Value Based Pricing – How to Charge?

Every start-up, or entrepreneur offering goods or services in the marketplace ask themselves a question about how much they should charge for what they deliver. Although there are many classic approaches for measuring customer value, and the willingness of customer to pay it  (e.g. contingent valuation, or conjoint analysis), I would like to focus on value based pricing. I had the good fortune to deepen this topic thanks to Prof. Christian Luthje heading the Institute of Innovation Marketing at Hamburg University of Technology in Germany.

Value based pricing is moreabout charging for the usage or access to the product or service, than for the ownership of it. It may be also about charging for defined output you are committing to deliver. Let me explain it with the following examples:

Software-as-a-Service, also known as SaaS is the pricing model which reference point are functionalities and intensity of usage of what you are to offer. E.g. cloud-computing solutions, or software offered in SaaS model is charged for number of users having access to the solutions, or software and intensity of their usage, incl. customization, and personalization options. Sometimes fee depends on usage time, and usually is offered in subscription based contracts (not licenses, and sublicenses, which are popular y typical in software business) . An example of company offering their products in SaaS model is Salesforce, which once had been a start-up, and today thanks to exponential expansion and growth we could rather call them a “corp-up”.

Build-own-operate-transfer, also known under abbreviation of BOOT, is the model applied to businesses, where the goods, or services providers are remunerated against the delivered output, not the creation of the output potential. Examples are space of the surface, which is to be maintained clean in contract with cleaning company, number of concerts organized by company operating philharmonic, or culture-oriented entity, volume of drinkable water delivered to houses by water operator, as in case of Veolia, who signed a contract with Abu Dhabi Water and Electricity Authority for financing, design, construction, and operation of two wastewater treatment plants. My favorite example of BOOT model is Putzmeister, which offers feed pumps for delivering concrete for construction of skyscrapers of more than 600m height. Putzmeister supplies, installs and operates the feed pumps on their cost at construction site of the highest buildings in the world, but what they are paid for is the actual, cubic meters volume of concrete transported through these pumps at the construction site.

Performance-based payments – this model is used in transportation and logistics business, where basic fee is paid for the service itself (e.g. forwarding, or storage of the goods in the warehouse as in logistics business), and all additional payments depend on meeting performance criteria and metrics. For example, if you are in logistics, and know that you can deliver the service against certain criteria, you can charge premium basing on performance agreed to measure e.g. percentage of deliveries made on time, or number of complaints received by recipients.

Outcome-based contracts – here the contract prices depend on your Client’s expectations of the desired outcome of your service. One of the commercial-blast-based services company Orica, which operates e.g. in mining business uses outcome-based approach in charging for cubic meters of blasted rocks, not for the number of kilograms of explosive materials used to blast them, as in case of their competitors.

Transaction participation – transaction participation relates to brokerage services, and commission charging in relation to the value of the transaction, which had been closed thanks to your engagement. E.g. real estate agents commissions depends on the price of estate being sold, banks offer commission in re-selling their financial products for individual operators of banking franchises, as in case of RBC, Chase, or Lloyds.

Pay-what-you-want – this model is also known as extreme form of value-based pricing where customers might officially pay as much as they like for the product or service. This model is implemented in restaurants, or movie theatres, and turns out to operate better in the former ones. In software business it is known under donation-based offering of freeware software and applications, which creators can be financially rewarded only if their customers would wish to do so.

Which other value-based pricing models you know?



Dzida !