Startups are risky. The failure rate is around 90%. Reasons for failure include running out of money, poor understanding of the market, lack of diligent research, and ineffective marketing. One way to increase chances for success is to consider pricing very early in the process. “Willingness to pay” is how you prioritize your product roadmap on those features that will drive revenue.
For most startups, pricing is an afterthought. There is very little sense of the customer’s willingness to pay as a part of product design and as a way to prioritize product development. Most companies roll the dice by advancing down the product delivery path without an honest and thorough assessment of whether customers need the product, how they value it, and if they are willing to pay for it.
Venture studios like Hashed Health are in the business of building companies with better economics and better chances for success. We recognize an opportunity to bring marketing and pricing discussions to the beginning of the development lifecycle. Using our managed, repeatable studio process, we standardize and operationalize this important validation step early on as a way to help reduce the risk of launching a new company.
We see an opportunity to equip cofounders and product teams with tools that help them 1.) Create a product pipeline based on what customers will pay for, not simply what customers ask for, and 2.) Speak intelligently with customers and investors about the go-to-market strategy.
When To Introduce “Willingness to Pay“
Having “willingness to pay” conversations early aims to gather data supporting the product’s commercialization and features. As a result, you understand how to prioritize your product roadmap and what revenue will be generated based on a genuine understanding of what customers will actually pay for. It also maximizes your ability to receive objective vs. subjective feedback because you meet the customer before they are in a negotiation mindset.
Who To Speak With
In the earliest stages of company creation, it’s vital that the CEO be leading these conversations, not your product team. Start with friendly customers or design partners. Don’t position the talk as a “pricing conversation,” but rather as a product innovation conversation to understand how you and your company can bring them value. This positioning gets customers into the right mindset. Don’t forget that when you collect their responses, you understand why they answered the way they did.
Remember, your market segments will answer differently; one size does not fit all. Customers have different needs, values, and willingness to pay. Have conversations with all of your target customers enables intelligent segmentation, packaging, bundling, and channeling.
How To Structure The Conversation
Structure how you approach the dialogue with 25% of the interview questions focused on “Why?” and “What would the product need to include to be more valuable?” The structure of your script should leave room for flexibility depending on the conversation.
Remember that “Do you like this?” differs from “Would you pay $X for this?” In the earliest stages, it’s essential to prioritize a product your target customer will pay for.
Ask Direct Questions – Make sure to ask direct questions, as often customers won’t flat-out tell you what they will pay. In those situations, put a price on it. Ask them, “If this were $XXX, would you buy it?” Then, it’s necessary to follow up with “Why or Why Not?”
Show A Demo – Show a demo, present the value proposition, and then ask a series of survey questions. For example, “At $XXX price, please answer with a 1-5 scale, with 1 being “I would never buy this at this price,” and 5 being “I would definitely buy this at this price.” If the answer is less than or equal to 3, lower the price and ask again. If you start receiving buying signals by lowering the price, that means you are finding your price. If the answer continues to be less than 3, you may have a more foundational innovation challenge. A response of 5 generally translates to ~50% probability of buying at that price. A 4 translates to ~10%.
Understand Guardrails – Understand your guardrails by asking the following three questions: 1.) “What is an acceptable price for this product?” 2.) “What is an expensive price for this?” and 3.) “What is a prohibitively expensive price for this?” The more people you ask, the more data points you have, and you can start to identify psychological cliffs or thresholds.
Build Your Package – Willingness to pay is important for the product generally and also for product features. Understanding both enables you to know how to package. Give customers a list of features and ask them to build their own product with the understanding that each feature increases the price. See where they stop based on price and value expectations. This can also help you with segmentation.
How You Charge Is As Important As How Much You Charge – There are 5 monetization models that you can test on your customers, each has pros and cons. They are:
- Dynamic Pricing (pricing fluctuates based on some variables)
- Auction or market-based pricing (good for sellers markets)
- Pay as you go, usage-based, or transaction
- Outcomes-based or performance-based
- Freemium (start with low-cost free model and expand to paid offerings)
Ask your customers if they have a preference. Give them several options that end up at the same price and see which they choose.
Important for Startups – Start your conversation focused on features, asking if they are valuable to the customer and their organization before you switch to the willingness to pay questions.
Define Your Pricing Strategy
Document your goals, which may include market share, revenue, profit, or lifetime value. These goals have trade-offs. A well-defined pricing strategy gives you pricing power, which is what Warren Buffet sees as the single most powerful tactic to gauge investment value.
You should be able to explain your price-setting principles to an investor. For example:
- My company will adopt a profit maximization strategy.
- We will price based on a subscription model.
- We will differentiate pricing based on industry segment.
- We will never discount the price beyond 50% and we will never price below $10,000 per month.
- Promotions will be offered to our design partners and early adopters.
- We will use annual escalators that adjust by 3% per year to account for inflation rates.
Design Your Product & Configuration
Once you have completed your “willingness to pay” conversations, you are ready to design and configure your offerings based on the needs, values, and feedback of each of your segments. Make sure you keep your features list and configurations small, so you don’t overwhelm your customers. Also, don’t pack too much into your MVP, so you have the opportunity to land and expand.
“Price before product” and “willingness to pay” may sound straightforward, but we’ve found that it’s easy to fall into old traps and habits that work around these vital customer conversations. Customers often tell you what you want to hear, and it’s easy to avoid pricing discussions that can be uncomfortable. But doing so puts the company at risk.
Embrace the above tips as you navigate these conversations early on, and you’ll find the long-term likelihood of success for your company increases substantially.
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