Kevin Hale - Startup Pricing 101

Summary

This talk addresses the complexities of pricing for startups, emphasizing the importance of understanding cost, value, and the optimal price point. It introduces the 'pricing thermometer' concept, explaining how margin and incentive to buy influence growth. The speaker advises startups to pursue value-based pricing, avoid common pitfalls like underpricing, and target early adopters. They also provide practical tips for price optimization and suggest a 10x rule for setting prices relative to perceived value, recommending gradual price increases to find the sweet spot where 20% of deals are lost.

Takeaways

• 📈 Pricing is crucial for startups and is often a neglected area with significant potential for business growth.
• 🔄 Pricing involves a balance between cost, price, and value, which collectively affect a company's growth and customer acquisition.
• 🛑 Startups commonly make the mistake of underpricing their products, which can lead to insufficient margins and financial strain.
• 🤔 Understanding the relationship between cost, price, and value is fundamental to effective pricing strategy.
• 📊 Value-based pricing is recommended for startups as it allows for higher pricing and better manipulation of the incentive to buy.
• 🚀 Early adopters are key for startups; they are less price-sensitive and more focused on the benefits and innovation of a product.
• 📉 Avoiding the 'danger zone' of pricing, where the sales cycle is long but the revenue per sale is not high enough to sustain the business.
• 📝 A simple table can be used for price optimization, tracking conversion rates, sales volume, and revenue at different price points.
• 💡 The '10x rule' suggests setting a price where the perceived value to the customer is ten times the cost.
• 📈 Incrementally raising prices by 5% can help find the optimal pricing point where you start losing 20% of potential deals.
• 📚 Educating sales teams on the value proposition is essential to effectively communicate the worth of the product during sales meetings.

Q & A

Why was the pricing talk highly requested at YC?

The pricing talk was highly requested at YC because it addresses fundamental principles of pricing that many startups struggle with, and it's a popular workshop that helps demystify the pricing process for innovative products and new markets.

What are the main challenges of pricing for startups?

The main challenges of pricing for startups include understanding the relationship between cost, price, and value, and how these factors affect growth. Additionally, startups often struggle with price optimization and targeting the right customer segments, such as SMBs, which can be particularly difficult.

What is the 'pricing thermometer' concept mentioned in the script?

The 'pricing thermometer' is a concept used to understand the interplay between cost, price, and value. It helps in identifying the gap between price and cost (margin) and the gap between price and value (incentive to buy), which are crucial for driving sales and growth.

Why is pricing often neglected in comparison to other growth strategies?

Pricing is often neglected because many are afraid to touch it for fear of getting it wrong and losing customers. However, optimizing pricing can have the most significant impact on business growth compared to other strategies like acquisition and retention.

What are the two main approaches to setting a product's price?

The two main approaches to setting a product's price are cost-plus pricing, where the price is determined based on the cost of production plus a markup, and value-based pricing, where the price is set based on the perceived value of the product to the customer.

What are some common mistakes startups make when pricing their products?

Common mistakes include pricing products too low, underestimating costs, not understanding the value customers place on the product, and focusing on the wrong customer segments, such as those who are not early adopters.

Why are early adopters not price-sensitive and what do they value more?

Early adopters are not price-sensitive because they value the benefits and the competitive edge that a new product can provide more than the cost. They are willing to take risks to gain an advantage over others, making them a prime target for startups.

Outlines

00:00

🔍 Introduction to Pricing Fundamentals

This talk addresses the basics of pricing, particularly for startups and innovative products. It aims to help understand pricing from first principles, explaining why pricing is challenging for new markets, how to optimize pricing, and how pricing affects customer acquisition strategies. Practical tips, or 'pricing trick sprinkles,' are shared to assist in tackling pricing issues.

05:01

💡 Common Pricing Mistakes

This section delves into four common pricing mistakes startups make: undercharging, misunderstanding costs, not grasping the value proposition, and focusing on the wrong customers. It explains the stages of a product's life and emphasizes the importance of targeting early adopters who are less price-sensitive and more interested in the product's benefits.

10:02

📊 Practical Pricing Strategies

This part offers practical methods for price optimization, such as using simple tables to compare different price points and their effects on conversion rates, sales volume, and revenue. It highlights the importance of avoiding 'danger zones' where acquisition costs are unsustainable and suggests exercises to envision a path to becoming a billion-dollar company.

15:03

🔧 Adjusting Pricing for Growth

Focusing on how to align pricing strategies with customer acquisition costs, this section suggests setting prices to reflect 10x the value perceived by customers and progressively increasing prices until losing 20% of customers. It summarizes the key points: understanding pricing variables, targeting early adopters, and organizing proper price optimization to balance sales and revenue effectively.

Keywords

💡Pricing

Pricing refers to the process of setting the selling price of a product or service, often determined by factors such as production costs, market conditions, and perceived value. In the video, pricing is central to the discussion on how startups can approach monetization and growth, with a focus on understanding the relationship between cost, price, and value to drive company growth effectively.

💡Monetization

Monetization is the method by which a company generates revenue from its products or services. The video emphasizes the importance of monetization, particularly through pricing, as it has the most significant impact on business growth. It suggests that optimizing pricing can yield the highest return on investment compared to other strategies like acquisition and retention.

💡Value-Based Pricing

Value-based pricing is a pricing strategy where the price of a product or service is determined by the value it provides to the customer rather than its cost of production. The video advocates for startups to use value-based pricing to charge more and create a stronger incentive for customers to buy, provided they understand the value they are receiving.

💡Cost Plus Pricing

Cost plus pricing is a method where the selling price is set by adding a markup to the cost of production. This approach is mentioned in the video as an alternative to value-based pricing, but it is noted that startups often struggle with understanding their costs, which can lead to underpricing and insufficient margins.

💡Early Adopters

Early adopters are a group of consumers who are among the first to purchase a new product or service. The video discusses the importance of targeting early adopters for startups, as they are more likely to take risks and value the benefits of innovative products over price, which is crucial for gaining momentum in the market.

💡Acquisition Strategy

An acquisition strategy in the context of the video refers to the methods a company uses to attract new customers. The script explains how pricing can affect this strategy, as different price points may enable or restrict certain marketing and sales tactics, ultimately impacting the company's growth.

💡Margin

Margin, specifically gross margin, is the difference between the price of a product and its cost of production, indicating how much profit a company makes per sale. The video uses the concept of margin to explain the incentive for a company to sell its product and the importance of not underestimating costs when setting prices.

💡Price Optimization

Price optimization is the process of determining the optimal price point for a product or service to maximize revenue or profit. The video demystifies this process by suggesting startups use simple tables to track conversion rates, sales volume, and revenue at different price points to find the best pricing strategy.

💡Incentive to Buy

Incentive to buy refers to the motivation that drives customers to make a purchase. In the video, it is discussed in relation to the gap between the perceived value of a product and its price, suggesting that a larger gap can make it easier for customers to decide to sign up or purchase the product.

💡Pricing Thermometer

The pricing thermometer is a conceptual tool introduced in the video to illustrate the relationship between cost, price, and value, and how these factors interact to affect growth. It is used as a fundamental concept to understand pricing problems and to guide startups in making informed pricing decisions.

💡10x Rule

The 10x rule mentioned in the video suggests setting a product's price at a level where the perceived value to the customer is ten times the cost. This rule of thumb is intended to ensure that the price is high enough to reflect the product's value and to create a compelling reason for customers to buy.

Highlights

The talk focuses on basic fundamentals for pricing and monetization strategies, aiming to demystify the process for startups.

Pricing is particularly challenging for startups in new markets due to the difficulty in understanding customer segments and optimizing price.

The importance of pricing in a company's growth strategy is emphasized, with pricing optimization offering the highest return on effort.

The 'pricing thermometer' concept is introduced to understand the relationship between cost, price, and value, and its impact on growth.

Two main approaches to pricing are discussed: cost-plus and value-based pricing, with a recommendation to strive for the latter.

Common pricing mistakes made by startups include undercharging, misjudging costs and value, and targeting the wrong customer segments.

The concept of 'early adopters' is explained, highlighting their distinct characteristics and their importance in the growth of innovative products.

A demand-yield curve is used to illustrate the balance between price and sales volume for pricing optimization.

A simple table method for price optimization is suggested, focusing on conversion rates, sales volume, and revenue generation.

The 'danger zone' in pricing is identified, where companies struggle with long sales cycles and high acquisition costs relative to revenue.

The importance of understanding the sales process complexity and its relation to the price point is discussed.

A pricing strategy for different stages of a company's life cycle is outlined, from product development to maturity.

The '10x rule' is introduced, suggesting that the perceived value should be ten times the price, for easy understanding and acceptance.

A gradual approach to raising prices is recommended, starting with a 5% increase and adjusting based on customer response.

The talk concludes with a summary of key takeaways, emphasizing the importance of understanding pricing variables and targeting early adopters.

A call to action for startups to review and optimize their pricing strategies to unlock potential growth is presented.

Transcripts

this was a highly requested talk from

last year or lots of people had

questions about pricing or really

confused it's actually was well

requested both at YC itself that's a

very very popular workshop that we run

and so we're gonna go over a lot of

basic fundamentals for pricing that

hopefully will just help you understand

how to approach your pricing and

monetization from first principles and

then you help you help yourselves same

thing with the landing page lock so

we're gonna go over first principles for

pricing we're gonna go over why is

pricing particularly hard for startups

for people making innovative products

and new markets like why is it extra

difficult how do you do price

optimisation like how do you actually do

it what does that actually look like and

just kind of demystify that whole

process when we look at the challenges

of pricing you start recognizing why

certain types of customer segments that

you're going after are difficult like

SMB and we'll talk a little bit about

that we're gonna talk about how pricing

affects your acquisition strategy it

changes what you can do and what you

cannot do and it's extremely important

because a lot of companies get caught up

doing the wrong position strategy or

wasting too much money use the price is

incorrect and then I'm gonna give you

some rules of thumbs some pricing tricks

just to help make it a lot easier when

you're encountering different pricing

problems I call them pricing trick

sprinkles okay there are three lovers

you can pull to improve growth so in the

last talk I talked about conversion rate

and churn but monetization is actually

the Big Dawg it's the one that I really

like now there was a survey done with

over 500 SAS companies and they talked

about sort of like amount of effort that

they put into each one of these

strategies and the returns that they got

as a result of it now acquisition is

really fun and exciting it's the one

that everyone kind of understands simply

it's like I get more customers I get

more logos gives me more growth

retention of course is about keeping

customers and

zatia is about getting more money per

customer now if you increase just your

efforts or resources by one percent your

work on acquisition usually get a return

of about three point three two percent

in retention it's about six point seven

and when you're optimizing pricing that

gives you your biggest bang for your

buck in terms of impact on your business

yet and it's the one that is most

neglected and I think it's the one that

everyone is so afraid to touch because

they're so scared that if they get the

pricing wrong that they will lose all

their customers now the first principles

the basic idea about pricing the thing

the concept that really opened up in my

head how to think about pricing how to

understand the problems that people are

facing and why startups get it wrong is

to use a concept called the pricing

thermometer and so you have to

understand that when you price something

there's actually like two other factors

at play and so there's a cost there's

the price and then there's the value and

the interplay of in relationship between

these items affects how growth happens

inside of your company now the gap

between price and cost that is your

margin that is your incentive to sell

and so the bigger that gap is the more

you are driven to want to push your

product to your customers to have your

sales people etc this gap here between

price and value is incentive to buy and

the larger that gap is the easier it is

to have your customers to want to sign

up or views your product now to figure

out price there's really two ways to go

about it you either start with the cost

if you know what it is and you figure

out where your price is based off of

that that is called cost plus the other

way to do it is figure out what is the

value of your company or product or

service and then you figure out your

price from that and that is called

value-based pricing

in startups and almost pretty

consistently across all businesses

everyone will tell you you should strive

for value-based pricing it allows you to

charge a whole lot more it allows you to

manipulate this incentive to buy the

problem is because people do not

understand their relationships or even

understand what are their costs and what

are the value that their customer is

going to think about their product they

put their price in a kind of arbitrary

place and they don't know what are the

forces at play that drives it and it

results in four different types of

mistakes

the first one is startups will price

their products too low basically you

consistently under charge is the number

one piece of advice we give through most

startups to fix their pricing and I'll

talk a little bit about why most

companies fall into that trap you

underestimate your costs and the result

is you have a problem where your margins

aren't enough to cover sort of

acquisition you don't understand your

value you don't understand how your

company thinks about the problem that

you're solving for them or how they

value it and either they don't

understand your value or you don't know

how to convince them of the value that

you think you offer and as a result you

can't get the price that you want and

lastly you focus on the wrong customers

that you think man

man if I built a better product and I

charge half the competition I win the

thing is that almost never happens and

the reason is because you as a start-up

you as working on something to create a

new market are working on innovative

products you are focused on the wrong

customers they are not the mainstream

people who are going to look at the

price and make most of the determination

based off of that so this is the sales

and profit over a product's life from an

Shinto demise that's what it's called

all you need to know is that these are

five different stages of a company and

this is what sales might look like over

different stages and what profits might

look like over those different stages

you who are in start-up school you who

are getting seed funding your are in the

first two stages product development

stage introduction you are not in the

growth phase and the thing to keep in

mind is that the customers in the first

two stages the ones that you're going

after they don't look like mainstream

customers that you find in growth and

maturity stages they're not mature

customers they're early adopters and

thing to know about early adopters is

you kind of don't really get a lot of

momentum and growth until you get past

the first two to five percent of

potential buyers of your market these

people in that two to five percent

they're called early adopters and the

thing that drives them it's very

different from mainstream people so one

there's a couple things to keep in mind

about pricing innovative products what

you are trying to do fundamentally is

require users the change to their

pattern to stop doing it the old shity

spreadsheet way and do it in the new

better your way and getting someone to

change their pattern is actually

difficult right especially if they're a

mature person partly because the average

user lacks

information needed and the trust in you

or whatever it is that you're making to

make that change to take that risk

you are entrepreneurs you're comfortable

taking risks your customers are not

entrepreneurs for the most part they're

probably less comfortable taking risks

and so in the beginning you're going

after people who are willing to take a

risk and those are early adopters those

are people who care about benefits above

all else that the highest value to them

is beating their competition

doing something much better and taking a

chance that something new will give them

that edge over anybody else those early

adopters therefore are not price

sensitive if anything if you've built a

better product and you charge less it

looks like you have reputation risk it's

like why is it too good to be true what

is the catch and what will end up

happening is it makes it much longer to

get to not understand this is basically

all price optimization this is those

complicated way that you can try to show

price optimization this is a demand

yield curve and when you have on this

side is different prices and on this

side you have sales unit sales and

basically what you are trying to figure

out when you're optimizing the price

that you're charging your customers is

like basically what is the perfect

balance between how much I charge and

how much sales volume I get and then

your price optimization is basically

that try different prices and then see

what the effect is when I have my

companies optimize their prices they

just use a very simple table you don't

need to try to figure that weird ass

graph basically you want to have a

column that says these are the prices

I'm gonna try and then what is the

result in conversion rate what is the

result in sales volume and then how much

revenue did I generate that's all it is

and so let's say I have prices at these

different price points and I get these

different conversion rates and I get

this sales volume I should immediately

be able to see who the winner is here we

go now the one thing to keep in mind

once we have figured out something like

this what a simple product is that these

areas at lower prices if you can afford

them in terms of your margin or actually

lost opportunities and what you want to

understand about these are these are

what you're going to see if you offer

discount pricing or offer tiered pricing

at different price points another

exercise I like to go with companies

when dealing with pricing is how them

understand is like

are you in a danger zone and so what I

usually do with my companies that I help

have them sort of calculate what would

their business look like or what does it

gonna look like to be a billion dollar

company and usually the rule of thumb

there is to be doing a hundred million

dollars a year in sales and revenue and

so that basically is like what at your

price that you give how many customers

do you need to have to make a hundred

million dollars in that year so let's

have a bunch of different price points

then we know okay great

I need these number of customers in

order to make this formula work you

understand what that looks like at a

hundred dollar price point with a

potential about million users right

this is consumers that's what that

consumer space looks like and you know

what this down here looks like $100,000

here we call this enterprise this area

here is the part that a lot of companies

are in and really really struggle

they're on the struggle bus and it tends

to be SMB these are people who kind of

treat their money like consumers right

but they kind of look like they might be

an enterprise and the reason why this is

such a danger zone is because it will

tend to fit in the wrong place on my

next diagram so let's imagine that this

vertical axis represents a price you can

charge either high price or a low price

for your product and this represents

complexity of your sales process low

complexity to high complexity if you are

having a product that is two thousand

dollars or less and is basically

self-serve then you have something in

this quadrant here and this affects

completely what you can do in terms of

what drives your business what you can

spend on to get that sort of growth that

price point here at $2,000 it needs to

be have almost all marketing be inbound

you can't spend a lot of money outbound

or ads etc

your support has to be completely

self-serve or very very minimal you have

no sales team at this price point you

can't afford it right but conversions

can happen on the same day must be in a

self-serve model transactional so

between two and ten thousand dollars

when you're able to charge this you're

able to have a few new toys at your

sleeves and so marketing now can be

focused on generating qualified leads

your customer support can now offer like

SL A's or you can start paying for

training that people get on boarded and

for sales you can't hire a dedicated

salesperson but maybe you can have an

inside sales rep to sell within

companies are within your customers you

could maybe have an SDR

and you can maybe have someone dedicated

to giving product demos sales cycle here

should not be longer than one to three

months enterprise it's over twenty five

thousand dollars now for marketing you

can start spending things on branding on

building up trust with customers your

support is very very high touched that

you can afford you can do phone support

you can have a customer success person

dedicated to the client and for sales

you're going to start thinking about

sales managers dividing stuff into

territories and having sales engineers

that participate in terms of conversion

and the sales calls these will have a

sales cycle about six to twelve months

this is the garbage zone right and you

know if you're potentially in this and

this is the big wake-up call for you if

it's taking you months and months and

months to close someone but you're not

making a lot of money to cover it you

have a process where your acquisition

costs are just too high for you to be

sustainable and you have to get yourself

out of that problem all of your work

should be towards increasing the

perceived value of your product or

service I'm going to end on a good rule

of thumb so if you are

starting with some kind of price but you

don't know how to sort of optimize it or

figure it out then here's a good place

to get going the first thing is I like

to have things where the value is 10x

the price of whatever it is I'm charging

and I want to have it so that the value

is easily understood to be 10x so for

example if I charge for a product that

is $10 then it should be in terms of

perceived value by my customer that it's

worth $100 to them if they do not

immediately understand the 10x value of

the price it's gonna be hard to get them

to move their incentive the buy might be

too low

once you have any kind of price and this

is particularly important for people are

doing b2b or enterprise sale you should

start practicing raising prices and I

like to just start by raising prices by

5% if you feel really confident jump it

up by bigger numbers if you want but

this is a pretty safe way to do it so

that you can feel comfortable with it

and you want to keep raising prices

until you're losing 20% of your

customers that's about a good balance to

have in terms of understanding that like

I have a good price here I'm losing 20%

of my deals it's not too high it's not

too low

in summary for pricing pricing gives the

most bang for your buck you should work

on pricing if you've never touched the

pricing of your product then you're

losing out on lots of potential growth

understand the variables do you really

understand your cost do you understand

why you've plate the price where it is

and do you understand the value when you

go into a sales meeting or call do you

talk to people and you basically say

it's like I know exactly what this is

going to be worth to you

so when I tell you what the price is

going to be you're going to be like damn

that's totally worth it

go after early adopters remember as a

startup that is who you're going after

so when you are talking to customers and

they are taking a really long time to

make a decision or they're wanting to

have a lot more proof that other people

are using it

are not talking to an early adopter

you're wasting a lot of time on

non-believers go after them first don't

take it personally when these people who

are much more mature aren't ready for

your products they were never going to

be your job is to get through that first

two to five percent of the market those

early adopters care more about benefits

than price so don't under your products

when you have something that is of value

and easily understood to have value get

organized when you're doing proper price

optimisation it's really really easy

don't over complicate things

figure out a bunch of different price

points you want to check understand

sales volume conversion rate and the

revenue that's involved and that will

help you make the best pricing decision

your price will determine your

acquisition strategy if you realize that

your sales cycle or all the things that

you're spending on is way too much for

the amount of money that you're charging

you either need to increase the price or

completely reduce your acquisition

strategy costs use the 10 520 rule set a

price that is 10x that is a tenth of the

value increase prices by five percent

until you are losing twenty percent of

the deals thank you very much guys

[Applause]

you

you