Pricing and packaging: What to charge on Day 1 to excite your customers and reps
“What should I charge?”
It’s a simple question. I get asked this all the time by founders because it’s a critical decision that impacts the entire business: TAM, positioning, your beachhead market, your GTM motion, your post-sales motion, your rep’s commissions, cash flow and financial forecasts, etc.
Though it’s a simple question, it really has two components: (1) HOW should you charge your customers, and (2) HOW MUCH should you charge your customers.
In this article, I’ll walk through how I think about pricing, packaging, and positioning of your product for your first customers.
General business principles to keep in mind
Before overanalyzing your pricing strategy, make sure you don’t violate these common sense business principles:
Create more value than you capture - If you create $1,000 of value for your customer, you can’t charge more than $1,000. You likely won’t be able to charge $900. Know how your customer quantifies the value you create to use as a benchmark.
Pricing will change over time - as your product and the market evolves. Treat every pricing decision like a test that you continually optimize over time.
Don’t lose money - Though it sounds intuitive, I’ve talked to dozens of startups with negative unit economics through either a negative gross margin profile or CAC greater than LTV. Exercise extreme judgment if you plan on implementing any time-based pricing strategy where you’ll have a negative gross margin at some point, such as penetration pricing or loss leader pricing. Also ensure your pricing makes customer lifetime value greater than the cost to acquire your customers (ideally by a factor greater than 3x-5x).
Though less common, another way I’ve seen startups lose money through their pricing strategy is by extending friendly payment terms to poor credit-worthy customers who never paid or paid late. I don’t want to suggest implementing a complex customer underwriting process before taking on your earliest customers, but ensure you set up the systems and processes to collect payments as appropriate before overextending your team’s time and capital investments into onboarding and delivery.
Keep it simple for your buyers to understand - The more complex and expensive your pricing, the longer your deal will take to close. This may be okay for large ACV enterprise contracts, but time is valuable when you’re a startup and you can create a lot of value for your team by onboarding more paying customers sooner.
Think of your buyer’s budget, both now and at scale - Your buyers will benchmark the cost of your product to other similar products they buy. Even if you can deliver strong ROI, there’s likely a cap on how much your customers will pay for your product.
To illustrate an extreme example - think of your buyer and the most expensive other products and services they pay for. In the case of a SaaS product, they will hesitate agreeing to a pilot if your pricing suggests that an enterprise rollout will be more expensive than their ERP system or their functional leader’s most expensive software.
Pricing models: HOW do you charge your customers
Below are the most common components to an overall price. If you have a large ACV enterprise product, think of each of these line items as a lever you can pull in a negotiation if you need to. Having a sound perspective on each of these will ensure you have positive unit economics.
Pilot/Proof of Concept
Enterprise buyers may want to see that your product works for their specific application before committing to a larger purchase.
Similarly, users of a low ACV product may want to trial your solution before paying and using it instead of their current workflow or point solution.
In general, try to sell your product as is without this. If your buyers need to see it in action for their specific use case, make this as short as possible for them to realize an “aha” high value moment.
Unless you have a true PLG product and a proven conversion process from free to paid users, I’d recommend that all trials and pilots should be paid - ideally priced at normal pricing levels. This ensures they have skin in the game and gives you the opportunity to handle pricing objections upfront.
Implementation
Depending on the complexity of your product, you may need to spend non-trivial resources to onboard a new customer.
At scale it’s fair for customers to pay for complex implementations at cost or even slightly above.
If your implementation cost is high relative to the cost of your product, your buyers will probably push back. If you’re in this situation, think through how you can reduce the complexity of your implementation so that this isn’t a sticking point for future customers.
Subscription - per user or per project fee
If your customers gain proportional incremental value from your product with each incremental user (seat) or project on your platform, this is a logical component to your pricing strategy. Some companies charge per “active” user on a monthly basis even if there are more users with platform access.
If you have multiple products with different end users, you can consider charging different unit amounts based on the value gained from each product.
Subscription - platform fee
Many companies charge a base fee for access to their platform in addition to any seat-based or consumption based line items.
I commonly see companies negotiate this in conjunction with their per user (or per project) fees. Some buyers would be willing to pay a higher base platform fee upfront if they can get a lower per seat fee, because in the back of their mind they think they may add many more users later. Some buyers negotiate the opposite if they have confidence the number of users or projects will stay consistent throughout the duration of the contract.
Consumption, usage, or event based fee
If the way your customers gain incremental value is more proportional to the amount of product usage, data consumption, credits, “events” or transactions they use the product for - charging based on this may make more sense than a per user or per project fee.
Similarly, if your COGS is highly variable based on usage regardless of the number or users each of your customers have, you may want to consider this to ensure you maintain positive gross margins.
Add-on features or services
Though this is less common for your very first customers, it may become more relevant as you mature. Think of this as an opportunity to add revenue streams and additional service to improve NPS beyond your core offering.
B2B buyers expect a helpful customer success and support experience when needed. These expenses are categorized under your COGS. If you have a complex product and you reach the point where your customers need and are willing to pay for part-time consultancy to realize the value of your product, consider adding this.
Pricing levels: HOW MUCH do you charge your customers
You need to decide how much to charge on each of the pricing elements you choose from above.
When determining these levels, keep in mind two principles:
1. Buyers expect that with higher quantity, their per-unit price should decrease (bulk discounting)
2. Buyers expect the ability to choose an option that’s right for them. They’re used to tiered pricing having a “basic”, “advanced”, and “premium” offering
You don’t necessarily need to present these options to your first customers. Just keep in mind that this is how they will think about buying your product, so be prepared to handle objections and questions.
Value based pricing
This is the ideal pricing strategy you should strive to achieve to maximize how much you can charge your customers.
You first need to understand - and try to maximize - the perceived value of your product or service from your customer’s perspective. This will be unique to each customer. For the purposes of creating initial pricing for your first customers, create a logical initial thesis around the value you’d bring to your customers that you can share with them.
If you’re working in a competitive space, you’ll also need to articulate and quantify the incremental value you’d bring compared to any competitors.
Based on the perceived value you create, charge an amount that makes it a no-brainer for your customers to move forward with you.
As a benchmark, I see most companies with value based pricing charging 10%-30% of the value they create, or ensuring their customers see a 3x-10x ROI. If it’s less, buyers might not think it’s worth the hassle. If it’s much more, it sounds less believable.
This amount is driven by the competitiveness of the market. You’ll need to test this for your market, so I generally recommend starting at ~10% and adjusting from there.
Cost plus
With this pricing methodology, you derive pricing from your COGS and add a profit margin. This is less relevant for SaaS, and more relevant for physical goods or services.
Competitor based
Your buyers will compare your pricing to that of your competitors. You can justify higher pricing if you can justify a higher perceived value, but your buyer will be anchored to your competitor’s pricing.
When creating your pricing strategy for your first customers, Jason Lemkin from SaaStr recommends the “low end of normal”, or 80% of pricing from market leaders or comparable applications.
Putting it all together
If you’re a founder, you have superpowers as a seller. You have credibility to paint the picture of your vision of what your future product will look like, and you can also approve of new pricing methods and levels mid-conversation in a negotiation.
Your first sales hires won’t have these luxuries, so it’s important to land on an initial pricing and packaging structure that’s repeatable.
Many first time founders don’t appreciate that their pricing structure impacts their ability to hire sales talent as much as it impacts their ability to onboard new customers. Sales hires are compensated by the amount of money they bring in the door. All else being equal, bespoke pricing structures where more cash is collected later throughout the customer lifecycle is less attractive to prospective sales hires than a large lump-sum of cash collected upfront.
It will require trial and error, but you should strive to arrive at a win-win-win pricing structure: a win for your customers that enables them to realize value through an easy buying process; a win for your business that allows you to scale profitably, and a win for your sales reps that fairly compensates them for their work and keeps them motivated to achieve outsized results.