Pricing is a painful subject at most enterprise software companies.
No one is happy with their current pricing (regardless of what it is).
Everyone thinks they can fix it (or at least make it better).
Sales, Finance, Product Management, Legal, Product Marketing all think they should own it (or at least have majority vote).
The biggest issue? Different groups have their own agendas when it comes to pricing. With conflicting input and the lack of an overall pricing strategy, companies make sub-optimal pricing decisions where no one’s needs are fully met, and everyone involved is left frustrated.
Having experienced this problem many times, here are some tips to help guide conversations and arrive at better pricing decisions:
1. Make it easy for your customers to buy
Too often, companies focus internally rather than externally. They invest plenty of effort defining and refining the sales process but too little time understanding customers’ buying processes. This inward focus extends to pricing when companies primarily focus on limiting usage to what customers have actually licensed.
An old school way to price on-premise enterprise software is by processor core, where the vendor can restrict or audit usage accordingly. However, it is difficult to provide customers with an initial quote because it relies on complicated calculations to determine how many servers and cores are needed given a number of factors, such as user counts, data processing volumes, etc. The problem is magnified with the onset of virtualization and cloud computing given the layers of abstraction between compute power and physical servers.
Pricing strategies currently used by several big data vendors, based on the number of server nodes or the amount of stored data, hardly fare any better. Customers may know their number of documents but not necessarily the average or aggregate size of those files, once again making sizing difficult. Additionally, the number of server nodes required is, in part, dependent on the footprint, efficiency, and performance of the solution itself. Why should I, the customer, have to pay more just because you write crappy, inefficient software?
By better understanding what your customers know and value, you can develop pricing models that make it easier for them to buy and for salespeople to sell (even if it requires some level of abstraction to get to the primary pricing factors).
2. Take downstream activities into account
A previous company of mine effectively sold a single product. Yet, we had more than 2,000 SKU’s in our internal system. In an effort to leave no money on the table, we offered different versions, editions, options, and languages of the same product. This caused a combinatorial explosion and had a number of downstream consequences.
First, it was difficult for salespeople to provide accurate customer quotes without assistance from supporting organizations. Second, entering, validating, and processing orders was time consuming and costly. Finally, adding additional chargeable options was a nightmare requiring significant overhead of creating yet more SKU’s (further feeding the complexity monster).
Complex, convoluted pricing drives frequent deal exceptions causing downstream bottlenecks. This often means it’s harder to get the necessary approvals and contractual modifications in time for quarter and year end deadlines which can then have dire financial consequences.
Develop pricing that makes it easy for finance and operations to implement. This is almost as important as making it easy for customers to buy.
3. Determine behaviors you want to encourage/discourage
Very few organizations realize that pricing can encourage or discourage behavior. For example, many SaaS companies price on a per user basis. As a result, customers try to control costs by restricting access to only a core set of users, or they attempt to game the system by having multiple users share a single log in. Companies such as Workday and Plex, adopt a different approach pricing according to company size (e.g., revenue, number of employees, etc.). This strategy offers multiple benefits.
- It distributes pricing across a larger base of potential users making the product appear cheaper than if it were priced on the subset of users who might actually use the system.
- Customers are free to provide even casual users with access. By broadening exposure and usage, the solution becomes stickier and more difficult to displace.
- This pricing strategy can also create additional sales leads and opportunities. In the case of Plex, customers typically provide external access to partners and suppliers thereby exposing new companies to the solution.
As with sales compensation plans, pricing strategies can motivate different behaviors. Make sure the model you adopt aligns with your overall objectives.
4. Determine where you are on the acquisition curve
If you’re in the early stages of customer acquisition, your primary objective is to demonstrate customer and revenue traction. Given the risk early customers are taking, you also want to reward them for their trust. I have seen early stage companies overthink their pricing in an effort to extract every possible dollar. At this stage, it’s okay to leave some money on the table, since you want to make it easy for customers to come onboard.
As your market matures and new customer acquisition slows, you will try to increase revenue and profitability per customer (unless you are a SaaS company where it is all about growth). This may include tiering existing offerings based on perceived value, creating new solutions to increase up sell/cross sell opportunities, and maybe even charging separately for capabilities that were previously included (though I’d avoid the latter as it’s likely to destroy customer goodwill).
5. Consider value not just cost
Unless you’re Amazon accustomed to operating on thin margins or the established market leader, pricing primarily on underlying costs can be a slippery slope. Online storage companies typically charge based on the amount of uploaded data. Given that storage costs are diminishing over time, customers expect a corresponding decrease in pricing. This then creates a race to the bottom with only the largest players surviving given that scale affords them the lowest possible costs.
Instead, consider another approach. How about charging by data type? Personal photos are much more valuable to most people than professional presentations, spreadsheets, and documents. What if an online company handled .jpg’s differently as compared to other file types by providing additional services such as cross-regional backup and seamless disaster recovery? I know I would be willing to pay more for that type of service.
6. Listen to but don’t defer to sales
At a previous company, we disagreed about test and development licenses. Sales wanted to charge for them, since it was a relatively easy lever they could use to make quota, if needed. However, charging for these licenses had two drawbacks: 1) it ran counter to our efforts to build up our developer community by making it easy (free) for individuals to develop on our platform; and 2) it discouraged customers from following best practices relative to deploying development and test environments which then caused subsequent customer satisfaction and support issues.
When developing pricing, input from sales and other related groups is key. However, simply because sales likes or dislikes a pricing proposal is neither good nor bad. Once again, clarifying overall company objectives will help prioritize and give weight to the various inputs.
Pricing is painful. Don’t just adopt industry standards blindly. Invest time and effort to identify your overall objectives and determine the customer and sales behaviors you want to encourage and discourage. Given that your strategy and objectives will change over time, start simple, then adjust and expand from there. Even though pricing is hard, getting it wrong and having to change it after the fact, is even harder and more painful.
What are some of the traps and best practices you’ve seen when it comes to pricing?
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