How To Price Your SaaS Product

Don't fool yourself: SaaS pricing estimations aren't simple.

I comprehend. I have committed a couple of errors with regards to evaluating. Through experimentation (life's most noteworthy instructors), I've figured out how to value an item, how to improve client LTV, and how to add includes that improve deals, secure digital payments, and avoid depreciation of the business assets further. 

I need to impart to you a tad of what I've realized.

The Complexity of Product Pricing

The solution that I share with you is mind-blowingly simple. Here it is in preview form:

Question: What’s the biggest pricing challenge?

Answer: Determining the right price metric.

Question: What’s the solution?

Answer: Raise your price.

Don’t worry. I’m going to unpack that solution, but I first want to set the stage. The way I want to set the stage is by admitting that there’s nothing simple about pricing a product.

Product pricing is a complicated and paralyzing experience.

You can’t decide the price of a product just by running some numbers. You must also consider buyer psychology. Why is this important? Because no matter how much business sense a price makes, that same price may not make any sense to your potential customer.

But there’s another bigger reason you should consider buyer psychology. A customer doesn’t buy based on price alone. A customer buys when he or she recognizes the value of the product, independent of its price.

Here’s are five features of buyer psychology that you should be aware of in your pricing:

1. A buyer needs to understand how your SaaS will make him or her money. The cost of a product is only one of the variables that he or she needs to compare against the earning potential that your SaaS gives.

2. A buyer needs to understand how your product’s features are superior to the product features of the competition. When I went up against a multi-billion dollar company (Omniture), with my little startup I knew I would be able to make sales. Why? Because I knew that in spite of Omniture’s domination, their product sucked. My consulting clients were complaining about it, but they had no other alternative for analytics reporting. Based on this market intelligence, I knew I could develop a product with features that blew Omniture out of the water.

3. A buyer doesn’t need pricing comparisons. She needs feature comparisons. Customers don’t buy solutions. They buy features. Many of the price comparison charts used as marketing persuasion will fail. Why? Because according to Stanford researchers, they may introduce thought patterns that sway a customer’s choice away from you and onto your competitor. Instead of focusing on the price, focus on what the customer truly wants — features. Why? Because features add value, and that’s what the whole issue of pricing boils down to.

4. A buyer shouldn’t have to make a choice. You should make a choice for the buyer. Residing in a culture where we think that more choice is better. In SaaS pricing, it’s not. All those premium packages, extra features, and add-on options on your SaaS pricing page — drop ‘em. When consumers have too many options, they end up not making a choice at all.

5. Buyers are affected by the context of pricing, not just the price itself. There’s so much more at play in the pricing game. In the mind of the customer, price is only one of the many features that will affect her decision. Issues as big as value and as small as font size all have an impact on the buying choice.

In spite of the complexity of pricing, I’m convinced that a simple hack could revolutionize your approach to product pricing. My assertion is backed by psychology and experience. Let me explain.

What’s the biggest pricing challenge? Price level

First, we need to understand the biggest challenge in SaaS pricing.

Zuora, a subscription commerce provider, conducted a survey to determine the major pain points in subscription pricing models, the most common pricing methodology for SaaS.

Here’s what they learned:

More than half of respondents admitted that “determining the right price level” is their biggest challenge. The second biggest challenge, taking up more than a quarter of the pie chart, is the challenge of price metrics. Price metrics are the features of the product that you base your price on, along with the method by which you require payment (i.e., subscription model.)

Taken together, it’s obvious that more than 75% of respondents’ challenge has to do with how to price their product.

The how involves both method and amount. If a SaaS business could successfully solve this conundrum, they could improve profitability, grow, and deliver more value to their customers.

The potential upsides of a perfect pricing strategy are enormous. It’s the getting there that’s such a problem.

The how involves both method and amount. If a SaaS business could successfully solve this conundrum, they could improve profitability, grow, and deliver more value to their customers.

The potential upsides of a perfect pricing strategy are enormous. It’s the getting there that’s such a problem.

Let me give you the simple solution, and then explain why it makes sense.

What’s the solution? Raise your price

All you want to do in order to get closer to the right level is make your price higher than you think it ought to be.

Obviously, I can’t give you a formula for determining your original price point. Why can’t I? Remember the complexity issue that I discussed to preface this article? You need to determine the cost of production, revenue projections, CAC (customer acquisition cost), etc. Then you need to determine that point you’ll make enough money.

You can go about your typical cost + margin price strategy, but then you take that number and jack it up. Higher. Higher still. A little bit higher. Okay, good.

Now, what do you do?

You raise the price even higher.

How a Higher Price Overcomes the Major Pricing Challenges

Let’s go back to Zuora’s pricing challenges and identify how this strategy can overcome the challenges:

1. “Inertia to change our pricing.” This is indeed a challenge. Keep in mind that you can’t push against inertia. You have to use an explosive force — like a bomb. If you’re the decision-maker in your organization, you need to take drastic action.

2. “Determining the right price metric.” There ain't a single metric that defines the right pricing strategy. There are only two realities: 1) a subscription model, and 2) value pricing — i.e., pricing the product as stand by to the value that it gives to the customer, nothing else.

3. “Determining the right price level.” This is the simple issue of confusion and lack of awareness. The remainder of this article explains why a higher price is a superior strategy.

4. “Internal organizational barriers.” Who wants to argue against higher profit margins, fatter paychecks, and rising stock prices? Good. That’s what I thought.

5. “System barriers.” The higher price and greater profit margins will justify the expenditure of a better commerce system. Is a better system going to make you more money? Okay, then buy it.

What will your customers think?

Paul Graham wrote, “You’ve found market price when buyers complain but still pay.”

The comment is misleading but has a grain of truth. Graham’s quotable nugget intends to communicate that customers love your product so much that they will pay any price.

Of course, people don’t want to pay you more. We’re loath to part with extra money. But when a customer realizes the value of your product in comparison to your price, it should be a no-brainer.

This takes us back to the root cause of the required value. Customers aren’t buying a commodity. They’re buying value. Lincoln Murphy helps to qualify Graham’s quotation by writing, “Your price [must be] tied to value perceived at every tier.”

Talk about the value. Don’t talk about the price

When you elevate your price, it’s not that big of a deal for customers. Why? Because the main thing in customer’s minds is the value, not the price.

Price is relative to value. What I mean by this is that a customer thinks of value first, and they will determine how valuable the product is in comparison to the price. Customers will pay as much as they need to as long as the perceived value exceeds the price.

I’ve created this chart to demonstrate how this works.

Notice how the price goes up, and the value goes up, too. The value stays relatively constant to the increased price.

As long as your price is somewhere near normal, you can raise your price and still gain the customer.

Lincoln Murphy of Sixteen Ventures calls this “value pricing,” and he defines it like this:

Rechocheting a price to a service that is congruent with the value derived from the services’s [sic] use rather than the underlying cost to create and deliver the SaaS, market prices, specific margins, etc.

A higher price means a higher perceived value.

Notice, however, that perceived value differs from an actual value. For example, let’s your SaaS costs $15/month. If the customer gets a value equivalent to $500/month, he will gladly pay it. You can raise your price to $455/month, and he will still value it because he is gaining an extra $5 of value. This is not a relative scale. It is fixed.

The relative scaling of price and value works to your marketing advantage because you can push the value perception upward by increasing the price.

This phenomenon is called “perceived value.” Investopedia defines “perceived value” in the following way:

The worth that a product or the particular service has in the grunt of mind of the consumer. The consumer’s perception towards the value of a good or the efficient service affects the major price that he or she is further willing to pay for it in order to stay in the Industry. For the most crucial part, the consumers are mostly unaware of the true cost of the related production for the usage of the products they tend to buy. Instead, they just lock on having an indefinite internal feeling for things like, how much certain products are worth to them as to the comparison with their peers. Thus, in order to further obtain a higher price for their products, the producers may further go for the marketing strategies in order to notch up a prominent perceived value for their products.

University of California’s Leif Nelson put it simply: “The price can influence evaluation.” If you were to look at one bottle of perfume, priced $5, and another one, priced $1,500, you would reflexively assume that the $1,500 bottle has more value, even if the two perfumes were exactly the same.

A customer’s PCI Compliance is their reality. If they perceive that your product is valuable to them, then it is. You’ll have a hard time persuading them otherwise.

As per the research in the Journal of Retailing, customers have four drives that influence their perception:

1. The emotional value of the product
2. The social cachet that comes with having the product
3. The quality/performance derived from the product
4. The price vs. value of the product.

Notice how the first three features have nothing to do with the actual price. They have everything to do with perception. Only in the fourth — price vs. value — does the customer weigh the question of price.

It’s all about the perception of value. This fact more than justifies your raising your price to increase that perception of value.

A higher price means a higher actual value

Stanford and Caltech researchers held a wine tasting experiment to determine if a higher-priced product would increase a subject’s enjoyment of the wine. It did. Participants who tasted a more expensive wine said it tasted better than a less expensive wine, even though the two wines were the same!

The same phenomenon holds true in SaaS. The more ostentatious a product, the higher the sensation of value and enjoyment a user will derive from it.

The technique is particularly effective in the SaaS space, because software has “a large intangible component,” as Nagasimha Kanagal explained in the Journal of Management and Marketing Research.

You can make your product better by making it more expensive. In this way, you define the product’s value.

Conclusion

I love it when a customer is glad to hand over their money. Why Because I know that they know that they’re getting a good deal.

A satisfied customer makes for a satisfied me. Much of the hesitation to raise prices comes from the fear of offending a customer. As I’ve demonstrated, your high prices won’t push customers away. Instead, your high prices can delight the customer because of the high value that they are getting.

Customers who ain't receiving value from your product — real or perceived — are happy. That alone is reason enough to raise your price.

What's your experience with raising the price of your SaaS?