“When you have a business model that can support value-based pricing it can be huge for your bottom line.”
Value, instead of time-based pricing is essentially the pinnacle of pricing models in my opinion. Coming from a culture where time-based pricing was so prevalent and expected by the customer, it was not an easy shift for my marketing firm to remove hourly pricing and move more towards this model.
In this approach we:
- Estimate and assess what the importance, worth, and usefulness of our product or service is to our customer both short term and long term. For example, does this product save the customer money indefinitely? does it generate new revenue or opportunities for revenue, if so how much? Is it something that will require on-going care and attention or is this a one-time build?
- Consider how the solution would benefit or be applied to the overall market.
- Evaluate the complexity of the customers need and our proposed solution(s).
- Calculate both a time and manpower investment as well as allocate all resources needed to accomplish the desired end result.
Once these points are addressed we can price accordingly. This allows us to factor in a great number of variables we never could before and maximizes flexibility in terms of options available. It is ideal for me because it changes the type of customer we target. Time-based pricing tends to attract cost-conscious low budget customers who insist on spending time analyzing every hour worked and what that equates to in terms of immediate cost. They usually have no budget to speak of and are not interested in “long-term” solutions but simply getting something done at that very moment in time. Being the “planner” that I am, I much prefer working with customers who have established marketing budgets and goals, and who see the “value” in the service and products we provide.
This model also allows us to account for everyone’s time on a project without coming across as if we are padding costs. With time-based pricing billing for administrative time or tasks was always a point of contention since some cusotmers see it as an operating cost. However, with marketing and creative projects in general, without proper planning prior to and management during a project it will fail and these are costs which absolutely should be accounted for and included in all pricing.
This model will not work if you are just starting out and trying to establish pricing for the first time… in most cases. This is often because, well, let’s face it, most business owners are “one hot mess” when they first start their business. They are all over the map trying to figure things out. It’s not uncommon for new owners to delve and pivot in 10 different directions until something sticks. In this scenario, the majority of new business owners are “yes men” targeting anyone and everyone who needs what they are selling.
As our qualifying process and business structure became more refined, we eventually began to weed out any potential leads that were not a good fit for a value pricing model. For example, someone digging for loose change in the couch cushions is not someone we would take on as a customer nor someone who would qualify for pricing based on value and long-term planning since someone in such a financial position would never see the value in anything we offer as they should. And, as business owners we should never waste time or chasing leads that are not worth our time or a good fit for our organization.
Here are my top 3 pros and 3 cons of value-based pricing which will help you effectively price small business services.
Pro #1: Common Ground
The greatest benefit to pricing based on value is you and your customer are ideally speaking the same language. So long as your customer clearly explains the value and benefits this project might have for their business, you can come up with a plan and a price that will work for both of you. This approach makes the most sense in terms of client acquisition for a business such as mine since only working with customers who can see and appreciate the value we provide is of interest to me. That’s not to say customers cannot have doubts or concerns but this approach opens up a much broader channel of communication than in a retail situation for example where an item sits on a shelf and a customer either pays the price or doesn’t.
I also love this approach because we look beyond the immediate needs and look at more than just the product or service we provide. We now are able to explore challenges within their business and create solutions that become an integrated and critical component to building a better business. In addition, when micro-managing the hours and time spent on a project that often would become the focal point instead of the solution itself.
Pro #2: Flexibility in Pricing
I read a story a while back about a web developer who decided to stop charging customers for his work. He simply told them he’d work for free and in return they could “gift” him whatever amount they felt the work he did was worth to them. Since doing that he actually makes more per project now than before and has much better job satisfaction as he now can cherry pick the jobs he takes instead of letting potential revenue dictate which projects he takes on.
Value pricing is very similar in mindset to this because you can set the price according to how your customer feels about the work you are doing. Some people ask, “Shouldn’t you just charge one set fee regardless of who the customer is?” While I do agree in all fairness you have to ethically set boundaries on pricing (for example, if you are going after a millionaire prospect that does not mean your price just went up 5x higher for the same effort).
The reality is, customers do have a number or range in their head. Not all of them will admit to what it is or even really know until you pull it out of them. If you’ve been in business long enough you start to understand what customers expect in terms of pricing based on many outside factors. I’ve had some customers ask, “Will it cost somewhere between $5000 and $50,000?” while others ask “Will it cost between $5,000 and $10,000?” The first customer probably understands a bit more about how the price and solution suggested has a great deal of variance depending on the options chosen and the level of engagement. Either way they’ve disclosed an expectation or comfort zone which you should use to consider whether or not they are a good candidate for working with you. Once again, I do not recommend this method if you are first starting out as it is best to understand your costs hourly before you ever try to implement a value-based approach.
Based on the two scenarios above, you should also consider the importance in flexibility in pricing. This comes into play because not all customers will buy at the lower price, and not all customer will buy at a higher price. Often it is a mindset.
If you tried to sell a brand new Mercedes to someone, for $15,000 they would immediately question your actions. They would probably say, “What’s the catch?” or “No seriously, what is the real price?”
A customer shopping for a Mercedes understands there is a higher price and in return a standard that is met for that brand. The same can be established for your own products and services.
Understanding what a customer needs, and the price they are willing to pay opens you up for more opportunities to increase profit while still delivering high value products to your customer. Do not shy away from the “budget” discussion when possible. Find a way to discuss pricing and budget expectations with clients very early on. Otherwise you wind up spinning your wheels and possibly spending hours in meetings, on phone calls, or creating proposals that lead no where.
Pro #3: Scalable for Growth
Value-based pricing eliminates trading dollars for hours. Instead you can establish “project rates.” These rates encompass all necessary tasks and components to deliver what the customer needs. Your pricing becomes scalable because you no longer have to worry about making a certain hourly rate for “x” number of hours per week. Project rates allow flexibility on every single project you take on regardless of the customer type. There is no standard you must adhere to. However, you must remain ethical.
Project rates and value-based pricing will allow you to factor other critical data into your project pricing. For example, is this an existing customer that you know is difficult to work with? If so then you know you will spend 2x longer on this project than average, you should charge more.
Another example, will this customer only buy from a vendor charging “x” amount for their product and anything less doesn’t interest them? We’ve actually run into this in the past. We had two customers question how successful our SEO service was because of its affordability. They expected to pay no less than 2k per month and we were only charging around 1.5k. Our price made the product seem less desirable even though we actually did far more for our customers than the company offering 2k. We simply have less costs and overhead and can pass that on with a cheaper rate.
For customers like this, they didn’t want to consider us and we lost their business by not understanding the value they had in mind of what SEO was worth to them. Until this happens to you for the first time, losing business by charging less sounds ridiculous, but it can happen!
Con #1: The Value Pricing Trap
Companies attempting to price based on value can quickly get themselves into trouble. It’s easy to forget you must keep your customers at the center of your decisions.
What is best for them and how will this benefit their business, life, or future growth?
Business owners often see dollar signs and let that dictate their behavior. For example, if you price a few projects for 2x or 3x what you normally charged because those customers saw value only at the higher price, it is easy to then assume all customers want to pay the higher price or that is where your pricing structure should start. However, that is not the case. What brings value to some is simply too expensive for others (regardless of the “value”).
Does a lower budget make them any less worthy of being a customer? Does that mean their project is not worth your time? I do not think so. Do not get comfortable charging more than you should, it’s not going to work for everyone.
Passing or missing opportunities by adopting an overly aggressive pricing structure can hurt your reputation. Always connect with peers and individuals within your industry you can trust and see what their thoughts are on pricing. While pricing based on value is important, helpful, and beneficial to growth you have to have a baseline idea of what you might charge.
“Even if all customers, projects, and solutions are unique, pricing should be based on something.”
Otherwise, how do you answer questions like “how much?” I recommend creating a baseline cost if your product or service is applicable to doing so and set pricing expectations by using this cost as a starting point. For example, when someone asks me how much a website costs my response is typically, “Our average customer pays between $5,000 and $10,000 for a website.” That sets the expectation that unless we are talking about a very custom build, the website should fall within that range.
Con #2: Limited Opportunities
Adopting this method of pricing is not for everyone in every type of business. Perhaps you do not have the ability to price based on your customer’s needs or the inherit value your product provides. You may also alienate certain customers if they see your pricing is all over the map. Sometimes creating set pricing and sticking to it regardless of the customer is ideal. Value-based pricing can make your vision for the company and its worth/value to others misguided or murky especially if you deal with many customers who might interact among each other. Customer A finds out Customer B paid double or vice versa and you might have some serious questions to answer. Setting a fixed price puts a definitive claim on what you believe your product is worth to others.
Value pricing also has limited opportunity because it relies heavily on demand. If your product or service is no longer sought after or the competition grows fierce you will have a much harder time with this method as customers will often shop around.
“The heavier your competition the more it devalues your products and services and the more challenging it is to diversify your offerings and why customers should choose you.”
For example, if Business A, Business B, and Business C all gave your customer a quote over the phone, but you cannot give them any kind of definitive pricing structure that might give them a bad perception of how you run your business. This of course, is all about communication though and if you are prepared to answer those questions and explain your methodology there is no reason you couldn’t find success if your position and process is well-articulated.
Con #3: Ethical Behavior
Supply and demand, the most common form of value pricing, is easy for people to digest. It merely states, as demand for a product goes up, supply goes down and therefore prices increase. On the contrary, when demand drops, supply rises, and prices drop. Price will always follow demand.
To adopt pricing based on value that is more than just “supply and demand” fluctuations will require you to create and polish a very strong position on pricing. You will be questioned on how you establish pricing or as mentioned previously, why Customer A paid Price A and Customer B paid Price B. You need to be able to justify pricing variations with more than “that’s the price the customer was willing to pay.”
- What value are you bringing to one project for one customer that might differ from another?
- How does the project itself differ?
Factors such as timeline to completion, complexity, assets required, 3rd party integrations, etc will all influence cost.
“If you are charging more, are you doing more?”
Think about all of these concerns because they will come up in conversation with customers. Be detailed, be prepared, and be willing to help clarify any gray areas when estimating a project’s cost.
Remember, if you do not have a logical answer as to why pricing is different between projects or customers, than perhaps you are not pricing fairly. There has to be a “why” behind everything you do, and, you should be as transparent as possible as to what that is. The reason so many marketing firms get a bad rap is due to the inconsistency and “mystery” behind costs. Many customers walk away not entirely sure what they paid for or what exactly the services entailed. Here again, communication is everything.
Do not assume customers understand pricing, products, services, or the reasons why they cost what they do. If you assume too much of anything when it comes to working with a variety of clients you will wind up shooting yourself in the foot, and not a whole hell of a lot more. Pricing based on value is not a simple concept to master and it does require more open discussion and effort to learn more about your customers before you start discussing prices. This approach will not appeal to every business owner and your organization may not lend itself to spending this type of time with a prospect to determine need. An off-the-shelf, fixed-price solution may be a better fit for many businesses. So, as always, different strokes for different folks.
This article is part of a 7 part series I’ve put together to help you effectively price small business services:
- Getting Rid of Limiting Beliefs About Money
- Creating a True Cost Analysis of Your Business
- Avoiding the Pricing Push (overpricing)
- Avoiding the Pull to Cheapen Your Worth (underpricing)
- Pros and Cons of Time-Based Pricing
- Pros and Cons of Value-Based Pricing
- Monitoring & Grow While Maintaining Pricing
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