What Your Pricing Model Says About You
Deciding on your pricing model is one of the hardest tasks a management group has to reach consensus on. There are so many way to look at pricing each leading to a different pricing model. In this post we are going to discuss the different pricing models and see how they affect your customer’s purchasing decision, and also how they affect you.
This post is influenced by Crossing the Chasm, a best seller book by Geoffrey A. Moore. It’s one of the books we highly recommend to all tech entrepreneurs and explains the different phases within the technology adoption life cycle.
The Customer-Oriented Pricing Model
Your customers and how they think have a huge impact on your pricing. Depending on where your product is in the technology adoption life cycle, your target customer’s requirements are different and that should impact your pricing model.
Value-Based Pricing Model for Visionaries
In the very early stages you try free or next to nothing pricing models because tech enthusiasts are not willing to pay. They will reimburse you by their feedback and later by supporting you by talking about you to their peers. But when you pass that stage and start dealing with visionaries everything changes. Visionaries are not price-sensitive. They are willing to pay high prices for a technology that can help them take a strategic leap forward. They are willing to pay extra for services you provide to make your product fit their ideas and visions. They will shift you, impact your business model and they know they have to pay for it. This is pure value-based pricing. You will charge them not based on your costs or what other people charge, you will charge them based on the value you promise to deliver. Since there is so much value in the result, you can charge a lot for the value you provide.
Competition-Based Pricing Model for Pragmatists
Pragmatists are always on the market-leader’s team. They back the market leader because they know their service provider will be stable and they won’t have to switch providers anytime soon. They are against change in general and once they consider you the market leader they will stick to you for a long time. They know this strategy will keep their overall product costs down. They expect to pay a premium price for the market leader in comparison to the competition. This is premium could go as high as 30% in some point and this is called competition-based pricing.
This is different from visionaries. Although the market leader gets the premium, their pricing is still in comparison to their competition. If you are not the market leader, in competition-based pricing your prices might go as low as 30% below the average. The act of pricing itself could be an indicator of being a market leader or follower. Although you might think people will go for the lowest price first, that’s not true for pragmatists. When you price above the market average, you are sending a signal saying that you ask for premium because you are (or will soon be) the market leader.
Cost-Based Pricing Model for Conservatives
Conservatives are at the final end of the technology adoption life cycle. They are willing to wait until prices are low enough for them to enter. They only look for low prices and they know they can get them if they wait long enough. If your prices are more than just a small margin above your costs, they will wait. They don’t want competitive advantage and they won’t get it. As a reward they pay a fraction of the price others have paid before. You need to use cost-based pricing dealing with them and that will emerge in any mainstream market.
Vendor-Oriented Pricing Model
There are many things that can affect your pricing decisions. Cost of goods, sales, overhead, capital, and your expected rate of return (margin) are all part of the decision you make for your price points, and they are not related in any way to your market place. Based on all of these variables you come up with a price-point. That price-point will decide what channels you can use to sell your product: Web self-service, direct sales, Sales 2.0,etc. This is vendor-based pricing. The vendor-based pricing will mean that based on your price-point you will have to have different management perspectives on your sales funnel in order to achieve your goals. All of that into consideration, vendor-based pricing is considered the least sound basis for pricing decisions during the chasm, when you need to satisfy your customers the most.
Distribution-Oriented Pricing Model
In order to reach your ideal customers you select a channel (or channels) and then use your distribution partners to help you reach to your customers. From the distribution partner’s point of view you need to answer two questions:
Is it priced to sell?
Is it worthwhile to sell?
Your price point should be set in a way that it doesn’t become a deal-breaker during the sales cycle. This is a problem many companies who have dealt with visionaries have had. They were able to sell to visionaries for a lot of money, but failed to see appreciate the difference between those visionaries and pragmatists.
The other possibility is that a product will be priced too low. This means you haven’t incorporated sufficient margin in your price to reward the channel for the extra effort to introduce your technology to the main stream. This means they won’t be motivated to sell your product. This is distribution oriented-pricing. You need to price high enough to reward your channel and motivate them to sell it, but price it low enough for pragmatists to consider buying it.
For more on this topic see our previous post on Pricing Mobile Apps.