• Nari Kannan

    Cheap Kills, Value Wins!

    Competing on price is never a great strategy! Cheap Kills, Value Wins! As long you as you have a clearly differentiated offering, you should calculate the value your solution provides your users, and base your pricing on that! And stick to it! Competing on price creates a spiral of death for all competitors, no matter what the industry, no matter what the offerings are!

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    Some eons ago, in one of the services start-ups I was with, prospects always brought up a competitor that offered better prices. Why just one? I usually volunteer to provide them an even larger list of competitors that can give them better raw pricing than me. Then I bring up the value of our higher priced offerings and how, over the course of the project, our total costs will  be lower for them, given the superiority of our hiring, training processes, and the higher productivity of our resources.

    In another software product startup, we knew that many of our customers tried developing a solution in-house to solve the same problem and failed. We knew that in-house applications will not scale up as well as a carefully designed software product. Our product had the benefit of addressing  a larger variety of problems with all of our customers. And so every customer gets to benefit from better features, rapid customizability and scalability. We priced our offering at high US product prices; they were based on value provided rather than something that is worked from costs up!  We knew we had defensible intellectual property that cannot be easily replicated by any other competitor!

    Perils of Competing on Price

    Competing on price does not mean that you don’t provide strategically offered discounts on the total price to close a sale quickly.  It means that the only thing that differentiates you from your closest competitor is price and price alone. This is a terrible situation, not just for you, but all of your competitors also. Here are the perils of competing on price:

    • Inflexibility in the Contract – Competing on price does not allow for acquisition of other technologies, products, or people to make the overall effort more efficient and effective. Especially in product companies, a smaller competitor may have developed a product that fits in well with your offering when integrated properly.
    • Tight Margins – Murphy’s Law happens! Key people may leave, unforeseen things may happen at a company. Competing on price and tight margins can turn a marginally profitable opportunity into a loss-making effort.
    • Compromises future people and product development – The margins you make are not just for profits. A large portion of the margins are the monies you have left to be used for continued development of the people you have, or continued product research and development. Competing on price may force you to cut down on these strategic investments.
    • Sets up the wrong dynamic with the customer – The best time to set up a proper dynamic on Pricing with customers is right at the beginning. If you get the contract because you competed on price you have already set up a terrible dynamic. You may never be able to recover from this later on.

    Steps towards Competing on Value

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    Competing on Value is a careful, long journey and requires faith, patience and a lot more hard work. But when set up correctly, and if the value is proven with a handful of customers, scaling up to a larger customer base is easier. Here are some absolutely essential steps towards Value-Based Pricing:

    • Calculate and Have Ready, Demonstrable Value – First principle of Value Based pricing is to understand, calculate and have ready at your fingertips, your Value. Return on Investment (ROI) calculations, Pay Back Periods, Projected Total Cost of Ownership of alternative solutions are all necessary for you to demonstrate Value.  You need to have them ready even in your initial presentations. Tell them how you may appear more expensive than their other alternatives, but demonstrate how your solution will save them money, effort and time in the long run.
    • Differentiate your offering and Value – Make sure you have defensible intellectual property either in the form of patentable technology or at least a large body of complex code that will take a competitor a long time to figure out and develop. Companies underestimate the value of time in these comparisons. That’s why large software product companies routinely make the buy decision to acquire a smaller, nimbler competitor that provides a part of their overall solution rather than develop it all from scratch themselves.
    • Highlight your plans to add even more Value –  Share some of your future people or product development directions with your prospects and customers. Demonstrate how your plans will enable their investment in you will benefit them in the longer run even more. This will also have the added benefit of getting you feedback on what’s critical for them and what’s not. You will be able to fine tune your own future directions before you spend money on them, a kind of Lean Fine-Tuning!
    • Demonstrate Thought Leadership, don’t be in reactive mode – Whether you are providing software services or software products, thought leadership is a terrific way to demonstrate and provide added value. If you are doing Big Data Analytics products, share with prospects and customers, the thought leadership kinds of activities you are doing in that area. They need to look up to you as an informed, thought leading business expert; not a service or a product supplier. Those are the tools with which you add value.

    Competing on Price is a losing proposition. Nobody wins and all competitors including you will be in a downward spiral with that strategy. On the other hand Value-based Pricing when done correctly can facilitate a longer term, mutually beneficial partnership with your customers. When done correctly, it enables you to defend and build your business with your customers and help grow your company in the process!

    Price is what you pay. Value is what you get – Warren Buffett

     

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    • Rushabh Mehta

      The advice is more relevant for service companies. Determining “value” in a product scenario is expensive since it varies for each customer. Also quality matters more than pricing.

      Another issue is the effect or scale. Low pricing (especially free) brings scale and scale brings revenue, feedback and a large community. By making hotmail free, email was revolutionized. By making high quality education free, KhanAcademy is revolutionizing education.

      In either case, absolute advice should always be avoided.

      • narikannan

        I diasgree. Value plays in every case. Competing on price has the same downward spiral in all cases.
        Services – No brainer. Price is not a good strategy.
        Products – Enterprise Product – No Brainer – Value can always be calculated. Quality affects value and if you calculate value it is included in it. Competing on price, never helps anyone. Even Microsoft has come up with Office365 Free for the first year and thereafter annual fee. Nothing is free. All observations in the article still applies.
        Products – SaaS Enterprise product – Multiple Hosted Plans, all the way from Free or Freemium to priced plans. Same story. You have what you charge and what value these things are can always be calculated – What is the total cost of other alternatives compared to this one? With Free Trial or Freemium plans, they are there only to give a sampling. If you provide all the valuable features for free, you would not be in business for long, even if you are burning venture money doing it. At some point in time you need to break-even.
        Consumer Products- Like Google or Yahoo or Hotmail. This is free for the consumers or it is the Eyeballs strategy as they call it. The Advertisers pay and they are their real customers. Google Ad rates need to compete with Bing ad rates and there is pricing involved. Khan Academy is burning venture money for now. Same story – at some point they all need to figure out what they need to charge and how to make money. Competitors are always there and you need to find your real customers somewhere and make them pay.

        Otherwise, they are all charities, not businesses!

        • Rushabh Mehta

          Thanks for the detailed answer. I agree for enterprise business value based pricing makes sense. Infact value probably makes sense if there is a “sales” process involved.

          Surplus is also a real phenomenon and driver. Value based pricing makes sense when what you have to sell exists in scarcity or you can control the availability or if you are selling a lifestyle product. With Free, you flip the equation. Google does not sell eyeballs, the eyeballs bring in the advertising business (there is a difference). It can only do so, because its search is pretty damn good and it has a “lock-in”.

          Enterprise is changing too. Tools like Dropbox, Trello, Slack, GitHub offer generous free plans. Think about SalesForce vs Zoho. Ofcourse you have to charge for premium features and design a pay-wall that targets customers that have ability to pay. That does not mean pricing is not a competitive strategy.

          With time most products become commodity and there will always be a mass market. Look at history of products from cars to smartphones to burgers. If you look at mass market players, they all compete on price. Does not mean they are “cheap” or bad businesses. They have a different model. Here you have to compete on scale that will justify your price. The only reason an average SAAS product costs more than a smartphone is scale. And the only way to reach a large market is by making the product very cheap, ideally free.

    • Sachin Bhatia

      In case of product value plays but you can not look at it case by case. You have to understand the segment and create value for that segment and then play in that segment. Often it is tough and takes time but nothing is worse than being everywhere and not knowing value in any segment.

      My 2 Cents –

    May, 20
    2015
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