September 30, 2013
How to Use Product Differentiation to Optimize Your Pricing Strategy

In case you’ve been living under a rock, Apple’s iPhone 5C has been getting a lot of press lately. Critical examinations of the most recent iterations of the iPhone as well as Apple’s pricing strategy have been clogging up my newsfeed for the better part of the past week (along with the story about the sucker who paid $10,000 for an iPhone 5S). Many expected the 5C to be a major departure for the company in terms of design and pricing, but those hoping Apple would introduce an entry-level iPhone model with an affordable price tag were sadly disappointed. The 5C is basically an iPhone 5 in a colorful plastic onesie, and it costs $550 unsubsidized, which is only $100 less than the flagship 5S model.  

Despite criticism that the iPhone 5C is too expensive and won’t penetrate developing markets, Apple CEO Tim Cook has vehemently maintained that the company isn’t “in the junk business” or competing for price sensitive consumers. Translation: We want to offer a slightly less expensive version of the iPhone, but not be perceived as a cheap brand. Got it. Whether or not the 5C is a feeble attempt to capture a piece of the market downriver, introducing a cheaper, stripped-down version of a product can actually be a great strategy. Apple’s approach to offering a “lower quality” version of a product is a tactic worth exploring, and there are numerous applications for companies looking to differentiate their SaaS products and price them effectively.

pricing strategy

photo credit: Martin uit Utrecht

Why Should I Care If They Aren’t Willing to Pay a Premium Price?

Sure, it looks as if Apple is implementing its all-too-familiar premium pricing method with regard to the 5C, but the Hulk-like strength of the brand allows it. Your business can cast a much wider net if you adjust your pricing strategy to include customers on the low end. Simple unit economics suggests that a bare bones, lower-priced version of a product or service can boost revenue by bolstering adoption volumes (even Apple lowers prices over time to capture some of the consumer surplus). There are, however, two other distinct advantages some companies can overlook while neglecting these potential customers with a higher price sensitivity.

Advantage #1: Entry-Level Pricing Can Break Down Barriers

If you run a SaaS business, there is a good chance that your product has several pricing tiers. Usually, the structure of the pricing model is scaled based on the number of features offered, user licenses, storage requirements, etc. Price your entry-level product or service too high though, and you risk pushing away potential customers who would happily pay a nominal amount for your product (even if it includes less features or decreased functionality).

Case in point in a different industry: The New York Times. To maintain both cultural relevancy and financial solvency, the newspaper giant offers a limited digital subscription (accessible via web and mobile phone only) for a mere $15 per month. The pricing continues to rise all the way through home delivery options. We criticised the company in a previous post for implementing complex pricing schemes, but for customers who need a cost-effective way to access articles published by the NYT (and don’t need tablet access, multiple user accounts, or a print copy), this plan offers value and helps the Times capture revenue from penny-pinching customers it might otherwise miss.

product differentiation

photo credit: wallyg

Advantage #2: Low End Customers Can Be Cultivated

Rather than simply dismissing an entire segment of customers as “too cheap,” offering a less expensive version of your product gives you the opportunity to persuade these customers to upgrade to premium plans (or more expensive products) in the future. Not to be confused with freemium plans, which can actually limit long term revenue potential, a cheaper version of an existing product gives you the flexibility to promote adoption (freemium’s strength) while also generating some revenue along the way (freemium’s obvious weakness).

As a SaaS company, instead of creating a large gap between your free version and your first paid plan (say $50/month), consider offering a lower-priced tier (with reduced features) at $25/month. This not only pads your revenue as more customers switch from the free version to the inexpensive $25/month plan, but it also fosters a relationship between your company and the customers. As the needs of these $25/month customers change or their business grows, you will have already built the communication channel to encourage them to upgrade to a more premium product or service.

But What About My Brand and Cannibalization?

The cries of “brand dilution” and “cheapening your brand” will be inevitable whenever you consider offering a slightly lower quality, less expensive version of an existing product. Critics of a lower-priced iPhone have already made comparisons to branding trainwrecks such as Burberry licensing its pattern to anyone and everyone who would pay. There are significant differences, however, between Burberry totally selling out and Apple’s attempt to offer the iPhone at a slightly lower price point. Primarily, Burberry’s trademark pattern was a singular product, while Apple can differentiate the 5S from the 5C via several features (a fingerprint scanner among them). A somewhat lesser phone should understandably command a somewhat lower price than its standard counterpart, leaving little room for concerns about overall brand damage.

pricing strategy

photo credit: Richard burtle

Cannibalization could be a credible threat, but when the entry-level product is significantly differentiated both on features and price, this usually becomes a non-issue. It would seem illogical for a SaaS company to worry about missing additional revenue on a $50/month product when the customer barely justified purchasing the $25/month product, and capturing a new customer segment with an affordable offering shouldn’t decrease the sales volume of your more profitable services.    

A Low Cost Offering Creates an Opportunity for Growth

Introducing a lower priced version of a product or service isn’t the answer for every business, but if you have concerns that your introductory price is stymying sales or preventing growth, it’s something you should explore. Every aspect of your pricing strategy is a process, and experimenting with product differentiation and analyzing the results can be an effective, ongoing component of that process.

Offering a lower tier of service can bring in new customers that have the potential to move upriver as their own businesses grow. Plus, developing and delivering a great service with less features won’t cost nearly as much as the creation of your core product. Simply put, there’s too much cash left on the table if you ignore a whole segment of consumers who might be interested in a basic version of your product with a reduced price.

To learn more about pricing specifics, check out our Pricing Strategy ebook, our Pricing Page Bootcamp, or learn more about our price optimization software. We're here to help!

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