Product Pricing

I came across a nice talk by Kevin Hale of YCombinator (and co-founder of Wufoo) about pricing your products. Do check it out https://www.youtube.com/watch?v=jwXlo9gy_k4.

There are 3 elements involved when pricing your product: cost, price and value. The gap between price and cost is the margin.

There are basically 2 ways to approach pricing:

  • Cost-plus Pricing
  • Value based Pricing
Pricing elements.

Cost-plus Pricing

Pricing based on margin is called “cost-plus”. You define your price by starting with the cost and adding it up with the margin that you expect. Cost-plus may be a suitable way of pricing commodity items but it is not a very efficient way of pricing software. Plus it is hard to predict the cost of the business as the product scales (i.e. hardware, development, support costs).

Value Pricing

You should be pricing your software product by value. However, the hardest thing about pricing by value is figuring out what those values are. What value does your customer get from your product?

Usually, customers buy software products so that they can make (or save) more money or save time. Keep it simple. Pick one, time or money. What do you think your customers expect most when using your product?

Your customers could actually be expecting both. What is important is that you test each of your hypotheses, one by one. Picking one hypothesis at a time makes it easier for you to focus on crafting your value proposition.

Once you determine which of these two values the customer is expecting most, you have to keep reminding them of the value they are receiving. This is particularly important for subscription businesses as customers can easily leave if they do not perceive value. It’s all about keeping a relationship with the customers.

Determine The Hypothesis To Test

I started out with the hypothesis that customers were using OrderSiapSiap to increase orders. So logically, the number of orders would be the main value metric. However, I began to question this hypothesis. The number of orders greatly depended on the marketing efforts of the sellers, which is outside the scope of OrderSiapSiap. It is meant to be a tool (at least for now).

My new hypothesis is that sellers are using OrderSiapSiap hoping to spend less time on managing orders.

Testing The Hypothesis

Then comes the question of “how do I test this hypothesis”. How do I measure my progress? I have a few ideas on metrics I could use to measure the progress:

  • Average time to checkout – time saved when not using the current back and forth method of ordering. I could gather data on the average time required to close a sale the old way.
  • Conversion rate – the rate at which customers initiate an order to actually confirming it. However, there is no benchmark to compare this to. I could use the current established conversion rate for e-commerce stores.
  • Average number of orders per day – the number of orders a seller receives in a day. I should only measure days with orders. This could also help them realize the amount they are saving not hiring someone to do the job manually.

I think I am going to start with the average number of orders per day.

5-20-20 Rule

In the talk, he closes with a simple rule: the 5-20-20 Rule. The main premise of the rule is to keep raising the price until you are losing 20% of new customers. He suggests that a 5% raise on each iteration should be a safe increase. You can monetize the other 20% of your lost customers by offering discounts and tiered pricing.

An important thing to remember is to keep reminding your customers of the value they’re paying for. I am thinking of sending out weekly reports to sellers.

5-20-20 Rule.

Wrapping Up

In summary, pricing is very important. It needs constant attention. Patrick from Profitwell says companies that update their pricing at least once every 6 months are seeing nearly double the ARPU (Average Revenue Per Unit) gain than those who upgrade their pricing only once per year or longer.

Thank’s for reading.