Why I Think Google Chrome Pixel Pricing Is Wrong

When Google unveiled its new touchscreen laptop, Chrome Pixel, Chrome executive Mr. Pichai said

the high price tag was justified and argued that the Pixel stands up very well against a MacBook Air

It is usually a bad sign when a brand uses words like, “the pricing is justified”, let alone  comparing against market leader with established track record in the category. Last time we heard the price tag justification it was from then Motorola executive on Xoom pricing. We know how it ended (agreed, one data point does make evidence).

If you are going to justify your price tag the best path is to use cost arguments, signaling to customers that you were doing it only because of your hardship and appealing to their “good will”. Classic example is Starbucks. While you set the prices based on customer value (and definitely not on costs) you do not communicate so explicitly to your customers.

This is how head to head comparison of MacBook Air and Chrome look like (after upgrading MacBook Air to 8GB RAM).

Let us assume, for now, that indeed Chrome Pixel is packed with features, compares favorably against MacBook Air. But does that mean Google can set the price point to match value delivered (or perceived)? No. The reason is the Value Waterfall.

Several factors are at work here that cause value leaks, bringing down the price customers are willing to pay. In case of Chrome Pixel, the value leaks are

Credibility Discount: It is from a brand that isn’t known for making premium hardware. Nor is the Chrome operating system as mature, full-featured or have supporting App ecosystem as Apple’s OS X.

Selection Cost: Customers are told the additional value comes from touch screen feature (which may not be relevant to them) and from the extra 1 TB of Google Drive storage for 3 years. This isn’t as obvious to customers who have to do the math to see value of 1TB of Google Drive.

Cost of Doing Business: Operating System, Apps, buying experience, support, user experience – everything comes into play here knocking down value delivered.

Risk Aversion Discount: This isn’t the first attempt by Google in making hardware but there isn’t much track record for customers to see. For all practical purposes this is version 1.0 from an upstart laptop maker who does not have integrated hardware-software design.

Reference Price Difference: While Google wants the reference price to be that of MacBook Air, customers will most likely use previous Google Chrome models sold at $299 and tablets with same storage ($499 for Nexus 10).  Despite the additional features and the value Google would want customers to focus on, customers will see the price jump from $299 Chrome to $1,299 Chrome Pixel an unpalatable (and even unjustified) price increase.

So it is not a surprise we see several media reports knocking down Google’s pricing. In his review of Chrome Pixel, Om Malik wrote,

Pichai and I argued a bit about the pricing strategy: my belief is that they need to sell a lot more devices so the price has to be much much lower. Pichai argues that one needs to be able to open our mind to the possibilities of a cloud-based machine. He said that one shouldn’t look at the 32 GB of storage, but instead focus on the terabyte of storage space that comes as part of Google Drive.

Google is not only trying to justify its pricing but also its measly 32GB storage by signaling value from its 1TB cloud storage. But the Google Drive cloud storage comes for only three years and costs $50 a month. On the surface it would appear the 1TB space is good value – if you were to get it separately it costs you would pay $50 a month and hence a value of $1,800.

But that depends on a customer segment that values cloud storage over additional flash storage on their laptop. Besides after that three years it is going to cost customers $50 a month because with all their data on Google Drive there will be significant switching costs. This goes back to the value leaks I discussed above.

Finally, is it possible that they uncovered a segment that values this product at the current price point and we are not the target segment? Mr. Pichai replied to Om,

“The device is for a segment committed to living to the cloud, and who really want a good, high-end laptop, and we believe we have built the best laptop for that experience,”

If true then they should have controlled the messaging channel and the messaging to communicate the pricing and value proposition to just that segment with proper product positioning.

They are not clear in their product positioning to that segment – they are positioning Chrome Pixel against MacBook Air, asking customers to hire Pixel for the same job customers hire MacBook Air for and for the same price. That contradicts their segment definition of “committed to living in the cloud”, because that segment may be hiring different cheaper alternatives and not $1,299 MacBook Air.

Furthermore even if such a segment exists, their willingness to pay will probably go down when they see the media reports on Google getting its pricing wrong.

At this point it is safe to drop likelihoods and probabilities and go on record to say, “Google got its segmentation, targeting, positioning, product and pricing wrong”, with its Chrome Pixel.

 

Sure the market seems big but what can you address?

Here is a tried and tested triangulation framework to size your opportunity

Top-down: You can get an estimate of this from several secondary market research reports and analyst reports. Remember reading certain analyst firms predicting cloud spending reaching $xyz billions by 2016? That is  top down estimate. Even if your product is entirely new you can get an estimate of the market spend from related categories (like hand dryer market sizing)

Bottom-up: If top-down is about what others are making in revenues you need to find what exactly are the customers spending. Say if you see analyst report that fitness apparel revenues will reach $70 billion by 2016 you need check who is spending, how much and from what budget to generate that kind of revenue projection. Many sources are available including census.gov. You need to reconcile what you see as revenue with what you see from customer spend checking if the revenue projections are matched with customer spend.

Your Reach: Sure you can stop with the two but can you reach the identified market with your product, channels and limited resources? This is the hard part and requires you to make strategic decisions to define the segment you can successfully serve better than any other competition. For instance, there are indeed 30 million public toilets in USA but can you serve all of them with your $1500 designer hand dryer?

If you need help sizing your startup’s opportunity, let us talk (I have square device don’t worry).

The Simplest of all Business Models

If you want to use Wifi at Pete’s Coffee & Tea you will have to buy something first.  At the counter they give you a code to use, that allows you about an hour of surfing time.

In many local coffee stores you technically have to buy something but once you do, you can stay parked in their tables for hours without buying anything. In Pete’s bigger competitor, Starbucks coffee, it is the similar unlimited free access plus access to premium extras like The Wall Street Journal.

Coffee shops complain about those who occupy tables for hours at a stretch, buy little or nothing and mooch on their bandwidth as well as electricity. Customers who do spend money at coffee shop and need good connectivity for an hour or two complain about the poor speed and difficulty in finding tables near outlets. General customers (who hire the coffee shop for, coffee) complain about the crowd and lack of seats to simply sit and enjoy their brew or have a conversation.

Free Wifi became a popular perk for coffee shops, restaurants and hotels to attract customers and keep them in their shops. If the customers chose your business over others because of free Wifi, you win. If the customers stay because of free wifi and continue to spend during their stay, you win. You have successfully used free wifi as lead generation tactic and customer retention  tool. (Freemium?). For instance, Panera bread saw its sales increase by 15% when they introduced free wifi.

On the other hand, what is free to customers, is not so to businesses. There are costs of operation (making sure there is enough capacity) and opportunity costs (both for the money spent on their big pipe broadband and the moochers). When everyone else offers free wifi it becomes difficult for a business to either stop offering it or start charging for it. Add to this customer dissatisfaction from providing poor internet service.

Look at where we are in the discussion. We are not talking about the compelling value proposition a coffee shop (or a restaurant) offers but talking about a perk. Let us not forget the primary job these businesses wanted customers to hire them for. If customers’ choice is made based on secondary and tertiary factors, the primary value proposition has become irrelevant. If a business fears their customers will walk next door for free wifi they are admitting that their product is an easily replaceable commodity.

That is a bigger problem they ignore while fretting about wifi costs. In focusing on free wifi as lead-gen activity they ignored the core customer segment they started with and the customer jobs they hoped to serve. While some may call free wifi (and Freemium?) as business model innovation, this is essentially losing sight of customer needs and your core competence.

If the customers didn’t hire your coffee shop for coffee, should you tie your business model to selling coffee? That is an incongruence between value creation and value capture.

On the other hand your strategy – to serve the most amazing coffee – need not be fixed. You can see the customer shift and decide your strategy is to serve those customers who have a connectivity need and are not satisfied with existing alternatives. You recognize customer issues with poor speeds in free wifi places and provide reliable speeds as differentiated feature. In such a case you cease being a coffee shop and become a workspace provider. And guess what, you now can charge for that value delivered.

The business model is back in sync with value capture matched to value creation.

That is exactly what is happening in Russia’s Clock Cafe.

“You don’t have to pay for coffee or tea or cookies. You should pay for time, and time costs — I hope — [are] not that expensive.”

And their target segment? Students and business folks who hire them for connectivity and hence pay for the value they get.  Nicely done. However, I think they fixed one mistake but introduced another – making coffee free. There really is no reason for them to offer free coffee, especially the premium kind they claim they deliver,

We have cappuccino, latte, espresso, Americano, and our coffee is not the cheap one

They are committing the flip side of free wifi at coffee shop mistake. Sooner or later they will run into the free wifi problem in reverse. Why bother with coffee or why not charge for it? Especially if the customers didn’t hire you for coffee?

When it comes to business strategy, starting with customer needs and choosing the ones that you can serve better than others remains the best approach. And when it comes to business models, charging for value you deliver remains the simplest of all approaches.

What is your strategy? What is your business model?

Segmentation, Targeting, Positioning and Pricing As Customer Jobs To Be Done

The Customer Jobs to be done is a powerful metaphor introduced by Clayton Christensen in thinking about demand and new product development. Christensen’s framework requires us to view our product as something customers hire to get a job done. With different customers there are different jobs.

The term ‘job’ really represents the unmet need at hand. It covers both utilitarian as well as hedonistic (and hence needs and wants). It also makes sense to view this as ‘hire’ decision since they can either stick with what they already have or switch when they find better alternative.

He illustrated that with an example of why different customers hired milkshake from a fast food restaurant. Understand the different customers and the different jobs you find what product and what prices.

In some sense this isn’t new if you viewed what Ted Levitt wrote 50 years back – “customers are not buying quarter inch drill, they are buying quarter inch hole” – which speaks about the customer need and not the product and its features.

The other solid strategic marketing framework that came from Levitt is

• (Customer) Segmentation
• Targeting
• Positioning
• Pricing

And the Jobs metaphor fits perfectly well with this tried and tested framework (in strategic marketing there is really nothing new despite what some gurus say). Let me map the STPP to Jobs To Be Done metaphor

Segmentation: I am not talking demographics based indirect segmentation here but the right way of segmenting based on customer needs (or needs based segmentation). You are grouping together customers based on the similar jobs they are trying to get done.

Targeting: Strategy is about making choices. Simply because you mapped out all different segments with their needs does not mean you can serve them all. No one has that level of infinite expertise or resources. You need to find where you will differentiate enough to succeed. There are multiple different customer segments and many different jobs, but which customer and which jobs are you going to target?

Positioning: Positioning is creating a unique, relevant and differentiated positioning in the minds of the customers for your products. From the jobs perspective it is telling them clearly which job you want them to hire for and why your product is the most suited candidate for that job. While your product could be hired for many jobs you want to go after those where you have sufficient differentiation and also pay well. You don’t believe Apple wants customers to hire iPad as a way to display photos on their coffee table, do you?

Pricing: Pricing is your way of getting your fair share of value you create by doing the job. It is what your product gets paid for getting the job done. (I did not run out of things to say on pricing, that has been the main focus of this blog.)

That is it to marketing strategy.

What effective pricing can do for your business

Take a look at this image courtesy of Planet Money

Revenue difference between MegaBloks and Lego

What you see are the annual revenue numbers for MegaBloks and Lego. Since Lego does not have (any more) exclusive rights to make the bricks, anyone can make them. And MegaBloks does. Its bricks are perfect replacement (as for as I know) for Lego bricks only cheaper.

How cheaper? 50% cheaper. Yet Lego makes 9 times more than what MegaBloks does in a year. Not only in revenue numbers Lego also beats MegaBloks on its margins as well

Gross Margin       70.5% Lego to  40% Mega (source below)

Operating Margin  30.1% Lego to 17.6% Mega.

A little bit of math will convince you Lego has no cost advantage. At 30% cost, even if it halved its price to match Mega’s prices, its margin will be 40%. In other words any (percentage) margin advantage Lego has comes purely from its pricing and not because of cost advantage.

What is going on here? In the words of Jeff Bezos, isn’t MegaBloks working hard to charge customers less and Lego working hard to charge more? Why aren’t customers overwhelmingly picking MegaBloks based purely on price?

If lower prices are designed to drive market share how come Mega has just 10% of market share despite being priced at 50% of Lego?

The Planet Money story says it is because of Lego’s attention to detail and because of their licensing deals for Starwars. But they miss the point. The answer, as in all pricing questions, begins with customers.

Think about the loyal customers who already have spent hundreds if not thousands building their Lego bricks collection and bought into the Lego brand and its messaging. Include the newbies who are getting inducted. Toss in those who are buying Lego as gift for someone else. Do you think any of these customers would make buying decisions based on price? What job do you think these customers are buying Lego for? I bet it is just not as a building blocks toy.

If such customers perceive value at its current prices and are willing to pay such prices there is no reason whatsoever for Lego to give its product away at lower prices. Pricing low because of cost, competition or in the hope of gaining market share is simply not effective pricing.

Lego’s effective pricing driven by customer segments helps it achieve 70% gross margin and 90% of the market.

Finally I should not dismiss MegaBloks or call its pricing bad. MegaBloks likely knows its target customers as well -a tiny fraction that is price sensitive but isn’t likely to grow. They likely found the optimal segment size and the price these customers are willing to pay that will help Mega deliver 17.6% operating margin (nothing to be sneezed at).

But if it really wants to put big numbers on the board it needs to get its own customers who are will hire it for its compelling value proposition and not because it is a cheaper substitute.

From Effective Pricing to Egregious Pricing – Starbucks

In the past I have only written praiseworthy things about Starbucks pricing. I always admired how they set prices for their drinks, decide to raise prices when everyone else was running price promotions and how they communicated their price increases. This time I think they have crossed over from effective pricing to egregious pricing.

First time I wrote about Starbucks pricing it was on their decision to increase prices when the global economy was going into recession

In the case of Starbucks, how did they arrive at price increase, going against the flow? The simplest calculation here is, when price conscious customers moved out all they are left with are price insensitive customers who prefer their products. Hence it makes sense to charge more for them as long as the loss in profit from further drop in customers is less than the increase in profit from higher price. (Here is an attempt at formal proof on why increasing prices yields better profits).

Later on it was on their price communication,

As you read this multiple times you will find all kinds of reasons except, “We cater to a somewhat higher-income customer and we price our products based on customer willingness to pay. Besides we don’t expect any push back from these high income segment”.

A key attribute of those practicing value based pricing is never explicitly saying that they are practicing value based pricing. There are always other reasons and you never say pricing at customer willingness to pay. A key part of practicing effective pricing is effective pricing communication and managing customer perception.

Even when they announced $7 lattes I only had good things to say. After all they likely have more data on their customers and buying behaviors than any of us do. They likely found a segment willing to pay $7 for lattes and are simply targeting them with a product version at a price those customers are willing to pay (second degree price discrimination).

Even if there is no such segment, a $7 price tag helps to improve the reference price in the minds of rest of their customers and hence will provide Starbucks with a way to increase prices of their other drinks.

All these are effective pricing. No doubt. But now I think they crossed over from effective to egregious, launching a contemptuous attack on their customer’s intelligence.

Starbucks recently introduced its new Steel gift card that is sold only through Gilt.com and costs you $450 but buys you only $400 worth lattes.

If we leave out the last phrase “$400 worth”, everything else about this product is indeed effective.

1. They chose the right customer segment and set a price specific to that segment
2. Set a hard limit on number of units they wanted to sell – a result of their understanding of the size of the segment and a tactic to create artificial scarcity
3. Designed the product to be distinctive (Steel over Plastic) – making it a conspicuous consumption. Imagine flashing this card in your local Starbucks, the baristas and the rest of us mere mortals have no option but submit to your opulence (Disclosure: I go to Starbucks only when someone else is buying)
4. Selling it only through luxury goods website Gilt.com and not at every Starbucks outlet – thereby not only reaching customers with high reference price, high willingness to pay and high wherewithal to pay but also not targeting rest of their customers
5. Guaranteeing profit from a high value gift card that locks up future sales and the possibility to add 10-15% of face value as profit from breakage (customers not using full value of the card)

Had they stopped right there, a $450 card worth $450 lattes, that would’ve been effective pricing. Then they took it one step further.  They decided to extract even more profit by setting the value of the gift card to only $450. And as they were wont to do with giving cost reasons they said,

One reason the card is so pricy is because it isn’t made of plastic — but specially etched steel. That guarantees the heavy metal wedge with the familiar Starbucks logo will stand out in your wallet and at the cash register.

The Starbucks card costs $50 to make,

Even if it is true, why should the cost matter in this case? This is not a true product. This is like the US Treasury asking you to pay $550 in change for a $500 bill because it costs them $50 to print that bill.  While it made perfect sense to use cost argument to push through price increases, cost has no relevance to take away value of the gift card.

What they have demonstrated here is utter disregard for the customer. They probably think, if these customers were willing to pay $5000 for a luxury product that costs $50 make why not take $450 cash from them for $400 worth lattes.

The sad part is they may be right and they likely will sell out all 5000 of their limited edition steel gift card. After all don’t we all pay $100 more for 16GB additional flash that only costs pennies? May be the steel gift card is laser etched and designed to fit so perfectly in your palm and that alone is worth $50 for some.

My outrage is probably misplaced and egregious pricing is likely the new effective pricing.

How are you going to react when you see that startup founder flashing the steel card at Starbucks, especially when his product is free?