According to research by Simon-Kucher & Partners, the world’s largest pricing strategy consulting firm, 72% of new products fail to meet profit or revenue goals or fail entirely. While it can feel like the odds are stacked against you, it’s not all bad news.
“The good news is that there are only four ways to fail,” says Madhavan Ramanujam. Once you recognise the different types of failure, you can build the fifth category, which is breakthrough success.”
Madhavan is a Managing Partner at Simon-Kucher & Partners and has worked on more than 250 monetisation projects, ranging from startups to Fortune 500 companies like GitHub, Asana, Stripe, Uber and many more. He’s also the author of Monetising Innovation, filled with practical tips suitable for any company embarking on the long and costly journey of product development.
Drawing from his session with the Airtree community which you watch below, Madhavan explains why you should put customer demand and willingness to pay in the driver’s seat to radically improve the odds that your product will be a breakthrough success. Let’s get started.
Four types of failure
A product can have a myriad of flaws that cause it to fail. However, there are some familiar patterns when it comes to pricing failures, which tend to cluster into four distinct categories.
#1 Feature shock
Feature shock happens when a product has too much going on. There are excess features, and as a result, it’s overpriced. The product doesn’t resonate with any particular segment.
“When I walk into any office in Silicon Valley, I hear phrases like ‘We’re building a one-size-fits-all product’ and I correct them by saying, ‘one-size-fits-no-one,’” says Madhavan.
“Look at Amazon’s Fire phone. It had a whole bunch of features no one wanted. Would you pay for it? Hell no. The launch price was $179, and six months later, it was selling for 99 cents. Another three months later, they wrote off the entire business.”
To reverse feature shock, you need to practice restraint and make versions of the product for different customer segments.
#2 Minivation
Minivations commonly occur in tech companies that have product-market fit. The product is right for the market, but the price is too low, and by definition, under-monetised.
There was a Silicon Valley semiconductor company that made internal parts for consumer electronics companies. They came up with a groundbreaking competitive chip that wasn’t an incremental improvement, it was truly revolutionary. The component’s predecessor was priced at 65 cents, and using a traditional cost-plus pricing method, they priced the new component at 85 cents.
The product flew off the shelves and sold billions of units, but there was a lingering feeling around the decision-making table that they could have charged a lot more.
Two years later, the company commissioned a post-mortem-type analysis of the product, including its pricing. They found that customers using the product could charge a $50 premium on their product, mainly because of the additional functionality the new chip unlocked. Some of their key accounts would have paid up to $5 for the chip, meaning they left a staggering amount of money on the table.
#3 Hidden gems
Hidden gems are products with massive potential, but they go against the grain of your company’s DNA, so they don’t get a proper go-to-market launch and remain hidden.
Kodak is an example of a company that couldn’t harness a hidden gem out of fear it may cannibalise its existing product. Kodak had the IP for digital photographs back in 1973, but they spent too long on the sidelines because the idea of a digital camera threatened the company’s core business: film. And the rest is history.
“Hidden gems usually emerge when there is an inflection point, like a change in your business model, a disruption to the industry, or a move from hardware to software,” explains Madhavan. “At the moment, we’re living through another inflection point with AI. If you don’t look for hidden gems, they’ll probably remain there.”
#4 Undead
Like in a classic science fiction movie, undead products should never have launched because they come back to haunt you. They’re either the wrong answer to the right question or an answer to a question no one cares about.
“The world is riddled with products that can easily be classified as undead. It even happens to some of the best companies of our time,” says Madhavan.
Just look at the launch of Google Glass back in 2014, a pair of glasses with a tiny camera that you could command to take pictures or record videos. The product was critically panned for its shortcomings, ranging from a short battery life to privacy concerns. A year later, Google announced the end of the product.
If you’re building a product without an understanding of whether there’s a market for it and asking customers if they’re willing to pay for the innovation, chances are you’re making an undead.
Criteria for success
If 72% of innovations fail, the natural question is, what do these other 28% of companies do? Below, Madhavan lays out the two key drivers of success.
Price before product
“Price comes before product in the English dictionary, and for most companies, that’s where it stops,” says Madhavan.
“Price before product means having willingness to pay conversations with your customer before you productise and bring a new product to market.”
“If someone asks me, ‘Do you like this headset?’ and I say I like it, you’ll say there’s product-market fit. But if they ask me, ‘Do you like this headset for a thousand dollars?’ the whole conversation is different. If you don’t include pricing in your product-market fit validation, you’re often hearing what you want to hear.”
It’s typical for a company to build a product, make some iterations, slap a price on it, throw it into the market and hope for the best. Madhavan advises to start having conversations with customers much earlier, whether that’s six months or two years in advance of launching the product. Ask people straight up, “Would you pay for this?”. If the answer is no, the most important question is why. It’s a quick way to get feedback on what you should design your product around: what the customer needs, wants, values, their jobs to be done, and what they’re willing to pay for. You’ll remove the guesswork from innovation and build something people actually like.
C-level involvement
“We knew this intuitively, but if C-level team members are involved in monetising innovation, the company has dramatically better odds at succeeding,” says Madhavan.
C-level involvement isn’t just them rolling up their sleeves and setting the price for the day. It means setting up the culture right for monetising innovation, which involves everything from having the right goals for profitable growth to having the right resources and asking the right questions in meetings.
The 9-step framework for successful monetisation
Have the willingness to pay talk early
You must discuss pricing at the beginning of a new product development initiative, not at the end. To build a product around a price, you must engage in deep discussions with potential customers before you design and develop it. The early WTP talk will help you in three essential ways:
- It will tell you right away whether you have an opportunity to monetise your product or not.
- It will help you prioritise features and design of the product with the correct set of features.
- It will enable you to avoid the four types of failure. For example, you can avoid feature shock by restraining yourself from overloading your product with unnecessary features, which will force you to price your product too high.
In these conversations, you’re trying to uncover:
- Your customer’s overall WTP for your product, the price range they would consider reasonable and whether that price range would work for your company
- How much value customers place on each feature and what they’d be willing to pay for that value. This step will help you create your product roadmap and avoid feature shock.
If you’re apprehensive about discussing price with customers before you have a product, ask direct questions about the value of your potential product and its features, for example:
- “What do you think could be an acceptable price?”
- “What do you think would be an expensive price?”
- What do you think would be a prohibitively expensive price?
- “Would you buy this product at $XYZ?”
Then follow up each question with “Why?”.
Segment! One-size-fits-none!
Segmentation is the crux of monetisation and having a profitable growth business. In Madhavan’s experience, he’s yet to find a market where the customer’s needs are homogenous.
“A common mistake founders make is building a product for the average customer, but the average customer doesn’t exist.”
Take water as an example. If it comes from a fountain, it’s free. If you put it in a bottle, it’s $2.00. Add some gas and it’s $2.50. Throw it in a minibar, it’s $5. Put it in a can and call it Liquid Death and you can charge $10. It’s all the same water, it’s just packaged, productised and priced differently according to different segments and different willingness to pay.
Segments are clusters of customers with similar needs and willingness to pay for your product. For example:
- People who want the best product.
- People who just want the standard product.
- People who want the product right now.
- People who want the lowest price product.
Product configuration and bundling
Product configuration involves selecting the right features and functionality that customers require, value, and are willing to pay for, and tailoring it to each identified segment. Establish which features are leaders (must-haves), fillers (nice-to-haves) and killers (features that will nix a deal if a customer has to pay for them) to prevent overloading products with unnecessary features to avoid feature shock.
Bundling involves selling your products and/or services together, which can boost total profits when executed effectively, as customers tend to buy more compared to standalone sales.
There’s a variety of different ways you can approach packaging. You should think through how flexible, simple, complex and differentiated you want to get. Many of the companies in the diagram below Madhavan has worked with, and are located in different buckets based on their strategy, goals and what they should be doing for their product and services.
Monetisation mode: How you charge trumps what you charge
Your monetisation model can give you a significant competitive edge for a new product or service. In a nutshell, your monetisation model is how the customer pays for a product or service, such as through a subscription, dynamic pricing, freemium, pay-as-you-go or an auction.
Innovative monetisation models aren’t just the domain of startups. 135-year-old French tyre brand Michelin changed its monetisation model and saw its profits rise above the rest of the industry. In the early 2000s, they were ready to launch a new tyre that lasted 20% longer. Tyres are a price-sensitive market; you walk into the store, and they all look the same, so if they increased the price by 20%, it wouldn’t work. But because the new tyres lasted longer, they’d cannibalise their business if they didn’t increase the price.
Michelin returned to the drawing board and devised a bold idea: changing trucking companies by the number of kilometres they drive on their Michelin tyres, not the number of tyres they bought. Customers loved this as it gave them the flexibility to manage costs depending on if the business was busy or quiet, and Michelin could generate more revenue when tyres lasted longer than expected.
Pick the winning pricing strategy
Pricing strategy is your short and long-term monetisation plan. A sound pricing strategy will have clear intent, quantifiable goals and a time frame for execution. Your goals must align with your pricing strategy, of which, you can narrow it down to 3 different approaches:
- Maximisation: This strategy maximises your short-term goal (such as profit or revenue). Companies may choose this strategy for new offerings when their customer segments don’t have early adopters with disproportionately more WTP.
- Penetration: This strategy intentionally pieces your product lower than in a maximisation strategy to rapidly gain market share. You might hear people refer to this as a land-and-expand strategy. Companies may choose this strategy if their market is dominated by network effects or customers are loyal to the first brand they choose, and therefore, better positions the company to maximise customer’s lifetime value from future sales.
- Skimming: This strategy is appropriate if WTP varies between early adopters and late followers. You first cater to your early adopters with a higher WTP. Then, you decrease the price to reach customers in other segments with a lower willingness to pay.
Build an outside-in business case
A business case is needed to initiate any new product development process. However, most business cases fail to account for external factors like customer WTP and price elasticity.
You can create the V1 of your business case right after determining the high-level WTP for your product. It will evolve as you work through everything we’ve already discussed: customer segmentation, product configuration and bundling, monetisation model and pricing strategy.
It’s also important for your business case to be a living document that can help inform how you react once your product is in the market and all the theory becomes practice. We recommend checking out chapter nine in Monetising Innovation for the nine steps to building a living business case.
Value communication: The product will not sell itself
As a founder or a product person, what you build is features. What the customer gets is benefits.
“Often, we see a product with feature-based communication, and the customer doesn’t get it because they can’t see the benefit or value,” explains Madhavan.
“How you speak value is key to what price you can charge. When Porsche launched an electric vehicle, their goal was never to be the most affordable one in the market. Their goal was to build an electric vehicle that, first and foremost, was a Porsche. To their segment, that statement resonates like crazy.”
To fix this, get the functions charged with communication–sales and marketing–involved in the innovation process rather than right at the end when it’s too late.
Use behaviour pricing and tap into psychology
“Your customers will behave irrationally,” says Madhavan.
Take this example of a SaaS company with three products. The CEO had learnt the good, better, best strategy in business school. But if you look at the numbers, they were giving it all away in the entry-level product; nearly 60% of the people preferred the basic product at $49. They found the market was pretty much inelastic, between $79 and $99. $99 is a huge psychological threshold; if you cross into $100, people say the product is expensive, but $99 is okay. Increasing the price from $79 to $99 was possible because there was little difference in reactions and volume. Similarly, they could raise $149 to $199 and build another product at $299 that was simply a decoy product that would make the $99 product look attractive.
“If you look at what happened, simply based on this decoy effect and price thresholds, the mix shift changed in such a way that the standard product went from capturing 30% to 41%. That was an improvement in ARPU of 36% and MRR of 29%,” explains Madhavan. “And god bless the 2% who always want the best thing that you put out.”
Maintain your price integrity
What happens when your product hits the market and sales are below expectations? Or when you’re feeling the pressure from the competition? Do you flinch and cut your prices?
Before you cut your price, you need to diagnose the problem. Is it a pricing problem, or are you struggling to communicate the value of your product? Could it be a quality issue or a sales approach problem? It’s also a slippery slope if you start getting into a price war with competitors.
You need to maintain your price integrity to avoid knock-on effects to your profits, customer lifetime value and brand.
Madhavan’s closing thoughts on pricing
In Latin, there’s only one word for price and value: pretium. As Madhavan explains, price and value are two sides of the same coin. To understand pricing, you need to articulate what value you bring to the table.
“When we talk about pricing, people gravitate to a dollar figure. That’s just the price point. The way to think about pricing is a measure. Just like a litre is a measure of volume, price is a measure of value. If you think of it that way, price stands for how do people value your product?”
Airtree recommendation
Monetising Innovation is well worth reading if you want to remove some of the guesswork out of pricing and packaging and, importantly, ensure the products you release, whether in new or existing markets, hit their mark from the get-go.
If you’re looking to do a deep dive on your pricing, the team at Simon-Kucher & Partners have done over 30,000 projects in this space. Reach out to the team in Aus on email: sydney@simon-kucher.com
