We’re all familiar with the value-based pricing example – think Mercedes, Gucci, Christian Louboutin, Rolex, and Louis Vuitton. While typically associated with luxury items, that’s not always the case. For instance, Starbucks, Netflix, and Apple, as well as software-as-a-service (SaaS) companies like Adobe, Salesforce, Hubspot, and Slack rely on value-based pricing to attract customers within their niche markets and boost profitability.
McKinsey & Company describe the value-based pricing definition as: “Value pricing requires identifying all the key buying factors that determine how much a product is worth to a given customer, understanding how those factors compare with competitors’ offers, and being able to quantify the value created for the customer with detailed customer insights.” Put simply, value-based pricing is a pricing strategy that is based on a buyer’s perceived value of a product or service.
The Power of Pricing: Types and Differences
SaaS companies have a variety of pricing strategies to choose from when considering pricing schemes. With so many at their disposal, it can be quite the conundrum to determine which one will yield the highest profitability.
SaaS pricing strategies range from flat rate and tiered pricing to usage-based and per feature pricing to everything in between… such as value-based pricing. Value-based pricing consists of two distinct types – value-added pricing and good value pricing.
Value-added pricing: Closely aligned with value-based pricing, it draws on the perceived value that products, services, and features provide to customers, and offerings are priced accordingly.
Good value pricing: This pricing practice refers to pricing products, services and features based on the quality provided to customers.
Alternative pricing strategies to value-based pricing include cost-based pricing and competitive-based pricing. Let’s explore these in a bit more detail.
Cost-based pricing: Also referred to as cost-plus pricing, prices are set based on the cost of materials, production, operating costs, distribution, and a profit margin markup. The obvious upside to cost-based pricing is in its straightforwardness. Simply determine the cost of the product, service, or feature and tack on an appropriate markup. While its simplicity may be attractive, it does have drawbacks such as customers willingness to pay may not align with the offering’s cost and it usually doesn’t yield the profitability of value-based pricing.
Competitive-based pricing: Using competitor pricing as a guide, prices are based on similar products, services, and features offered by close competitors. While simplistic in nature, it doesn’t take into consideration your target market or your offering’s unique features/functionality for which customers may be willing to pay a premium,
While value-based pricing provides the ability to unlock previously untapped revenue potential, there are some pro’s and con’s to this pricing model.
Value-Based Pricing: Pro’s and Con’s
A more comprehensive approach to pricing, the following are some of its potential advantages and disadvantages.
Advantages to Consider
- Provides a better understanding of your target market: The research and analysis conducted provides the insights needed to enhance the company’s understanding of the industry and its target market.
- Helps to create superior offerings: By incorporating customer feedback, quality will be improved as will meeting the needs and requirements of customers.
- Allows for tailored price points: By creating price points for numerous segments or target markets, companies can effectively address a wider target market to ensure all revenue opportunities are covered.
- Allows companies to charge a higher price point: By enhancing your marketing, sales, and support you can add perceived value to your brand and offerings, enabling you to set prices at the highest customers are willing to pay.
- Enhances customer relationships: Perceived value isn’t just about the products, services and features offered, it also encompasses customer care which ultimately equates to exceptional customer relationships.
- Promotes brand loyalty: As the only pricing model that focuses on customer needs and experiences, customer loyalty and trust significantly improves.
- Expands the customer base and increases profitability: By using value-based pricing to sell products, services, and features to both net new customers and current customers, organizations minimize costs associated with expanding the customer base – improving profitability.
In summary, companies that use value-based pricing can increase prices to the highest level that customers are willing to pay. Additionally, it helps to drive future product innovations, as well as promotes customer and brand loyalty.
Disadvantages to Know
- Requires time and resources: An ongoing process, customer research requires extensive time and resources. However, without this vital component, companies don’t have the solid foundation required to quantify buyer personas and acquire customer validation.
- Limits target audience at each price point: While companies have the ability to reach a larger target market, segmentation based on value perceptions and pricing need to be targeted individually.
- Perceptions can change: As value-based pricing relies on customer perceptions and their willingness to pay, customer perceptions and marketplace changes can require companies to rework their pricing to match current customer and marketplace sentiment.
Not an exact science, this pricing strategy relies on price sensitivity measurements and product, service, feature analysis to provide guidance on pricing, packaging and positioning.
How to Implement Value-Based Pricing
As previously established, value-based pricing is more complex than other SaaS pricing models. To help put you on track, here are 10 steps for successful value-based pricing implementation.
1) Conduct market research
First, focus on current and potential customers as their perception of your products, features, and services are of the utmost importance to this pricing model. This step can be accomplished using surveys or by conducting customer interviews. To effectively analyze factors influencing customers’ willingness to pay, be sure questions aren’t limited to yes and no responses.
For example, instead of providing a list of products, features, and services and asking customers to respond ‘yes’ or ‘no’ to their willingness to pay more, phrase the question so that the customer needs to itemize current and sought after offerings in order of importance and willingness to pay. You may also want to ask them to explain what challenges they are facing that specific products, features, and services will resolve.
2) Segment the customer base
Divide the customer base into groups that share the same characteristics such as demographics, geographics, psychographics, teckhnographics, and behavioral.
3) Determine customer brand awareness and perception
Given that value-based pricing is directly related to customer knowledge of your brand and their perception of the company and its products, this measurement is important to gain insights into what customers really think.
4) Develop buyer personas
Based on much of the information acquired from the above steps, you’ll see patterns evolve that will enable you to create buyer personas for your primary target audience segments. B2B company buyer personas should include the target buyer’s role and responsibilities, their obstacles and challenges, key vendor selection criteria, budget, and solution success measurements/key performance indicators (KPIs). And B2C company buyer personas should capture information such as age group, job/role, hobbies/interests, pain points, and budget.
5) Analyze the competition
To get an accurate view of the market landscape, look at your closest competitors in areas such as pricing, marketing strategies, value, customer loyalty, etc.
6) Experiment with pricing
Conduct surveys or pricing experiments to gauge customer reactions to different price points. This will help to identify the optimal price points that capture the most value.
7) Select a pricing model
Choose a pricing model that best aligns with your value proposition and reflects the perceived value of your offerings, e.g. tiered pricing, subscription pricing, dynamic pricing, etc.
8) Determine price points
Using the above data, determine price points for each of the pricing models/packages created for the customer segments selected.
9) Communicate to customers
Early and frequent communication with customers will be key to value-based pricing success. Effective communication will also provide insights into what is working and what is not, giving you the opportunity to make necessary changes. Additionally, a proven roll out tactic is to introduce value-based pricing gradually, starting first with a small group of existing customers or alternatively new clients.
10) Monitor and Optimize
Not a one-and-done initiative, value-based pricing takes ongoing research, monitoring, and price/package refinement.
Value-based pricing is time and resource intensive, however it can deliver sales advantages, competitive differentiation, increased price points, customer loyalty… and many other benefits.
Unlock Untapped Revenue with Value-Based Pricing
Is this pricing strategy right for your organization? To help in determining whether your company can reap the benefits of value-based pricing, here’s a few questions.
- Are production costs minimal?
- Do your product(s) and services fill a unique need or are they tailored to a niche market?
- Do your short- and long-term plans include value-added enhancements such as product upgrades, features, functionality, services, etc.?
If you answered yes to one or more of these questions, value-based pricing may be what you need to set your company apart, attract more customers and boost revenue potential… and you don’t have to do it alone.
For over 20 years, BillingPlatform has been helping companies accelerate ideas into revenue. Our flagship billing product gives companies the power to enable any kind of billing model and support even the most complex revenue relationships. Are you ready to learn how value-based pricing can help you unlock untapped revenue? Stop waiting and reach out to our team today.
