How to Price Your Product or Service
Running out of money is one of most common ways to fail. When you are small, being cheap does not help. The only way to survive is to justify higher prices.
Action steps
- Decide what you charge for.
- What is your most common offering and price? Other variations and add-ons? Do you feel comfortable with this pricing or does it feel insane?
- How can you justify higher price? What price discrimination techniques can you use?
Charge from day one
You are embarrassed by your first product. It is natural to offer it for free in exchange of feedback and endorsements. Do not do it. Offer paid version from day one. Yes, you can also mention financial aid available for those who can not pay the full price. Charge for product even before it is available. Promote an introductory price for the first few customers.
Tesla Motors was collecting advances for Tesla Model S one year before the first car was delivered to a customer. New apartments are typically sold one-two years before the building is ready to move in.
Yes, there are exceptions. The “revenue later” model is much harder to pull off. Most of companies who succeeded on this route were founded by previously successful entrepreneurs. If this is your first serious effort, go for “revenue from the first day” approach.
Focus on revenue even in case of advertising supported product. Identify your most likely advertisers and ask them for letter of intent for buying ads at your media. What audience parameters they are looking for and how much are they willing to pay? Is it a sustainable model? How fast can you reach breakeven on this trajectory? If it does not look good, search for other revenue streams and focus on making money there from day one.
What to charge for
Fixed price. Many entrepreneurs are afraid of listing a specific number in their promotional materials. This is especially true about services like logo design or cleaning. Lack of public price hurts your advertising a lot. There are several ways to give specific numbers and keep the pricing flexibility at the same time.
- Publish historic prices for a few typical projects you did for previous clients.
- List a high price and give discounts.
- List a price for the basic version of your product and mention individual prices for custom offerings.
- Classify your services into a few categories and give a price range for each. E.g. basic logo design, advanced logo design (more iterations), and full brand identity service.
Recurring. There is a general trend for moving from products to services. E.g. leasing instead of selling apartments and cars, online radio (Spotify, Pandora) instead of selling music tracks, leasing servers instead of selling them. Can charge for your offering monthly or annually instead of selling it for one time fee? You can also combine setup fee with monthly payments. Many buyers prefer a small setup fee + regular payments over a high one-time fee.
Metered payments. Many services are now priced based on actual usage. Customers pay per hour, per kilometer, per megabyte or per visit.
Extras. Make your primary product cheap and sell high-priced adds-ons. Classic example include selling additional support, extended warranty and blades for your razor.
Revenue sharing. You can lease your product to a customer who intends to make money with it. Instead of a fixed price your customers give you a share of their future earnings.
Examples of revenue sharing. Let’s say you own an event venue. You can offer it to concert promoters for 30% of ticket sales. If you write a computer game, you can sell it to game publishers for a fixed price plus some percentage of future revenue.
Choose a price
Price based on alternatives and complementary products. When people do not know what you product should cost they look at two things: (1) what are the costs of alternatives, (2) what are the costs of other products in the same area.
Example: you can sell a framed photography for kitchen at a price similar to kitchen chair.
Prepare both rational and intuitive justification for buying at your price. Rational thinkers look at breakeven analysis, budget constraints and utility. Intuitive buyers are influenced by “anchor prices”, analogies and loss aversion (better buy now at a seemingly fair price than to spend time on detailed research). Complex B2B sales can start on intuitive side and close with rational justification.
Assortments
Vertical product line. Have “good, better, best” versions of your product at different prices. Think about naming. E.g. when you use “personal, small business, enterprise edition”, big companies will buy the top offering even if basic edition suffices for their needs.
Top of the line products can cost the same for you. E.g. you can have basic colors, premium colors and exclusive colors.
Horizontal product line. What are other products and services can you offer for your customers? You can also become a reseller for products in adjacent categories. E.g. J.Crew clothing store sells shoes from other brands.
Add-ons. What are other customizations and options can you offer? Generally, it is much easier to build a business with 1000 customers paying $1000 each than with 1000000 customers paying $1. Look for ways to increase an average check.
Charge more
Start with a high price. You should be rejected based on the price. With insanely high price you can always can give discounts, offer payment schedules and additional services. At the very start, it is more profitable to sell a higher-value version for rich customers than to have a barebone and cheap product.
If you feel comfortable with your prices, they are not high enough.
Increase perceived value. First, you can add more features, e.g. support, free delivery, convenience, color choice, customizations, warranty. Then, you can reframe your product within higher-order values: function (how buyer is using it) -> emotion (how buyer is feeling) -> social (what others are thinking of buyer) -> spiritual (what buyer is thinking of herself).
Create scarcity: increase demand, limit supply. E.g. create auction dynamics in real estate, art or exclusive events (annual dinner with Warren Buffet). To increase price you need to coordinate all demand to appear at the same time.
Be incomparable with competition. Give something unique together with your basic offering.
Price discrimination
Coordinate price with individual price sensitivity and strength of demand. If a customer really needs your product does not care about money, charge a lot. If client budget is tight and the value is uncertain, offer a better price.
Examples: birthday discounts, different price for logged-in vs. anonymous, higher price for mac users, regional pricing (iTunes), happy hours in bars, adult/children/elderly prices, special price for non-profits.
Price is defined by customer perception. Work to increase your perceived value and you can increase prices accordingly.
This article is a part of Earlydays, an open guide for first-time entrepreneurs.
Written by Yury Lifshits — yury@yury.name — @yurylifshits
