I define value as the amount of money a customer earns or saves by buying your product vs. buying your competitor’s product, or continuing with the status quo.
To price on the basis of value, first calculate the total amount of money a customer will earn or save over one or two years—think logically but broadly; you must be able to explain this amount, but don’t unduly limit yourself.
Value comes in too many forms to list here, but improvements in yield, throughput, system availability, durability and longevity, and risk reduction are good places to start. Whenever possible, assign a dollar figure to these improvements.
Once you have your overall value figure, price your product at 15% to 30% of that amount.
As you can see, if you do this correctly, you will be able to position your product as a must-have bargain. Your salespeople can talk about price in the context of the return customers will receive, bypassing tedious questions about why your costs are so high.
One of my clients designed and built a system upgrade that would save a customer about $1M every two years. The cost to my client of providing this upgrade was about $40,000. Typically, the client would have multiplied the $40,000 by two to arrive at a price of $80,000.
I recommended that the client price the upgrade at $200,000—20% of the value customers would receive within two years.
The client’s account manager claimed that charging $200,000 was “gouging” the customer, to which I responded, “In what world is a 5X return not a good deal?”
“But our cost is only $40,000! How will I explain the price given the cost?”
“Don’t talk about cost,” I said. “It’s none of the customer’s business. Talk only about the $1M return in exchange for the $200,000 investment.”
In the end, my client reduced the price to $120,000—50% more than the $80,000 they wanted to charge, but far less than they could have asked for and reasonably expected to get. And their customers were delighted to pay it.
As I discussed in my last blog post, you are often your own worst enemy when it comes to profitable pricing. If you keep your focus on value, you will be able to make a lot of money and still keep your customers very happy—because they are paying you far less than what they’re getting in return.
Additionally, value-based pricing enables you to invest more resources into your business, leading to even better solutions for your customers down the line. No one wins when you undercharge for your products and services.
Once you get comfortable with this idea of value-based pricing, you’ll understand that it’s not “gouging” by any stretch—just a smart business practice that benefits both you and your customers.