PRICING STRATEGIES

FOR STARTUPS

OMAR MOHOUT
GROWTH ENGINEER

Contents

ONE

TWO

THREE

FOUR

PRICING

PRICING METHODS

MULTI-AXIS PRICING

PRICING STRATEGIES

Slides 3-9

Slides 10-13

Slides 14-17

Slides 18-21

FIVE

SIX

SEVEN

FREE OR PAID

FINAL WORDS

CONCLUSIONS

Slides 22-25

Slides 26-27

Slides 28-29

Omar Mohout

PRICING
You can always pay cheaper,
but is this what you want?

Pricing Determines Your Market Position

Commitment of money is
a very powerful validation of
your business model.
The price your customers are willing to
pay validates to which degree you have
nailed the solution.
Pricing is one of the most sensitive
topics in business. It will determine your
market position, whether or not your
customers can buy from you, the sales
and distribution channels and whether
or not you can provide the level of
service expected by your customers.

Most of us determine prices using

competitive research and / or cost
estimates. A high price may result in less
customers whereas a lower price can be
seen as leaving money on the table.
Often, the price stays where it is, never
knowing how many more customers you
could have had or how much money
you're leaving on the table.

Price is the dominant factor for

your profitability.

11 %
1%
A price increase of 1% results
in 11% increase in profit.

Omar Mohout

The Relationship between Price and Customers

A higher price means less customers.

$10

$20

$50

$100

500

300

50
5
At a $10 price point: 500
customers will buy.

At a $20 price point: 300

customers will buy.

At a $50 price point: 50

customers will buy.

At a $100 price point: 5

customers will buy.

Omar Mohout

The Optimal Price-Customers Tandem

The optimal price provides the maximum revenue
not the highest margin or the largest number of customers.

$20 is the optimal price

$6.000

$100

$5.000
$50
$2.500
$20
$10

$0
5

50

300

500

Correlating price points with potential clients is

called in economics, the demand curve.

50

300

500

Multiply the number of potential clients with

the respective price points to find the optimal
price-customers tandem to maximize revenue

Omar Mohout

Setting the Right Price

Price is not what you think you

can charge, but what your
customers are willing to pay
based on the perceived value.

Traditionally, the price is the sum between

cost and profit, which means that in order
to determine your profit, you need to
subtract the cost from the price, which
is known as lean thinking.
A better way to determine your profit is :
Sales Fixed cost Variable cost.
The better way for Start-ups to improve
margins is to increase volume with the
same fixed costs and less variable costs.
It should go without saying that the price
must always be higher than costs.

Before setting the price, you need to ask

yourself the right questions:
Why would people pay for my services
or products?
What value will customers get from my
offering?
Once you identify the reason why
potential customers are willing to pay, you
can create a business model to capture
that value. In doing so, you need to have a
clear understanding of your products or
services value before you set the right
price.

Omar Mohout

Delivering Value

What type of value are you

delivering? Make sure your
product or service offers more
than what the customers pay for.

Benefit

The value hierarchy is the order of values

that influence business decision making.
Those values are:

Benefit of the Benefit

At the end of the day, the decision maker
is a person that will take a risk with
adopting your product in the organization.
Often its important to understand whats
in it for them to make the decision. This
value is called the benefit of the benefit

Features
A products features represent the basic
level of value delivered.
Advantage
The advantage that a product offers.
This is a characteristic that competitive
products dont have.

The benefit is the impact of your product

on the customers business often
measured as Return on Investment (ROI).

DECREASE
COSTS
REDUCE
RISK
INCREASE
REVENUE

The Pain of the Pain

The pain of the pain is having a solution
for a problem that is a pain in itself.

Omar Mohout

Factors Influencing Pricing

For a trader, selling is buying.

The purchase cost drives 80% of
the sales price.
For a manufacturer, selling is productionefficiency. The production cost drives
80% of the sales price.
For products based on Intellectual
Property, such as software, SaaS and
web services, cost is driven by two major
factors: the cost of sales and the level of
support you want to provide.

VALUE
Need (B2C) vs. Pain (B2B)
Return on Investment (ROI)
Must Have vs. Nice to Have

CLIENT ALTERNATIVES
Doing nothing is #1 alternative
Alternative is often the use of
Excel

$$$

COST
Variable Cost
Fixed Cost
Internal Cost Structure

MARKET
Type and Length of Contracts
Competition
Regulation

Omar Mohout

PRICING
METHODS
There are 11 different pricing methods you can use

Pricing Methods

1. SILICON VALLEY RULE OF THUMB

3. INDUSTRY BENCHMARK

5. GOOGLE-ADS

We charge this much because our

customers get at least 10 times that much
value. In other words the ROI is at least
10:1. You need to really understand
your customers and the value you
are delivering.

The license model typically charges about

3 to 5 times as much as the SaaS model
for a lifetime license.

Lookup the cost per click for relevant

search words, using Katalict. The price
of a word is a starting point to calculate
the cost of sales.

2. CUSTOMER INTERVIEWS

This is a very effective method but it

requires that you know your cost
structure very well.

Dont ask the customers for ballpark

pricing. It is better to explain your pricing
model. Usually the right price is the one
your customers accept, but with a little
resistance. Keep in mind that Price
Objection is in fact Value Objection.
Its not the price that they are not happy
with. Its the value they dont like. You
need to know the customers willingness
to pay (value perception) and their ability
to pay (how, when, why, where, how).

Calculate back, based on industry gross

margins: Software = 70 - 95%,
SaaS =60 - 80%.

4. BREAK-EVEN POINT
You need to determine the potential
revenue, costs and margins. What is
the right price which ensures you have
a viable business? Simulate with halved
assumptions as Start-ups tend to
overestimate revenue and
underestimate costs.

Fill in an estimate of your sales funnel

costs, conversion rates and the lead value.
The ratio between the cost estimate and
revenue estimate is the ROI for the sales
funnel. The simulation will result in the
cost of sales, often the largest cost driver
for Start-ups.
LINK : KATALICT

Omar Mohout

11

Pricing Methods

6. ANCHORING BENCHMARK

7. DECOY EFFECT

8. BUY VS. BUILD PSYCHOLOGY

People can only understand relative value,

not the absolute one. Anchoring is
probably the most powerful force in
todays economics as you can compare
your product or service to something
much expensive.

Consider 2 USB keys. The majority will buy

USB key B since it provides much more
value for money comparing it to Key A.

Using this method, you can price your

producton an annual basisat 10% of
the equivalent "build" price if the
customers want to build it themselves.

Take Steve Jobs for example. He

compared the $499 iPad versus a $999
laptop, making the iPad seem
inexpensive. Retailers are mastering this
art of using suggested retail price as
anchor, making your special price look
like a good deal.

32GB

64GB

$29

$39

When adding a cheaper USB key than the

initial two, the purchase will shift to Key A
thanks to the introduction of the Key C
decoy.
32GB

64GB

8GB

$29

$39

$25

For example, if the customer has to pay

$100,000 for building a similar product,
you can price your product at $10,000 per
year. In other words, you will provide your
customers 10 years of outsourced value
without a huge upfront cost.
As additional benefit, the customers get a
product that will continually improve,
compared to a static product they build
themselves.

Omar Mohout

12

Pricing Methods

9. PRICING DISTRIBUTION FIT

You need to ensure you have the margins
to accommodate resellers, distributors,
agents or affiliates. If you have a 40%
gross profit margin and a distributor
needs a 70% discount off the price, youre
forever limited to direct-to-consumer.
You can still increase your pricing and
margins after-the-fact, or launch new
"premium" products to fix this problem.
10. COMPETITION
You stack all of your competitors on a
pricing spectrum and decide where you
want to position yourself. The benefit of
this method is the use of external data
indicators that guide the pricing process.
Part of it is still guessing, because most
products are not completely the same.

*Source: Softletter Research

You should never underestimate the

pricing power of established brands when
setting your price. At least you have a
fairly accurate view of the market.
11. INDUSTRY AVERAGE
The monthly average price point on a per
user basis, is between $26 and $75, with
the initial sale ranging from 6 to 50 users.
Typical discounts are 7-15% to those
customers that opt for longer agreements.
You should remember that churn is the
number 1 SaaS killer*.

Omar Mohout

13

MULTI-AXIS
PRICING
A must for a freemium business model

Features, Users and Usage

The most common axis of pricing

The aim of multi-axis pricing is to increase

revenue. It allows you to capture more
revenue without putting off smaller
(budget) customers. In addition, it enables
to grow revenue from existing customers.

1. PRODUCT FEATURES

Multi-axis pricing is aligning value creation

with pricing as there are different types of
users extracting different levels of value
from your product or service. If done well,
it will lower the threshold for purchasing
while maintaining a path to grow the
customers as the usage increases.

The more users using the product, the

higher the value creation and therefore
they pay a higher price (note that the price
per user is going down in this scenario).

Multi-axis pricing is often around the

following axis: Product Features,
Users and Usage.

This is the most common way.

More functionality means higher price.

Don't use more than 3 axis as

the human brain cannot process
more than 3 dimensions.

2. USERS

3. USAGE
More disk-space (Dropbox), more email
addresses (MailChimp), etc. are indications
of a higher value creation and therefore
justifies a higher price.

Omar Mohout

15

Features, Users and Usage

USERS

DEPTH OF USAGE
Mailing List Size
Database Size
Amount of Storage Used

These 3 axis are the most common ones.

But it is perfectly possible to have pricing
based on a service level agreement axis
as well:
Free: users need to find answers to their
questions in a FAQ.
Price X: users can email questions and
receive an answer within a number of
working days.

FEATURES
Basic Edition
Professional Edition
Enterprise Edition

Price Y: users can call a hotline during

office hours in the specific time zone of
the company (not according to the
customer location)
Price Z: users can call a hotline 24x7x365

Note that the Users and the Usage axis,

also impact your cost structure, so it
makes perfect sense to put some limits or,
even better, capture additional revenue.

Omar Mohout

16

Case Study

The Pricing Model of Salesforce.Com

Salesforce.com is the biggest SaaS company in the

world and active since 1999. Its an excellent case
as a benchmark for best practices. The pricing of
Salesforce.com is based on 2 axis : Features and
User Limitation.

USER LIMITATION
5 Maximum for Group
and Contact Manager editions

Salesforce.com is using 1 and 2 year contracts and

their monthly pricing is purely a marketing feature.
Its not because of the fact that the Salesforce.com
pricing is displayed on the website that its fixed.
You can contact the call centre to negotiate
a volume discount.
For Salesforce.com, providing support and training
to their customers is not a cost but an additional
source of revenue.

Basic Support is included in the price but in reality this is just FAQ.

FEATURES
Contact Manager
Group
Professional
Enterprise
Unlimited Editions

Premier Support is +15% (except for Unlimited Editions)

Premier Training is available.

Omar Mohout

17

PRICING
STRATEGIES
Additional elements to consider for your pricing strategy

Set a Reasonable Price

PRICE ELASTICITY

NEGOTIATING B2B BIGGER DEALS PRICING

Visit the graveyard to see companies that cut prices by 15%

to 20% to cross the chasm. Without doubt you need a
reasonable price. Reducing it further might not cause
sales growth but it will surely damage margins.

In order to negotiate bigger B2B pricing deals you need to make

sure you understand the market, your options and the other sides.
You should also identify your absolute walk-away outcome and
decide on your ideal outcome.

Instead of cutting prices, consider reducing adoption risk

by offering a performance guarantee or an attractive low-risk
financing package.

Its the side that has the most information who controls the deal.
Just ask questions and don't make statements. Everything is
negotiable, so negotiate everything. If the price is too high,
ask the following key questions:

Instead of cutting prices, consider reducing

adoption risk.

What is the number the customer is thinking of ?

How did they come up with that number ?

Its the side that has the most information who

controls the deal.

Omar Mohout

19

Discounts and Special Prices

DISCOUNTS

PILOT CUSTOMERS

Discounts work well for companies that compete based on price

and not on differentiation. Start-ups should give temporary
discounts only to prove product value (it is not lowering the price,
it is lowering the order for the specific time period).

When dealing with pricing for pilot customers, you should never
do it for free. Instead negotiate a cost and a margin deal to pilot
the service. Keep in mind that an important condition for a pilot is
to build a relationship based on mutual trust.

Discounts are linked to upfront payments (i.e. pay for 12 months

and get 2 months free). The formula is simple: if the discount is
lower than the cost of capital, go ahead and bootstrap the
customer to finance your growth.

Its is ok for you to make money on the deal, businesses that don't
make money don't stick around to work with them in the future.

Negotiate a cost and a margin deal to pilot the

service

Discounts work well for companies that compete

based on price

Omar Mohout

20

Case Study

Two-Sided Marketplaces : Airbnb & Paypal

In a two-sided marketplaces, the side with the highest

price sensitivity receives a subsidy in order to stimulate
demand from the other side.
AIRBNB
The host received a fee to cover the cost of processing
customer payments (subsidy). Why? There are free
listing services in the market which create a barrier for
hosts to pay Airbnb high listing rates. Buyers are price
sensitive too, but Airbnb often is well below higher
priced market alternatives (e.g., hotels / BnBs).

AIRBNB

PAYPAL

PAYPAL
The existing customers receive a subsidy ($10) for each
new user they invite. At the same time, those new
users get $10 too. The merchant gets a better deal
compared to the transaction cost of credit cards.

Omar Mohout

21

FREE OR PAID
Should your customers pay for using your product?

The Freemium Approach

Make sure you establish the purpose of

your free package. Is it aiding viral growth
or is it hooking customers onto your
product and upsell them other products
later on?

The freemium approach is Tease, Please and Seize.

There isn't a standard template solution.

You should also determine your ideal

ratio of free vs paid customers, in order
for you to run a sustainable and scalable
business.
Your goal should be eating up your
competitor's market share and NOT
cannibalizing your own offer. Often
freemium is a way to go from B2C (free)
to B2B (premium).

TEASE

PLEASE

SEIZE

B2B is twice of B2C

(i.e. Evernote = 6%; Yammer = 15% conversion)
A typical Freemium service is 0.5% to 5% conversion range
Omar Mohout

23

The Freemium Approach

FREE TRIAL
Time Based

A good free plan ideally should

be similarly to a free trial.

FREEMIUM
Usage Based

Unless youre deriving monetary value

from free users, the freemium model is
less of a business model and more of a
marketing tactic to fill your pipeline with
potential prospects.

Start with the premium part of freemium

first. Since your eventual goal is to charge
for your product anyway, why not start
there? You can always offer a free plan
later, like MailChimp did.

Pricing is one of the riskiest and most

critical part of the business model and
should be tested early on. Freemium
delays this learning.

A good free plan ideally should be

similarly to a free trial. The difference is
that while a free trial is time-based,
freemium is usage-based.

Even though the operational cost of

carrying free users may seem low, they
arent zero. Unless free users are adding
participatory value (such as network
affects) they are an expense.

Omar Mohout

24

Display and Transactional Pricing

DISPLAY PRICING
Visitors to your website or landing page
can be divided into:
Prospects who can't afford you.
Prospects who can afford you but were
planning to spend less.
Prospects who were expecting to pay
exactly what you charge.
Prospects who were expecting to pay
more.
The main question is: how big is
each group?

TRANSACTIONAL PRICING
If you have to choose between who signs
up quicker and who pays the most, pick
the former as they are early adopters and
have a better influence on your product.
In this case the cost of sales is lower and
even if they pay less money, it will be
easier to hit your target growth rate
early on.
You should also try to adapt your
message to the different groups:
"We're more expensive but we're better.
Here's why...

Companies work with forecasts and

budgets, therefore predictability is valued
highly. Transactional pricing is perceived
as a risk such as the inability to plan
spending.
Exception are industries that have a
transactional based business model: i.e.
per seat (airlines), per subscription (media),
per transaction (banks) etc.

Omar Mohout

25

FINAL WORDS
Nothing Lasts Forever

Remember to Revisit Pricing

Pricing is not a one-time, set-it-and-forgetit deal. Entering new markets, target

different segments, inflation-index,
new features etc. can be a reason to
revisit pricing.
A pricing strategy is a process that utilizes
multiple tactics. Unfortunately there is no
one-size-fits-all answer when it comes to
developing a pricing strategy. Pricing can
be validated but not made by anyone else
than yourself. Every paying customer is an
achievement so go find out why they pay.
Make sure you dont over-engineer your
pricing strategy and make it difficult to
understand. Pricing is also a function of
marketing. Cash Flow is as important as
pricing, seeing that its the only reason
why business die.

Pricing is all about setting the

right perception: water is more
useful than diamonds, yet it is a
lot cheaper.

REVISIT
PRICING

LINK : PAY NOW MODEL

LINK : PAY LATER MODEL
LINK : PAY NEVER MODEL

Omar Mohout

27

CONCLUSIONS
Things to consider when setting the right price

The Dos and Donts Of Pricing

These are rules, not laws

DOs
Research the optimal price per customer to maximize
revenue
Price is a continues process
Understand why customer will pay you (value)
Use industry gross margin as starting point
Use tactics such as anchoring and decoy
Take into (margin) account the possibility to work with
partners
Start with the premium part of freemium
Offer transactional pricing to transactional businesses
only
Pricing is a function of marketing

DONTs
Set-it and forget-it
Cut prices to sell more
Overestimate Customer Lifetime Value
Ask clients for ballpark pricing
Underestimate cost structure
Over engineer or use more than 3 axis for pricing
Give discounts that aren't limited in time
Do pilots for free
Use freemium as a vanity metric
Subsidize the wrong side or both side in a two-sided
market model

Take Cash Flow into account

Omar Mohout

29

LEAN PRICING
THE BOOK

Pricing methods explained in detail

More business cases
More pricing examples
More guidance
Leading practices

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Omar Mohout
Author of
Lea(r)n Pricing
and Lea(r)n Marketing