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Should You Unbundle?

Luggage to checkA friend recently asked about a Pragmatic Pricing blog from 2 and a half years ago.  It was about the furor that was going on when the airlines were unbundling – they were beginning to charge for checked luggage.  It’s very interesting to re-read that blog now that we have emotional distance from the events.

As you read it, notice there is no longer all this anger toward the airlines.  Obviously, the negative reactions were caused by how they did it, not what they did.

My friend’s question: When does unbundling work?

Unbundling works when you are currently providing a complete solution for a single price and a large number of customers don’t benefit from all of the features.  In other words, your solution is too big.

In the airline situation, they were selling the full solution of air travel which included checked luggage.  However, many travelers didn’t check any luggage.  The complete solution was too big.  They were forcing people to buy features they didn’t use.  They could have (and did) offer a “complete solution” that had fewer features.  They removed checked luggage from their solution.  This new offering is a complete solution to some set of customers.

Should you unbundle?  If you currently offer a complete solution, but a large segment of your customers don’t use the entire set of features, then you are ripe for unbundling.  You can reduce the features of your complete solution and offer the other features as options.  This allows you to be even more price competitive with the base product while making up profit selling the add ons.

If you don’t want the complexity of a base product (that is a complete solution for some) and a myriad of a la carte choices to add on, then consider creating good, better, best bundles.  Thinking about unbundling can help you create a new “good” product that is more competitive and attractive to more customers.  Your current product can be considered better or best.

The secret to unbundling is thinking about the complete solution.  If you sell a complete solution, look for the minimum set of features that a segment will still buy.  If your smallest offering has more than that, then consider unbundling.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo by sun dazed

Kid Rock Plays with Pricing

Kid RockThis article in the Wall Street Journal describes how Kid Rock is changing the business model for his upcoming tour.  He is lowering the price for almost all of the seats to $20 and in exchange will begin receiving a cut of the concessions.

As all new business models should be, this may be a win-win-win.  A win for Kid Rock.  A win for the fans.  And a win for Live Nation Entertainment who owns or operates the venues where he will be playing.

Win for the fans is easy to understand.  Lower ticket prices mean more people can afford to go.

How is this a win for Kid Rock and Live Nation?  This only happens when overall revenue goes up, and that is a strong possibility.  In 2009, Kid Rock sold 17,000 tickets in Chicago.  This year he has already pre-sold 28,000.  Los Angeles sold out in 9 days and St. Louis sold out and wants another show.  It looks like $20 tickets will bring in many more fans.

Kid Rock also wins because many people who were “dragged to the show by a friend” become fans.  This builds his fan base.

What pricing lessons can we learn from this?

1. Business models are about pricing.  You should regularly rethink your business model.  When you create a new model where everyone wins you have the potential to change an industry.

2.  Don’t forget about complementary products.  Think of “share of wallet”.  In years past, Kid Rock would fill a venue, bring people in, so other people can make money selling them parking, beer or t-shirts.  If you have the attraction, you have potential to make money on everything.  In fact, you can lower the price of your main item to attract buyers for your complementary products.

3. Think about the lifetime value of a customer.  If Kid Rock creates new fans he will potentially make money from them in the future.

It’s always fun to watch a high profile pricing experiment.  The question is, are you thinking about your pricing?  Are you rethinking your business model?  With the pace of change today, someone may soon change the business model in your industry.  Will you lead that change or hope to catch up?

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Photo by familymwr

Should Your Pricing be Fixed or Flexible?

Tug of war 2The answer: flexible … unless there is a good reason to not.  A good reasons could be very low transaction values, the capability of your sales channel, and your capacity for new business.

Flexible pricing enables price segmentation.  If you can learn a customer’s willingness to pay (WTP), flexible pricing allows you to charge closer to that amount.  Some customers pay more and some pay less.

Flexible pricing really means your willingness to negotiate.  Car dealerships carefully study their customers.  What are they wearing?  What is their current car?  What is their career?  They use this information and more to estimate their customers WTP and then negotiate the highest price possible.

Look at what happens if you only charge a single fixed price.  You could price high enough to capture the full value from customers with high WTP, but you would not sell to those with lower WTP.  You could price low enough to capture the most customers, but you leave money on the table because some people were willing to pay much more.

Given a choice you want to use flexible pricing.  What conditions drive you to fixed pricing then?

Low value transactions:  When you buy a bag of chips at the grocery, you don’t negotiate.  That’s because it isn’t worth the effort to the grocer (or you).  The cost of negotiating is likely higher than any incremental WTP you capture.

Capability of sales channel:  If your sales channel is not structured or trained to negotiate deals, then fixed pricing may be a better choice.  For example, it is difficult to negotiate individual deals when selling through a distributor.  However, the power of some buyers, like WalMart, could force you into negotiations even if you don’t really want to negotiate.

Capacity for new business:  If your factory is at full capacity or your organization can’t expand more without extensive hiring and training, then negotiating lower prices makes little sense.  However, if you really are at capacity, can you raise your prices for new customers?  Then as capacity becomes available you can offer your current (lower) prices to keep at full capacity.

Should you use fixed or flexible pricing?  Look at your situation.  If flexible pricing makes sense, use it.  If not, use fixed pricing. We presented 3 reasons why you would want to use fixed pricing, but surely there are more.  Can you think of any?  Please share them.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

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Graphic courtesy of city cigar life.

Why You Must Offer Good, Better, Best

Almost everyone should implement a good, better, best strategy.  Pragmatic Pricing has said this many times.  Here is another piece of evidence for you.

Joel Huber and Christopher Puto experimented with choice sets, and how different alternatives effected respondents choices.  This experiment, as reported in William Poundstone’s book “Priceless”, is powerful evidence for why you should use good, better, best.

Huber and Puto asked students to choose a beer.  Each beer had a price and a rating by a “beer connoisseur”.  These are all summarized in the table below.

In the first test, they only asked the students to choose between the bargain and premium beers.  About 67% of the students chose the premium.

In the second test they added the cheap alternative.  Notice nobody chose the cheap beer.  However, 14% more people chose the bargain beer.  This would result in 5% less overall revenue just by adding the third alternative (assuming the same number of customers).  This is not what you want to do as a company.

In the third test they didn’t have the cheap beer but instead included a super-premium beer.  The 33% that originally purchase the bargain brand all moved up in their choices.  Even though only 10% of respondents chose the super-premium, the act of including that choice would increase overall revenue by 15% (again assuming the same number of customers).

Here is your lesson:  Add a higher end product to your portfolio.  This one act increases your revenue.  It increases your  customers’ Willingness to Pay.

Although we haven’t discussed it here, this one act also increases your gross margin because your gross margin as a % should be higher for your more expensive products.

Look around you and you will see good, better, best everywhere.  Apple products come in 3’s.  Sears is well known for good, better, best.  International travel has first class, business class, coach.  How can you make your offering a good better best?  Take heed.  If you need to create a third offering, make it at the high end, not the low end.  You will see an increase in profit.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

Sign up for the Pricing Perspective, a free monthly summary of my blogs and other publications.

Photo courtesy of the National Cancer Institute

The Price of Popcorn at Movie Theaters or How To Gouge Your Customers

Why Is Popcorn Expensive at Movie Theaters?

You intuitively know the answer.  You recognize that popcorn is so expensive because once someone buys a ticket to enter the movie theater he or she is captive.  The same is true at theme parks, airports, and anyplace else where, after making one decision, subsequent choices become limited.

The price of popcorn at the movies is a wonderful example of a concept very important in pricing:  Will I? vs. Which one?

When you decide to go to the movies, you probably select the theater that has the movie you want to see at a convenient time.  If you have theaters that charge different prices for tickets you may take that into account.  This is the “Which One?” decision.  You are choosing a movie theater.

Once you enter the theater, you ask yourself, “Am I going to have popcorn today?”  This is the “Will I?” decision.

People tend to be price sensitive when answering “Which One?” and they are less price sensitive answering “Will I?”  This means people are more price sensitive when choosing the movie theater and less price sensitive about their snacks.  This explains the high prices.

The question to you is how can you get your customers to make a “which one?” decision in your favor, and then make even more (and more) money from them in later “will I?” decisions.

Here’s another example.  I recently needed a Thunderbolt cable to connect two apple computers.  I paid $50 for the cable.  What a ripoff.  But I paid it because I needed it and didn’t have a choice.  (Apple recently lowered the price to $40.  Wow.)
What accessories do you sell?  Are your customers locked in to your accessories or not?  I wouldn’t advise gouging them (like Apple) but you can surely make a handsome margin if you can lock in your customers.

Can you sell extended warranties?  Do you have a service plan?  A tax preparer I work with offers “audit insurance.”  Look around your industry and see what others are selling.

Popcorn and thunderbolt cables are expensive because the customers are captive due to a previous decision.  Think hard about this.  You can do something similar.  You just need to find it.

But please don’t gouge your customers.  Remember you want a long term relationship and some day your customers will be making another “Which One?” decision that you would like to win again.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

For more insights on pricing, sign up for the Pricing Perspective, a free monthly summary of my blogs and other publications.

Photo Credit: Tyello via Compfight cc

New Business Models – The Most Exciting Role for Pricing

Pricing is fun!  We help companies create value, determine how much value they create, and then capture that value.  But there is one thing that stands above, creating new business models.

Many new business models are based on looking at what customers buy vs what companies charge for.  In other words, pricing.

Netflix is a great example.  They built their company on DVDs by mail.  At the time, people went to the video rental store, paying for each rental and most importantly the associated late fees.  People were charged for the rental time.  However, people were buying the entertainment, the ability to watch a movie at home.  Netflix found a different way to charge customers for what they were actually buying and built a business around it.

And Netflix is doing it again.  They are shifting to streaming access to movies.  It isn’t about the DVD or the rental, it’s about the entertainment experience.  Netflix understands this well.

Think about Starbucks.  Many people grab a latte to go on their way to work, and this is perfect.  They are buying coffee, Starbucks is selling coffee.  But what about the Starbucks locations that always seemed to be packed with people working on their computers?  What are those people buying?  Of course they do buy a coffee or something, but that’s not really why they are there.  Can Starbucks charge for that?

Last week NPR published “Rubles for Minutes, Not Mochas, At Russian Cafe Chain“. It’s a chain that gives away the coffee but charges for the time spent.  Interesting concept and a great example of charging for what people are buying.

My guess is a coffee shop in the right location will succeed using a hybrid form, charging for both the coffee and the seating.  They may give away the seat for 30 minutes with the purchase of a coffee and then charge from there.

But this blog isn’t about coffee shops or Netflix.  It’s about business models.  Do you know what your customers really buy from you? Dig down a level or two.  Once you understand what they really buy, can you charge for that?

Software companies have it easy (ahem), in that they don’t sell a physical product.  They are always asking, what do we charge for?  That’s where we see things like perpetual license, annual license, per user, per gigabyte data transfer, per gigabyte storage, and of course freemiums (and many many more).

It’s not always easy for software people to answer the question of what to charge for, but at least they aren’t predisposed to simply charge for the physical product.

Back to you.  What do your customers really buy?  Why do they buy from you?  What can you charge for?  If you come up with something truly unique, you may be able to build a new business model.  You may be able to transform an industry.

Now that’s fun!

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

To gain more insights on pricing, sign up for the Pricing Perspective, a free monthly summary of my blogs and other publications.

Photo Credit: veo_ via Compfight cc

Marketshare and Pricing – Ouch

Marketshare is a laudable goal for a company. Just don’t use pricing to achieve it. Trina Solar’s announcement is one demonstration.  (Click on the headline to read the entire article.)

According to this article, prices of solar panels have dropped 21% in the past year due to too much supply and manufacturing capacity. Each company tried to win every opportunity to fill their capacity. Unfortunately for the industry, they fought it out with lower prices, in dollars per watt. They tried to win share with price. As a result, prices plummeted. So did industry profits.

read the rest at PragmaticPricing.com …

 

Teslas, Warranties and Whiners – More Pricing Lessons

A friend asked for my opinion on this blog – Tesla Model S Service Contract: $600/Year, Or Warranty Voided by David Noland.

David is on the waiting list for a new Tesla and found out the service contract is $600 per year.  Worse yet, if you don’t buy the service contract, you don’t get a warranty.

Where to begin.

First, David spends much of the article estimating the true costs of servicing the vehicle, pointing out it is much less than $600.  Apparently he thinks Tesla should be pricing service contracts on a cost-plus basis.  We’ve mentioned this before, customers think we should use cost plus pricing.  If we don’t, they think we are gouging them.  David gives us an example of this.  Tesla probably wishes David hadn’t pointed out the cost vs. the price.  However, as long as this theme isn’t picked up by lots of media, not that many customers will think this way.  In the end, Tesla can charge whatever their customers are willing to pay.

Second, hooray for Tesla.  It wouldn’t surprise me if we see more high end car companies doing this.  Why?  They are selling complementary products.  Keep the price of the decision product (the Tesla) as low as possible and make profit on the add-ons and accessories.  It’s like paying shipping and handling on an Internet purchase, or buying an HDMI cable for your new DVD player, or baggage fees on airlines.  These high margin add-on purchases are rarely considered by customers when making the initial purchase decisions.

Finally, hooray for David.  He is proactively considering the cost of the add-on, the total cost of ownership.  The cost of the service contract may make him change his mind.  It may not.  Regardless, kudos to him for investigating all the costs so he can make an informed decision.  Also, it’s wonderful that he’s sharing his opinion of it with all of his readers.  This information may change some minds of readers who were struggling to afford a Tesla, but I would bet most Tesla buyers simply grimace and write the $600 check.

Tesla hasn’t responded to David (and why should they?).  It is very possible that they have done extensive analysis on battery failure rates and $600 is a “fair” price.

In the end, companies get to make their own rules on how to sell their products … and for how much.  Consumers get to decide whether or not to buy.  I’m a strong proponent of informed consumers, but not whiners.  On the other hand, if businesses make decisions that cause customers to whine, they are asking for trouble.  What happens if a large portion of the media pick up this story?  Tesla may find this pricing tactic hurts their brand.

Pricing – sometimes, it’s a balancing act.

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author

photo by jurvetson

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Freemium Is Getting a Bad Rap

Last week, while speaking to 150+ mostly software focused product managers at the Startup Product Talks Meetup in San Francisco, I was surprised to hear negative comments about the freemium business model.  Then I read in the Wall Street Journal two articles that were less than positive about freemiums:  “When Freemium Fails” and “What Grubhub’s CEO Took From The Strategy“.

Here’s the easy answer:  No business model is right for all businesses.

First, a definition.  Freemium is the business model where a company (usually software) develops a functional and useful product and gives it away for free.  The company also develops versions of the product with more features which it sells for money.  Successful freemium companies typically convert 1-2% of their users to paying customers.  Two common examples are LinkedIn and Skype.  Both offer packages we can use for free, and both offer upgrade packages that give us more functionality at a price. Think about this.  Around one percent of LinkedIn users pay so the other 99% of us can use it free.

Why does freemium work so well for companies like LinkedIn and Skype?  The basic concept is that they offer a free product that millions of people want.  It is much much easier to get a user for free than if you charge even a penny.  This large free user base acts as word of mouth to attract even more free users.  Then, you should find a very small proportion of your users (1-2%) that really want some additional features above and beyond the free product.

This works best when there are what economists call network effects.  These are when the value to one user increases as more users sign on.  Imagine how useless LinkedIn was to the first few users.  However, now that they have millions of users, LinkedIn is extremely valuable to all of us who use it.  However, LinkedIn is even more valuable to select users.  HR people looking find new hires and salespeople looking for new clients readily come to mind.  So LinkedIn created more features targeted specifically at those markets.

Freemiums don’t have to have network effects.  For example, many free games on your iPhone or Android phone offer completely free versions up to a level and then sell the full version for even more levels.  Although this is a freemium, it is much less sticky than businesses with network effects.

Now that we understand more about what it is and why it works, will it work for you?  For freemium to work your business needs to have several characteristics:

  • Low cost to serve – If 99% of your customers don’t pay, you had better be able to serve them relatively inexpensively.  That’s why freemiums are most popular with software where there is close to zero marginal costs for another customer.
  • Offer value for free – The free version of your product must have value to your customers.  You want them to use your product.  Otherwise you won’t get any network effects or word of mouth.
  • Upgrades must be VALUABLE to a portion of your users – They must be willing to pay for these additional features.
  • Network effects (ideal but not required) – The bigger your network becomes, the more valuable it is to your users.

Of course freemiums don’t work for every business.  But don’t rule them out quickly.  It may be true that companies and VCs have been overly zealous toward them.  Maybe there is a backlash now.  But if you have the right business and market conditions, the freemium business model can be extremely lucrative.  Just ask LinkedIn.

 

Mark Stiving, Pricing expert, Speaker, Author

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Photo by Nan Palmero

Thank you to Cindy F. Solomon for hosting the Startup Product Talks Event

What You Get Paid For

If you are a believer in Value Based Pricing, you know we get paid based on how much value we offer our customers.  However, are you generating more value than you capture?  Can you capture more of it?

During my keynotes I love to tell the story of Disneyland.  511 acres of attraction in Anaheim California that people fly in from all over the world to see.  What grew up around Disneyland?  Anaheim.  Tons of hotels and restaurants catering to the tourists.  All of these business are capturing value that Disney created.

So, when Disney built DisneyWorld, they built it on 25,000 acres.  Disney owns 26 hotels and many many more restaurants.  When tourists travel to Orlando Florida, Disney captures more of their total spend.  In other words, Disney capture more of the value they create.

Two incidents reminded me of this while traveling.  Note the pictures.  One is from a restaurant where I had breakfast.  They sold advertising on their tables, a 3 year license which varied from $75 to $200, depending on size.  Think about that.  They created value, potential customers attention, and captured some of that by selling advertising.  It’s not their normal business of selling food, but they captured more of the value the created.

Then I looked at the keys on my rental car.  Notice there is a Macy’s discount card attached to these keys.  Wow.  Avis, a rental car company, found a way to make incremental revenue by selling the attention of travelers to Macy’s.

Two questions for you:  What additional value do you create?  How do you get paid for it?

Bonus question – Can you think of other examples of companies that get paid for something other than their main business?

 

Mark Stiving, Ph.D. – Pricing Expert, Speaker, Author