Conducting Pricing Research & Experimentation
Three Steps Startup Founders Should Take When Settling on a Price
This article originally appeared in Business Insider.
Most startups are leaving money on the table when it comes to pricing their products and services (see part one of this series). Successfully matching price to value—identifying the highest price customers will comfortably pay for your product or service—requires a pricing process or systematic approach to user research and experimentation.
It’s common for startups to not know where to begin when it comes to monetization.
In my conversations with founders, I often ask about how they derived their original pricing and packaging. Their approaches tend to fall into three categories:
- They winged it. Surprisingly, many companies set pricing in an arbitrary way. Months are spent laboring over the product and design, yet pricing is treated as an afterthought. People will sheepishly confess that they “just picked something” at the last minute.
- They priced low to gain market share. The second category is made up of companies that price artificially low in a “land and expand” strategy designed to capture users quickly. The problem with this approach is that it can inadvertently cheapen the product for both the short and long term.In exchange for user growth, companies can be saddled with the inability to drive meaningful revenue expansion since customers have been anchored low. To make this strategy work, companies need to drive effective upgrade paths beyond the free/discounted version of the product. A smart natural escalator can help for usage-based pricing models.
- They used platinum pricing to communicate a premium product. The third category includes companies that set pricing as a way to reflect and maintain a premium position. In this case, companies price high and don’t typically consider discounted pricing, even to get a deal done.
In its early days, Envoy, one of our portfolio companies, fell into the camp of pricing artificially low.
Envoy CEO Larry Gadea tells the story of an early sales meeting with a major hospitality company. At the time, Envoy was priced at $20 a month per office location. When it was clear the prospect intended to buy, the conversation shifted to price. Larry responded, “It’s $20…I mean $200 a month.” The customer laughed and said, without hesitation, “OK, we’ll sign at $200.”
The perception from the customer was that, even at 10x the original price, Envoy had immense value. And Larry learned that, even when he stretched to 10x, the quick sell implied he was seemingly still leaving money on the table. Price experiments like this teach a valuable lesson in capturing the revenue you deserve.
None of the strategies I write below is a guaranteed winner or loser—they’re very much dependent on the market, competition, and perceived value of your product. But when establishing your pricing, it helps to be armed with research around customer demand and willingness to pay.
How to Research Pricing
1. Assign ownership
First, put together the task force that will own pricing and packaging and drive the process forward. Having led product growth and monetization teams, I managed this work across a team of product managers, data analysts, and user researchers. If you have an up-market customer, your stakeholders will often be sales/sales ops, marketing, and finance.
Questions to discuss internally:
- Customer segmentation: Who are our customers?
- Value: Why do they pay us?
- Price: How much are they willing to pay us?
These answers aren’t obvious without talking to customers directly — something that can seem uncomfortable to do, but I assure you is highly worthwhile!
2. Talk to customers
One benefit of having sales, success, or support teams is that you have frontline employees who regularly interact with prospects, existing, and churning customers. Empower these teams to have pricing discussions with customers and find a systematic way to feed learnings back to the pricing team.
I built these feedback loops at my previous companies and always found them to be valuable. In fact, customer narratives shared during my product team’s monthly lunch with customer operations inspired one of our most successful initiatives to increase revenue expansion.
Another way to elicit valuable data points around monetization is to ask customers directly via interviews and surveys. If you go this route, make sure your questions are designed to give you the actionable insights you need. The right research methods will give you a deeper understanding, not only of which features are in high demand, but also those that have the most commercial viability.
First, ask questions about perceived value in an effort to understand the ideal package to offer your customers. You can provide a list of features and ask respondents to rank them according to their relative priority. Below are some variations of this question to consider:
- Imagine you have 100 points to spend on features. How would you distribute 100 points across the features below? For each feature, the more points you give it, the more you value it (the total must add up to 100).
- Of the following features, which is most valuable and which is least valuable to you?
- For each feature listed, select whether you consider it to be a “must-have,” “nice to have,” or “not necessary.” Which of the “must-have” and “nice to have” features would you include in your ideal package for an annual plan?
Second, ask “willingness to pay” questions. One common approach is the Van Westendorp method. From here, you can derive a price as a direct measure of value.
When considering your ideal package…
- …what annual price seems like a good deal?
- …what annual price seems expensive, but you would still be willing to pay?
- …what annual price would be too expensive?
- …what annual price would be so cheap that you would question quality?
Plotting these curves gives you a data-driven view of ideal price points across the spectrum from “too cheap” to “too expensive.”
As time goes by, revisit the process of surveying customers and experimenting with different approaches. Start with lightweight conversational testing (like the Envoy example above).
For enterprise companies, keep increasing your quoted price until you start getting pushback from prospects. If no one tries to negotiate, then you’re surely missing out on financial upside (a lesson Envoy learned early!).
For self-serve companies with a list price, consider data-driven split testing. If you have a global customer base, testing a price change within a single geography can help provide insights while reducing experimentation complexity.
Lastly, as a product company, you are regularly executing against your product roadmap and building additional value for your customers. Just like your product is never done, your pricing should never be done either. Have the pricing team revisit the monetization strategy and process every six months, asking, “Do we need to update our packaging?” “Are we underpriced?” The answer is probably, “Yes!”