The new year is coming, and it is time for New Year’s Resolutions. Mine are to read more slowly, to spend more time in the garden and less time staring at screens, big and small. For business though, pricing is a good place to make a few critical resolutions. Pricing is one of the most powerful ways to shape your strategy.
OpenView and its team, led by Kyle Poyar, have done an excellent job over the past few years in highlighting the importance of pricing at a strategic and tactical level. Pricing is also central to the product led growth model that OpenView is driving. You can access some of the critical resources here:
Pricing was one of the big trends in 2018, as was pointed out in “The SaaS Trends You Need to Know for 2019.”
“Nearly two-in-three SaaS companies changed their pricing, according to data from over 400 companies who participated in our 2018 Expansion SaaS Benchmarks survey. For companies that did change their pricing, these changes had a substantial positive impact on revenue growth. Two-in-five reported a 25% or higher increase in ARR just as a result of the pricing change. Only 2% said the pricing change decreased their ARR.”
Another thing we have been noticing is the increasing application of service design and design thinking to pricing. This fits well with OpenView’s product led growth model, connecting pricing to the product strategy.
As you think about your pricing for 2019 here are five resolutions to consider. You don’t have to select all five, but try to implement at least three. You will find you get increased pricing power and are better able to connect value to your product architecture. The result will be improved profits and accelerated growth.
- Update your segmentation
- Compare customer lifetime value (LTV) and value to customer (V2C)
- Monitor your tiered architecture and see if it is doing its job
- Talk value before price in your sales process
- Make discounting strategic
Update your segmentation
Market segmentation is the foundation of all your marketing strategy, including your pricing. A list of industry verticals or geographies is not a compelling segmentation. Firmographics and demographics are important inputs to segmentation, and may help identify what segment a customer or prospect belongs in, but it is not a compelling way to segment your market. Instead, try finding the clusters that get value from your offer in the same way and that buy in the same way. To do this, you need to understand your value drivers and have a good understanding of your customers’ alternatives. You also need to know something about the decision making units (the stakeholders) and how decisions are made. All of this takes work. You need to dig deep and really understand your potential customers. But it will pay off. A good market segmentation is unique to your offer and helps bring your differentiation into focus.
Compare customer lifetime value (LTV) and value to customer (V2C)
Unit economics have become a critical way to measure and manage companies, and one of the most important of these is customer lifetime value (LTV). This is the revenue (or gross profit) that you can extract from a customer over the time they will continue to pay you. The sum of LTV is your customer equity, a metric that some investors are using to value companies. Pricing has critical and complex impacts on LTV that you need to map out. But LTV is not the whole story, or even where to begin. Just as important is the value to the customer or V2C. This is the value that you provide to a customer over the lifetime of use of your offer. Start with this. Then make sure that V2C > LTV. You have to provide more value to your customer than you extract through your price and revenue model. For a deeper dive on this see Value to Customer (V2C) is as important as Customer Lifetime Value (LTV).
Monitor your tiered architecture and see if it is doing its job
Many companies, especially those with subscription models, use tiered pricing architectures in which there are three-to-five different packages priced at increasing levels. These tiered offers can have several different motivations. In some cases, the most expensive tier is meant to have a framing effect on the other lower-priced tier. In most cases, the offer immediately below the top tier is the target tier and benefits most from the framing effect. Think about the role the most expensive bottle of wine on a wine list plays. It is there not because many people will buy it, but because it makes the next most expensive bottle look like a good buy.
Another way that tiered offers are used is as feeders where an entry-level offer is meant to lead to upsell to higher priced offers. If this is your strategy, then look at your data and make sure this is actually happening. If it is not (and in most of the companies we analyze it is not) then you need to ask what changes you can make to the pricing and packaging to make the strategy effective, or if the answer is that there are no changes that will achieve this, then abandon the strategy.
The third common reason for using a tiered pricing model is to cover more of the demand curve and to align price with value. Some prospects will only buy at a lower price but will be satisfied with less functionality or value. At the top of the market buyers may be prepared to pay a lot, but want a lot of value in return. Here you want to look at the shape of your price curve, as it encodes your assumptions about market structure.
A straight line implies that you think there is a relatively even distribution of buyers. A concave curve implies that the lower end of the market is more important to you (or that there are more potential customers on the left side of the curve). A convex curve suggests that the right side of the market, the buyers that are willing to pay more, are more important to you.
Make sure you know the goals of your tiered architecture and then test to see if it is actually meeting those goals. Adjust pricing and packaging as necessary.
Talk value before price in your sales process
Before you talk about price, make sure you have established your value. Specifically, make sure that the buyer understands your differentiation value. If you or the buyer moves quickly to price then the discussion will focus in on price and there will almost always be some level of discounting expected.
Every communication with the potential buyer should provide some value to the buyer and communicate your offers’ value. This starts with your website and social media presence, and it needs to follow through your sales process and then be followed up through delivery and use.
One way to do this is with a customer journey map. Consider adding the following lanes to your journey map:
- Value communication. Know when and how value is communicated across the complete customer journey.
- Value resonance. Know when the buyer not only understands your value but when they begin to care. Do not discuss price until you have value resonance.
- Value delivery. Know when and how you are providing value.
- Value capture. Make sure you are capturing enough of the value to have a sustainable business and see how well value delivery and value capture are aligned.
To go a bit deeper into this, read these posts on pricing and the customer journey map.
Make discounting strategic
Discounts are a fact of life for most B2B businesses. There is nothing wrong with this and there are legitimate reasons to give discounts. In some cases, a customer gets less differentiated value than was assumed when the pricing was designed. In certain cases, discounting to better align value and price is a reasonable thing to do.
One also hears discounts described as investments in a customer or a sector. This is wonderful when it is true. Of course, one makes an investment with the expectation of getting a return. So any ‘discount as investment’ should be accompanied with a plan for how it will generate a return and with a risk analysis.
Review your 2018 discounts and ask why the discount was given.
- To align price and value? How was value determined?
- As an investment in a customer or a sector. When will there be a return? What are the risks?
- In response to a competitor? What is your differentiated value relative to the competitor?
You should also evaluate the impact of discounting on overall pricing, for your offers and for your industry overall. One of the most effective ways to destroy the value of an industry is through a price war, and discounting is often how price wars are carried out.
Good luck with your pricing strategy in 2019. Take some time as part of your strategic planning to consider your pricing and the impact it has on the rest of your business. Pricing is where all of the aspects of marketing come into focus to drive revenue and profit growth.