking:
- Whose budget is this going to come from?
- What is the size of that budget?
- How can I get a tiny fraction of that budget?
What are your thoughts?