Competition, customers, and value: What we can learn from OpenAI’s pricing strategy for ChatGPT to GPT-4o

OpenAI is a non-profit artificial intelligence research company founded with the mission to develop and direct AI for the betterment of humanity. Unlike profit-driven entities, OpenAI’s research is free from financial obligations, allowing a singular focus on positive human impact.

Pioneering AI for Humanity’s Benefit

Since its inception in 2015, OpenAI has raised over $11 billion in funding and has been at the forefront of AI innovation, with products like ChatGPT and DALL-E making waves. ChatGPT, an AI chatbot, simulates human conversation and offers a subscription-based service, ChatGPT Plus, with access to advanced features like DALL-E 3 for image generation and real-time web browsing via Bing integration. Codex simplifies coding by leveraging AI to understand and generate code in various programming languages.

 

 

OpenAI has also significantly contributed to the advancement of large-scale language models (LLMs), particularly the GPT series, enhancing natural language processing capabilities. The company has also been a vocal advocate for ethical AI, emphasizing responsible development and deployment. Furthermore, OpenAI is actively engaged in AI safety and alignment research, ensuring AI systems align with human values and goals. Their involvement in AI governance discussions underscores a commitment to safe and beneficial AI use.

 

 

Industry Overview: AI in the Spotlight

The Artificial Intelligence (AI) industry has grown considerably both in terms of the number of AI-related companies but also recognition and use by mainstream users. The industry  includes tech giants like Google, Microsoft, Amazon, and Facebook, along with a swarm of ambitious startups and research institutions. 

 

Despite being a relatively newer industry, AI has accelerated in growth over the last several years, especially as the technology has become more mature and companies in other industries such as tech and finance have adopted and embraced it to gain a competitive advantage. And, now, there are currently more than 70,000 AI companies worldwide, and worldwide spending on AI systems was estimated to be approximately $154 billion across all industries in 2023.

 

Both companies big and small are actively working to bring AI to the market. In 2023 alone, AI startups raised $42.5 billion across 2,500 equity rounds, exhibiting the amount of resources invested into AI products and the rapid expansion of AI into the market. Larger companies with ample resources are developing AI technologies in-house with teams of data scientists and engineers brought together to work on projects for specific needs. Larger companies are also acquiring AI startups and smaller companies with AI expertise to gain access to AI technology and talent. 

 

In general, the power of processing for AI has advanced over time, playing a crucial role in enabling LLMs to work effectively. With the development of more powerful hardware as well as improvements in algorithms and software optimizations, AI models have become more efficient and successful with the ability to process vast amounts of text data with unprecedented accuracy and speed.

 

The rapid integration of AI into products and services has allowed more users to grow comfortable with it. Now, AI is not only readily available but is simple enough that people can access and use it without fear. The low barrier to entry has helped increase the accessibility and adoption of AI by mainstream users over time. 

 

As a result of its explosive growth and popularity, the competition in the AI industry is fierce with different applications and adoption by customers. Other than OpenAI, Google DeepMind and their Gemini Models, focus on building general-purpose learning algorithms. With Amazon as their major investor, Anthropic is another heavyweight, specializing in AI safety and research. They have raised more than $7 billion from investors, valuing Anthropic at up to $18.4 billion. They’re hot on OpenAI’s heels, boasting a funding level second only to Google. Cohere is a rising star, focusing on building language models for companies. Stability A.I. is also in the ring, known for being the world’s leading open-source generative AI company.

 

Then there are the tech titans. Microsoft is no slouch either, investing heavily in AI with initiatives like Azure AI and Cortana, and developing a range of AI products and services. Facebook wields AI in its products and services, from facial recognition to content moderation, through its product Meta AI. Amazon, with its AWS and robotics ventures, is a significant force in AI. IBM, famous for Watson, is a key player in healthcare and business analytics AI. Because of the ability to develop faster and the large amount of investment put into the industry from companies across the globe, the AI industry is constantly changing and growing.

 

The Pricing Strategy: Pricing Plans That Speak Your Language

Target Consumer Audience:

OpenAI has three different core customer segments that they focus on. The first is the mainstream, who learn and use OpenAI products without much barrier to entry. It was immediately evident when OpenAI first launched just how quickly they were able to get mainstream adoption. For instance, just five days after it was launched and made public in November 2022, ChatGPT reached 1 million users. By comparison, Instagram took 2.5 months to reach 1 million users. And, it grew rapidly, reaching 100 million monthly active users in January 2023, making it one of the fastest growing applications in history. 

 

Businesses make up another core segment for OpenAI. With the ways that companies can leverage AI to increase productivity and reduce costs, OpenAI has worked with businesses seeking to revolutionize their industries. Some businesses partner with OpenAI to experiment while others hope to operationalize their processes. Either way, many businesses with a vision for the future turn towards OpenAI to innovate and find new solutions. 

 

Finally, developers are the third core customer segment that OpenAI targets. Developers are constantly working with OpenAI to harness the technology and platform in order to build out a broader ecosystem and bring their ideas to life.

 

Current Pricing Plan:

When it comes to pricing, OpenAI believes in keeping things transparent, so you know exactly what you’re getting. Whether you’re diving into the depths of language models or painting with pixels in image models, OpenAI is pretty flexible and tries to offer a plan that fits your needs. 

 

For instance, as an evolving technology, they offer different versions with some more powerful than others (e.g. ChatGPT-3.5 vs. 4). So, access to the newest versions and features will offer users more potential value and faster iteration

 

The Pricing Metric:

For these language models, the pricing metric they are using here is tokens and number of users. A token here refers to a unit of text that the model processes at a time, where each token typically represents a word or a subword with the model processing a sequence of tokens to understand and generate text. So, looking at the pricing for their original GPT-4 model which can understand more complex instructions, it is currently $5.00/1M tokens for inputs and $15.00/1M tokens for outputs. By comparison, the GPT-3.5 Turbo model is the fast and inexpensive offering for simpler tasks, where it is currently priced at $0.50/1M tokens for inputs and $1.50/1M tokens for outputs.

 

For the artists and visual thinkers, DALL·E 3 has its own pricing model based on image quantity, quality, and resolution. So, at a 1024×1024 resolution, DALL·E 3 offers two options: Standard quality at $0.040 per image and HD quality at $0.080 per image. For resolutions of 1024×1792 and 1792×1024, the pricing rises as Standard quality is priced at $0.080 per image and HD quality is priced at $0.120 / image. 

 

Pricing for Different Customer Types:

Finally, ChatGPT offers a range of options for different types of customers. The Free plan is perfect for beginners, while the Plus plan, at $20 per user billed monthly, is for those looking to boost their productivity. Teams can opt for the Team plan, starting at $25 per user billed annually or $30 per user billed monthly, for supercharged collaboration. And for the big players, there’s the Enterprise plan, tailor-made for innovative companies looking to scale securely.

 

How Their Pricing Has Evolved:

OpenAI’s pricing journey has been a tale of adaptation and innovation, driven by a commitment to meet the evolving needs of its users. From early access programs to tiered pricing structures, OpenAI has continuously refined its approach to pricing to provide greater flexibility and value to its customers.

 

In its early days, OpenAI offered select partners and researchers early access to its language models, such as GPT-2 and GPT-3. This allowed the company to gather valuable feedback and insights, enabling them to improve the models before their wider release. Then, with the launch of the GPT-3 API, OpenAI introduced a usage-based pricing model, where customers pay based on the number of tokens processed by the model. This model offered flexibility and scalability, allowing users to pay only for what they use. Recognizing the diverse needs of its users, OpenAI later introduced tiered pricing for its API. This approach offered different pricing plans based on the level of access and usage requirements, allowing users to choose a plan that best suited their needs and budget.

 

Initially, OpenAI restricted the use of its models for commercial purposes. However, in response to user feedback and demand, the company later introduced a commercial use plan, allowing businesses to use the models for a wide range of applications. Pricing for these custom models is based on the complexity and scope of the project, ensuring that users receive a tailored solution that meets their unique requirements. 

 

Furthermore, the rapid rise of competitors, especially those backed by big tech companies such as Google and Amazon, has led to increased competitive pressure on OpenAI. For instance, many of OpenAI’s competitors also price based on usage metrics, and some (such as Google Cloud AI and AWS) even offer volume discounts for high-volume usage. However, in spite of the rise of alternative offerings, OpenAI has not adapted much, if at all, as its pricing has not changed much over the same period of time in which these competitors have emerged. This is likely due to its widespread popularity and public recognition as a premium provider of AI services, giving it an advantageous position within the market.  

 

When taking a closer look at OpenAI’s pricing changes over time, we can observe the key differences in their pricing models over a one year time span, between February of 2023 to March of 2024. For instance, back in February of 2023, their language model offerings were completely different from those offered currently, as they only offered their base models Ada, Babbage, Curie, and Davinci.

 

And, while the pricing was still centered around tokens, OpenAI offered price points for every 1K tokens. Furthermore, they introduced and enticed new users to the service through a “Start for Free” offering that they no longer include now, which entailed giving new users $18 in free credit to be used in the first 3 months to experiment with. Also, as the technology was pretty new, OpenAI made sure to enforce usage quotas with their rollouts, where new users would have an initial spend limit that could increase over time based on a user’s track record.

 

By March of 2024 the next year, OpenAI offered multiple language models with varied capabilities, also allowing users to view pricing in units of either per 1M or 1K tokens. Shifting to “input” versus “output” pricing (as opposed to “prompt” and “completion”), the new pricing model also includes a “Vision pricing calculator” that allows users to view how pricing varies for different resolutions. Finally, with a more established consumer base by March of 2024, OpenAI outright eliminated the initial offering of “starting for free”, which had evolved from offering $18 in free credit to $5 to none. Ultimately, many of the pricing changes evolved as the technology evolved and as the consumer base grew in size, catering to the growing complexity of the models themselves as well as the popularity of the services. 

 

Pricing Strategy Breakdown: Key Takeaways

Why is their pricing strategy effective?

  • Accessibility: OpenAI offers a range of pricing tiers, from free to enterprise-level plans, making its technology accessible to a wide audience, from individual developers to large organizations.
  • Scalability: The pricing model scales with usage, allowing users to start small and increase their usage as their needs grow, without needing to renegotiate terms or switch providers.
  • Flexibility: OpenAI’s pricing allows users to choose the level of access and support that best suits their needs, from self-serve options to more hands-on support for enterprise customers.
  • Transparency: OpenAI’s pricing is transparent and easy to understand, with clear pricing tiers and usage limits, which helps users budget effectively and avoid unexpected costs.
  • Value-based: The pricing is aligned with the value that users derive from the technology, which is particularly important for users who are looking to use AI to drive business outcomes.

 

What makes their pricing strategy different from others?

  • Focus on Usage: OpenAI’s pricing is often based on usage metrics, such as the number of API requests or compute resources consumed, rather than a flat fee. This allows users to pay for what they use, which can be more cost-effective and flexible, especially for users with varying or unpredictable usage patterns.
  • Tiered Pricing: OpenAI offers tiered pricing with different levels of access and support, allowing users to choose the tier that best fits their needs and budget. This tiered approach is more flexible than a one-size-fits-all pricing model and can accommodate a wider range of users.
  • API-first Approach: OpenAI’s pricing is designed with an API-first approach, catering to developers and businesses looking to integrate AI capabilities into their applications. This approach is more developer-friendly and aligns with modern software development practices.
  • Value-based Pricing: OpenAI’s pricing is based on the value that users derive from the technology, rather than just the cost of providing the service. This value-based approach allows OpenAI to capture more of the value it creates for users, which can lead to more sustainable pricing over the long term.

 

How did they do it? Constant engagement and creating relationships with consumers

  • Clear Message: OpenAI was transparent about its pricing, clearly outlining the different pricing tiers and usage limits on its website. This transparency helped build trust with potential customers and set clear expectations about the cost of using OpenAI’s services.
  • Developer Outreach: OpenAI actively engaged with the developer community through events, conferences, and online forums to promote its pricing strategy and solicit feedback. This outreach helped OpenAI understand the needs of its target audience and tailor its pricing strategy accordingly.
  • Case Studies and Testimonials: OpenAI showcased case studies and testimonials from satisfied customers to demonstrate the value of its services and the effectiveness of its pricing strategy. This social proof helped build credibility and attract new customers.
  • Partnerships and Integrations: OpenAI partnered with other companies and integrated its services into popular platforms and tools to expand its reach and make its pricing strategy more accessible to a wider audience.

 

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How Skims built a luxury shapewear brand through premium pricing

Skims is redefining luxury pricing in shapewear. With premium yet accessible pricing, Skims raises the bar to compete with existing household brands, emphasizing inclusivity and quality. By keeping their pricing consistent, Skims reinforces brand trust while leveraging limited discounts and celebrity influence, having been co-founded by Kim Kardashian, to promote the brand even further. Explore the Skims pricing strategy and how they drive high perceived value in the luxury market in this brand breakdown.

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How Beauty Brands Build Pricing Strategies To Grow

In our previous blog regarding pricing strategies for beauty brands, we covered the unique aspects of the beauty industry that can cause various challenges to arise and how some brands may utilize pricing as a tool to not only counteract such challenges but to grow and succeed. Here, we will delve deeper into some of the real challenges that come with pricing for beauty and cosmetic brands and then introduce a relevant case study to detail how exactly pricing can truly make a difference.

Delving into the challenges beauty brands face

Beyond what we have discussed previously, there are many unpredictable challenges that beauty brands may encounter as they formulate their pricing strategies. 

With numerous brands offering similar products, there is constant pressure to keep prices competitive. This can lead to pricing wars and margin erosion. At the same time, brands need to differentiate their products to justify higher prices. And, because consumers often associate higher prices with better quality in the beauty industry, brands need to carefully manage this perception while staying competitive. Finally, in spite of all of these other challenges, beauty brands will also have to deal with rapidly changing beauty trends, learning how to adapt quickly and making sure their pricing strategies align with these trends to remain relevant and competitive.

Furthermore, introducing product differentiation within such a crowded market can be very difficult. For instance, when a brand introduces a new and unique product, competitors may respond with their own innovations or price adjustments. So, brands must be prepared to adapt their pricing strategies accordingly. Furthermore, introducing a new, differentiated product often requires educating consumers about its benefits. This can be a costly and time-consuming process that impacts pricing decisions. And, differentiated products may require a different distribution strategy, such as being sold exclusively through certain channels. This can impact pricing decisions and channel relationships.

And, as we mentioned previously, the margins are thin for beauty and cosmetic brands due to the numerous costs they accumulate. This can include costs from investing in social media, establishing influencer partnerships, and more that can all eat into your profit margins. Actual product development costs are expensive, especially if you are investing into the research and development of new ingredients and formulas. And, because of the importance of brand image, brands typically incur packaging and presentation costs to appeal to customers who may be more willing to pay if the aesthetics of a product are attractive. Many brands will likely accumulate distribution costs trying to get their products into the hands of consumers, especially if they rely on third-party distributors or retailers due to their own limited distribution networks. So, these are some of the many different kinds of costs that brands will likely amass in trying to make their products stand out and appeal to their target consumers.

Case Study: Helping beauty brands achieve their goals

HelloAdvisr has worked with multiple brands within the beauty and cosmetics industry, accumulating experience and expertise with regards to how pricing can play such a crucial role in building for sustained growth.

For example, here we have a case study of our work with a fast-growing FemTech brand. Needing to assess their own approach and strategy to pricing, this brand realized that they were struggling with their product pricing because it was becoming increasingly complex as they expanded their purchasing methods (e.g. a la carte, bundles, and subscriptions). Furthermore, they were dealing with added complexity due to expansion plans into newer channels like retail. 

As a result, we helped leadership team transform their pricing approach in several ways:

    • Designed a custom pricing strategy workshop with the brand’s senior leadership team.
    • Assessed existing pricing portfolio – the prices and price combinations (including promotions and discounts) created and presented to customers.
    • Conducted data analysis of brand sales and select customer and product cohorts.
    • Reviewed the brand’s customer segmentation and value proposition.

    Through our work, this brand was able to build a pricing strategy framework they could use for new and existing products. They also implemented pricing portfolio recommendations including discounts and bundles, which subsequently increased conversion rates. So, with these improvements, they continued to expand revenue growth and were well-prepared for the next round of fundraising. 

    Final thoughts

    Pricing in the beauty world is a multifaceted challenge that requires a deep understanding of market dynamics, consumer behavior, and brand positioning. By carefully navigating these challenges and staying agile in response to market shifts, beauty brands can find success in setting prices that resonate with their target audience while ensuring sustainable growth. It’s a delicate balance, but one that can ultimately lead to long-term success in this vibrant and ever-evolving industry.

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    The Price of Beauty: Navigating the Challenges of Building a Successful Brand

    What makes beauty products unique?

    Beauty products are unique in various ways. First, they are very personal. They can help you represent yourself, connect with your values (e.g. using clean ingredients), and identify with a specific community. They are something you frequently put on your face and body for a purpose, permeating into your everyday life. 

    As a result, these products hold a unique position in the market due to this intimate relationship with consumers. Because of the emotional connection between the consumer and the beauty product, purchasing decisions can become highly subjective. 

    Furthermore, beauty products and brands are no longer simply owned by big conglomerates. They are more accessible to creators and brand-builders, making the industry even more competitive. Furthermore, this beauty marketplace is known for its trend-driven nature with constant innovations. This means that new ingredients, formulas, and technologies are constantly introduced, creating a continuous stream of new products and brands entering the market. 

    Finally, more often than not, beauty products are not just products but experiences. They can be moments of self-care, indulgence, and transformation. This aspect adds value to these products beyond their obvious functional benefits, which allow brands to offer them as unique and memorable experiences worth paying for.

    Challenges beauty brands face

    Due to the unique nature of beauty products, there are many challenges that come with pricing them. 

    First, there is increasingly more competition as both big brands and new entrants (some funded by institutional investors) fight over many of the same customer segments. So, it is even more difficult to stand out and differentiate your product from the rest of the competition. Brands often face immense pressure to price their products competitively to attract customers while ensuring that they can cover their costs and make a profit simultaneously. 

    Second, it is more expensive to create awareness and willingness-to-pay. With the challenges that come with product differentiation in such a crowded market, many brands find it difficult to communicate their own unique value proposition to potential consumers. As a result, some brands may find it difficult to justify premium pricing and experience price wars with their competitors.

    Third, the margins are thin within the beauty and cosmetic industry, not only due to this high level of competition but also many other costs accrued in order to stand out in such a crowded market. These can range from promotional costs to R&D costs to distribution costs, among many others. All of these costs can make your margins extremely thin and increase pricing complexity.

    Fourth, while many beauty brands like to implement promotional pricing campaigns to attract new customers and drive sales, it is a balancing act because excessive discounting can devalue a brand. Furthermore, it can erode margins and make it difficult for some brands to achieve profitability despite gaining new customers.

    Finally, consumers in this particular market have a wide range of price sensitivity. Pricing plays a role in defining the brand, and can be a factor in switching. Like any product category, a low or discounted price can not compensate for poor products.  Beauty customers have high expectations across price points and channels, so understanding this value exchange – product for a price – is critical for successful beauty brands.

    How successful brands use pricing

    Facing a wide variety of challenges, we have seen successful beauty and cosmetic brands  turn to pricing as a powerful tool to help them achieve their growth objectives. Pricing can play this crucial role by:

    1. Building brand image

    Pricing can communicate the brand’s positioning in the market. For instance, premium pricing can help create a perception of quality and exclusivity. On the other hand, value pricing can attract budget-conscious consumers. Retains your company’s overall number of accounts or subscriptions. 

    2. Supporting differentiation

    Within such a crowded market, pricing can help brands differentiate their own products from those of their competitors. Unique pricing models, such as personalized offerings, can help brands really stand out. And, with competitive pricing and the right promotions, brands can first acquire new customers and then focus on retaining them through their product quality and customer service

    3. Creating pathways to sustainable growth and profitability

    Nailing a dynamic and effective pricing strategy can really help brands improve their profit margins, so it is important to spend time and resources on developing one that can lead to sustained growth. Doing so can even allow many brands to then reinvest in other areas such as product development and expansion.

    4. Building the right customer base

    With the right customer segment in mind, pricing can help your brand attract the right customers who are willing to pay for your products. As you attract more and more of them, you can build up a solid customer base aligned to all facets of your business. Furthermore, using pricing strategies such as loyalty programs or discounts for repeat customers can encourage customers to make repeat purchases, ultimately building brand loyalty.

    5. Expanding into new markets

    When entering new markets and expanding, brands can adjust their pricing based on local market conditions, competition, and consumer preferences to maximize their chances for success. So, establishing dynamic pricing strategies can help maximize your brand revenue.

    Final thoughts

    The world of beauty and cosmetics today is a tough one to navigate as challenges emerge daily that can disrupt your growth as a company. With such a competitive market that deals with such unique products, many startups find it difficult to figure out where to start with pricing, sometimes dismissing it altogether as something that requires their time and effort. But, dedicating resources to developing your pricing strategy is priceless as it can be extremely rewarding in the long run. The challenges within the beauty industry that we listed above are only several among many others that exhibit the true complexity of growth within this industry. So, it is important to have a detailed understanding of what challenges you may encounter and how you can counteract them as you grow your brand within this space.

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    Understanding the difference between what customers “ask for” vs. “want to buy”

    Foundations Series

    In the world of entrepreneurship, startups often find themselves at a crossroads when it comes to product development. While building something a customer explicitly asks for is an essential step, staying in this phase for too long can hinder a company’s growth. In fact, many early-stage companies (e.g. pre-seed and seed stage startups) sit and get stuck in this phase, eventually wasting time and resources that can be better spent elsewhere. 

    Building something that a customer “asks for” should just be an initial layer of need and an important directional step in building a product and your company. As a result, there is a crucial difference between building something a customer asks for versus something they want to buy that all companies should be aware of. So, let’s take a look at the challenges early-stage companies face and the significance of transitioning from necessity to desire.

    The Initial Layer of Need

    When a customer asks for a specific product or feature, it marks the initial layer of need. This interaction is a crucial step for startups, essentially guiding them in the right direction as they seek to address real problems faced by their target audience. Many pre-seed and seed stage startups find themselves in this phase, diligently working to fulfill customer requests. So, a common example that illustrates the concept of this difference between want versus need can be something as commonplace as working out and going to the gym. While the initial “need” for someone who works out is likely to get healthy, the true “want” may be that they would like to look like their favorite athlete or celebrity, setting that as a concrete end goal to work towards.

    Stuck in the Loop:

    However, a significant challenge arises when companies get stuck in this phase. While addressing immediate needs is important, dwelling exclusively on building what customers ask for can create a loop, preventing companies from reaching their full potential. This loop can become a trap for early-stage companies, hindering their ability to evolve and adapt to the changing market demands.

    Furthermore, do customers actually even know what they want? This question is even more meaningful for products and services in new emerging technologies and innovations. And, if you give customers what they want, will they still necessarily want it in a month or a year? Looking into the past, there are many case studies of products that companies developed taking into account what customers have “wanted”, only for the actual demand to be less than expected or last for a short period of time before these same customers moved onto something else. 

    A relevant example of a product that did not meet expectations despite high initial customer interest is Google Glass. Introduced as a revolutionary wearable technology, Google Glass was a highly anticipated product that specifically offered augmented reality features in a wearable format. However, despite the significant hype and interest generated from the announcement, it failed to gain widespread consumer adoption, largely due to concerns regarding privacy, usability, and social acceptance. While the initial explosion of interest seemed to align with the idea that customers “wanted” a product like Google Glass, the actual demand for the product lasted a very short period of time until Google eventually stopped selling the product to consumers altogether.

    Why Can’t We Get Out? Why Is This a Problem?

    The primary reason startups struggle to move beyond building what customers ask for is a fear of deviating from the familiar. Founders may be reluctant to step out of their comfort zones, fearing that addressing a broader, more latent need might alienate their existing customer base. This reluctance to explore uncharted territories can lead to stagnation, inhibiting a company’s ability to innovate and grow.

    Moreover, many startups take on the common belief that “the customer is king”. If you don’t give them what they want, then they will switch to someone or something else who can. As a result, this can intimidate many startups into simply trying to cater to the customer’s desires when they should really be determining what their customers need above all else.

    From Need to Want: The Importance of Willingness to Pay

    The transition from building what customers ask for to creating something they want to buy hinges on the concept of “willingness to pay.” Wanting to buy implies a deeper connection and a higher level of need—a product or service that customers not only find useful but are also willing to invest in financially. This transition is crucial for the survival, growth, and success of a company. Founders can get stuck in the phase working towards that initial layer of need based on what the customers “ask for” when they should really be building towards a higher level of need based instead on “willingness to pay”. Focusing instead on this higher level of need allows founders to set their companies up for more sustained success, necessary for their startups to survive, grow, and ultimately win.

    For example, the Segway Personal Transporter was hyped as a revolutionary way to travel short distances. However, despite the enormous fanfare that it met when introduced, the Segway ultimately failed with production eventually halting in 2020 because the makers did not think about “willingness to pay”. More specifically, though it was an exciting piece of technology, it offered very little real-world utility and eventually failed due to its relatively high price, safety concerns, and limited practicality. Because consumers were unwilling to pay for a product that offered very little in terms of utility, it resulted in very little sustained success for the product beyond the initial excitement.

    Why Is Wanting to Buy Important?

    Willingness to pay is a clear indicator of value. When customers are not just asking for a solution but expressing a genuine desire to invest in it, it demonstrates a product-market fit that goes beyond mere necessity. Companies that focus on building what customers want to buy are more likely to establish a sustainable business model, ensuring not only survival but also long-term success in the competitive market.

    Final thoughts

    While building something a customer asks for is an essential step in product development, it’s crucial for startups to recognize the limitations of this approach. Transitioning from fulfilling immediate needs to creating products customers want to buy is a strategic move that sets the stage for sustained growth and success. By understanding the concept of willingness to pay, founders can break free from the loop of building to need and unlock the full potential of their products and companies.

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    When Your Strategy Is Not A Strategy

    I have seen a lot of startups over the years. I often get asked to look over their pricing strategy, and nine out of ten times it is rarely a strategy. Usually it is a single price or something similar to the market leader in the industry. 

    And that’s ok! Having an idea of how others in the market price is a good start. 

    The problem is, it’s not a strategy. 

    Startups often focus on getting to the “magic number” rather than on the key questions they should be asking or the context the pricing strategy should operate in for the startup. 

    In the startup world, the goal is focus. Startups that have grown successfully, did so because they quickly removed ambiguity of where they are going early and often. They had a strategy or at least the makings of one. 

    If you can put in the effort to understand the problem at hand, then why are you “failing fast” by trying to do 200 things with your startup? It’s ok not to know what will work. Learning is part of the process. That starts by creating a plan that generate hypotheses you can test and iterate on. This is the food feeding your strategy blueprint.

    Take Slack as an example. Founded in 2009, Slack took a focused 7 year journey to achieving product-market-fit. While the platform had use cases that went far beyond technology-based companies including large enterprises and SMBs, the leadership focused squarely on tech startups. The early Slack team was incredible focused. They focused squarely on their core customer rings that included tech startups in key startup ecosystems where team sizes were small. They wanted to grow with their customers who were not only willing to adopt the new platform but were also willing-to-pay because they connected with the value offered and delivered. 

    One exercise we do early-on with our clients is an evaluation of the existing strategy.

    Look at your own current strategy, and ask yourself:  

    1. Does it help us transform our startup?
    2. Can we do it well? 
    3. Will it enhance our acquisition strategy (and the unit economics)?
    4. Does it scale?
    5. Is it defendable with the resources and talent we have?
    6. Do customers question whether it is “worth it”? 
    7. Longer term, if we stay on this path, does the strategy create value debt for our startup? 

    This should give you a starting point of your strategy’s strengths, weaknesses and gaps. This should also create a long-list of questions that require further research and fact/information-finding. As we often say to our clients, the discovery process never ends, just the simplicity of the approach. 

    This also gives you a chance to build creative ideas – or strategic choices – and build around this to quickly test and eliminate options. It is important to not only get outcomes, but understand why it didn’t work. If learning is not part of the process, you will blame the pricing. It’s not the pricing, it’s your approach.  

    If you’d like help thinking through your pricing strategy, contact us. If you have a pricing strategy that works – fantastic! Keep it going and look for ways to enhance it and evolve it as your startup continues to grow.

    Note: This article was originally shared to our email newsletter subscribers. If you want to get early access to articles, tools and updates signup for our free bi-monthly newsletter clicking here. 

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    Value Debt In Pricing: How To Avoid A Slow Startup Death

    This article originally appeared in Techstars.  

    When startups are out to create value to customers, they are often focus on a single path of value delivery – from company to customers. For many startups this is why they exist; to build solutions for problems in the market. The focus is on building products and services, and the allocation of resources to fuel the sales and marketing engine to get those solutions into the hands of customers. 

    This is the easy part: the playbook for building product and acquiring customers have evolved massively over the last decade. 

    What is more complicated and transparent is how startups receive value in return for their innovation specifically through price. How do startup leadership teams actively manage pricing or find ways to capture more value through pricing? Often called a dark art, pricing is a perpetual challenge for startups not only to create strategy and  learn new techniques, but also the active management of customer perception and value proposition creation.

    As a result, startups fall into a state of value debt where they are continuously receiving less value in exchange for the value they deliver. The short-term impact is the maintaining a system that requires greater results and applies pressure to already limited resources. The long-term impact is on the sustainability of the system and company without outsized injection of resources (e.g. investment). The unfortunate reality for many startup is value debt takes them down a path of potential failure. 

    We have identified four signs that a startup is in value debt. These signs are identifiable and measurable ways a startup can determine how far into value debt they are in, but also identify ways to work there way out of value debt. Each sign focuses on three areas: value through pricing, customer value drivers, and acquisition. 

     

    Read the full article on the Techstars website. 

     

     

     

     

     

     

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    3 Approaches to pricing & how to pick the best model for your startup

    The right strategy can fuel long-term growth. Whether it’s cost-plus, competition based, or value based pricing, each pricing approach can hold great impact for your business. Learn how to choose the best approach for your startup—and turn pricing into a powerful competitive advantage.

    Continue reading

    Pricing For Your First 10 Customers

    A few months ago – before COVID-19 and travel was still something we did – I was in New York City in a conference room of a major financial institution with investors and their portfolio companies. 

    Unlike what you imagine in the traditional Wall Street boardroom of suits, we had tech startup founders in sneakers, hoodies (yes still wearing those), and jeans. The purpose of the meeting was to work with these founders through a series of targeted workshops to build their growth plans and bring in experts across different fields to help. 

    I was there to talk about pricing and monetization. 

    One of the investor partners asked a great question, “How would you do pricing for your first 10 customers?”. 

    This was a great question because for many founders, pricing is a white sheet of paper. So much time was spent on the product and finding potential customers that when the time came to share prices there is confusion. 

    So what was my response? 

     

    Pricing Strategy For Your First 10 Customers

    Price for learning versus setting. 

    If you haven’t worked on your pricing before launching or prospect meetings, the reality is your pricing is going to lack direction or foundation. 

    Your first customers are about helping you to learn about the dimensions of your pricing rather than to strictly set prices.

    Most early-stage companies we speak to do not know what really drives value for their customers (they don’t have any). They also don’t know what drives willingness-to-pay (haven’t done any pricing work).

    In the absence of these inputs, the early customers should be used to learn what value drivers resonate with clients – what do they care about and want to continue to talk to your company about.  

    It’s important to clarify that a value driver IS NOT a feature. In the words of Peter Drucker, “No one buys features, they buy the benefits these features derive”. 

    When we run workshops with founders, we run a value-driver exercise. In those exercises, founders generally come up with 3 or 4 value drivers – why a prospective customer would want to buy their product. It was rare for founders to come up with more. This continues to surprise us. At the same time if they have not spent the time working on pricing it is also not shocking. 

    This is why these first customers are to test hypotheses on what drives value, the relative value of each, and what potential prices can look like. 

    It is important to know that these value drivers are how you justify and defend your pricing. The less confidence you have in this, the more difficult it is to defend your pricing. 

     

    Price based on clear objectives

    While many launch products or go into the first customer meetings with a desire to “know” their prices, what becomes apparent is how unclear we are about what we’re trying to achieve with our pricing. 

    You might be thinking, “That’s silly. The goal is to close the sale.” 

    Anyone who’s done sales well knows there is such a thing as a bad sale. Blanket goals can be dangerous.  Think twice for anyone advising you to take any deal – the net value of that deal can cost you more at the end than the trophy traction win. 

    In actuality, these first customers – as appreciative as you are for their leap of faith they have in you – is not what makes or breaks your business. 

    Those first few customers can be about building goals: 

    • A clear sales pitch to get to value and pricing. 
    • It can indeed be about acquiring a new customer irrespective of who they are and how they perceive your product and value. 
    • More specifically it can be about segmenting customers. testing the hypothesis that these customers are the right customers for the product and prices presented, and there are 1,000 more if that is true. 
    • Sell against the right packages that are defendable based on clear value drivers. 
    • Secure the highest revenue / average order value. 
    • Price to the longest customer commitment (e.g. 3 months, 1 year, 3 years)
    • …

    Knowing what you are trying to achieve in these first few customers is vital because it will set the tone for the next set of customers you engage, what you offer them, how you price them, and how you defend your value (read = price). 

     

    Price for outsized value 

    One of the common mistakes we see with early-stage companies is to under-price… by a lot. 

     

    “The No.1 theme with our companies when they are struggling is they are not charging enough for their product.”

    Marc Andreessen, Co-Founder Andreessen-Horowitz

     

    Part of the reason young companies underprice is they have not done any pricing work, so there is little confidence and defendability for the prices they present to customers. 

    While it’s understandable that the early prices are lower than they should be (or could be), the real danger is that this often is not corrected. That is potentially revenue and profit on the table for no other reason than we did not put in the work. 

    When pricing for the early customers, look to price for outsized value, which means purposely pricing at the upper bounds of what you were going to present. 

    Why? 

    For one, you created this product because it uniquely solves a problem or needs in this world. It is by definition different. It should be worth more. 

    Second, there is a good chance you used competitors prices as a reference and priced around those products. Assuming your customers actually use those competitors as a reference, by pricing near competitors takes away potential differentiation you can create. If differentiation is the strategy, this is a lost opportunity that will require effort to correct in the future. 

    Finally, changing prices is easier at the early stages before your brand, reputation, and value proposition is established. Your price presentation is your big stage moment to say this is what the product is worth and why. 

    All startup founders pitching investors do this all the time. 

    It is a lot harder to increase prices than to drop prices. Price changes require discipline. Price changes also require collecting and analyzing your data. Even then, it is hard to do. We speak from experience. 

    The prices you give your first 10 (or 100) customers will most likely not be your pricing in the future for your next 10,000 customers. 

     

    Price for relationships rather than revenue 

    Your initial set of customers are taking a leap of faith in you and your product. That’s a valuable relationship and potential evangelist for your product and brand. 

    That is worth something, and something more than revenue for any early-stage company.

    That can mean pricing your product at $0, or free for a period of time. 

    Like personal and professional relationships, not all are the same. So if you’re pricing for relationships then it’s important to identify the difference between each segment. 

    If you are pricing for relationships, then ensure you set up fences. Customers who do not fall into this special early customer relationship bucket should not get the same offer. When the two mixes it can muddy the value on offer. Think of these early offers like your “VIP cards” – they should be special. 

     

    Price for the future  

    While the focus of this approach is on the initial set of customers, there must be a clear focus on the future of your pricing. 

    What you offer today should not be what is offered in the future. These first customers should be an opportunity to learn and refine. 

    This should also be a stark reminder to work on your pricing in greater depth. 

    Many founders we speak to have won their initial set of customers with pricing “that worked”. But what “works” eventually led to more questions: How to price different customer segments? How to price new products or upgrades to existing customers?

    Inevitably the lack of knowledge and confidence that should come from data-driven decisions, leads to revenue and profit left on the table. 

    Founders need to be prepared – and must get started early and often. 

     

    Final Thoughts

    Winning your first customers is scary and nerve-wracking. You want and need those customers. This is important for the validation for your product and company. You want this also for the revenue. 

    This feeling is very emotionally-charged, and making pricing decisions in this mindset can lose great opportunities to learn today and build for the future. 

    One of the biggest missed opportunities when pricing for early customers is what was not learned. Too many founders walk away not learning what to do with pricing – strategically and tactically – for future customers. 

    When trying to accelerate revenue traction, this lost learning and structured approach forces founders to work harder for similar – and sometimes subpar – outcomes. 

    The implications stretch into fundraising.

    Revenue traction is an important part of raising capital, and follow-on rounds. Looking at the “survival rate” of companies going to later rounds of fundraising:

    One of the challenges in moving on is the business model – where pricing plays a critical role – that makes the company increasingly unsustainable. 

    Use the opportunity with your first customers to test your core assumptions. Who are your target customers? What (really) drives value in your product and offer? Most importantly, how does value influence willingness to pay? This can pay huge dividends in the long run. 

    How did you approach pricing for your first 10 customers? What did you do differently than what we recommend? Let us know what you think!

     

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    Managing Your Pricing Strategy In A Downturn – Your Cheat Sheet

    pricing strategy downturn

    The economic downturn brought on by the global coronavirus outbreak has forced companies to reassess their financial position, business model and pricing strategy. As businesses adapt, one of the first things to go is pricing power – having a lasting impact on current and future revenue opportunities.

    Being proactive is critical during a downturn. It is critical for the company’s survivial, the team’s security, but also the longer-term opportunities and future. 

    Entrepreneurs are faced with unprecendented circumstances to navigate. There is much to consider and priortize. To help companies navigate the current uncertainty, we created an easy to use cheat sheet on how to manage your pricing strategy during a downturn.

    You can get our free cheat-sheet here.

    We will be sharing more resources in the coming days and weeks, so keep a look out on our website and social channels. 

    Be safe and well.

     

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