Welcome to Biz Book Fridays! I’ve got a whopper of a biz book habit and I’ll read ‘em so you don’t have to. I bring the juiciest morsels straight to you.

Let’s talk about castles.

What do you need to build a castle?

1. thick, unscalable walls
2. places to withdraw your bridge
3. places to drop hot oil, foul water, alligators, etc.
4. a moat, for preference, and
5. turrets, lots and lots of turrets

When it comes to making a product, the recipe is just the same. Only with a product, these fortifications have names like:

1. positioning
2. Unique Sales Proposition

And so on. The goal is the same: prevent your competitors from breaching your castle and stealing your serfs.

You know, the stuff that makes you different from the other guys.

Stuff they can’t just copy.

In other words: anything but a low price.

Competing on Price: Fools Only

And so, the clever authors of Pricing with Confidence tell us, Low Price is a Dumb Tactic.

Price competition is a fool’s game because any fool can play it.

Yup, anybody can lower a price. Anybody can compete on price. They don’t have to build a castle first. They also don’t have to face the hot oil and/or angry fishwives.

When you lower your price, you stand out… for a moment.

Tomorrow, somebody else less competent, less skilled, can come in, undercut your price, and steal that positin from you.

There’s no sustained advantage to be had through price competition.

…if you do win the order, your satisfaction is quickly undermined by the sneaking suspicion that what you have won is a Pyrrhic victory (another such victory and we are done for!).

That is the power of pricing: a bad price can transform a victory (woo! all those sales!) into a disaster (zomg, the overheads!).

In fact, the authors of Pricing with Confidence assert,

… weak competitors have an advantage in price competition because they’ve got little to lose and nothing else to leverage.

“Little to lose” and “nothing else to leverage” — not labels you want applied to your business, are they?

Why Price Low in the First Place?

Three reasons:

1. Fear & ignorance. You’re afraid of asking for money, so you think the thing to do is to ask for only a little. It feels safer.
2. Everybody else does it. (See below)
3. You want to grab a bigger slice of the marketshare pie. (See below)

I’ve already written about fear & ignorance a bunch of times. (For newbs who got the fear, the D&D test, cake-and-icing pricing, and when customers bitch.) Read on for more of #2 and #3.

Everybody Does It… Don’t They?

Our clients tell us, “We have no choice but to discount because our competitors are nuts.” In fact, the competitors just look like they are nuts because they have the same addiction. By the way, we always tell our clients, “Your competitors are saying the same thing about you, and for precisely the same reason.”

By now you are shaking your head. Of course, you think. It’s obvious now.

When one competitor cuts its prices, it’s exactly like when a customer says you charge too much. We talked about this last time:

When a customer says, “Your price is too high,” your instinct is to respond to it as if it were really a discussion about price. To keep talking about price.

But that instinct is wrong — wrong when it’s a customer conversation, and wrong when it’s a competitor’s action, too.

It’s not about price — it almost never really is. The trick is to remember that, and not get tricked by your lizard brain into reacting without question.

To Grab a Larger Market Share

So maybe you’re too worldly and cynical to price low out of fear or competition. But you’re still tempted. Your considered, logical reason to price low is: to increase market penetration. (Fuck yeah!)

There’s just one problem with this sexy, aggressive tactic:

Does it work?

That’s a question that rarely gets asked. And, as it turns out, it doesn’t:

Elastic markets are quite responsive to changes in price. Inelastic markets are not. Elasticity research tells us when price decreases are going to bring us more revenue.

Do you know if you’re in an elastic market, or an inelastic market? This is important, because it turns out they behave in completely different ways.

A market is only elastic if a lower price convinces more people, total to buy — from you, or anyone. It doesn’t count if a lower price convinces a person who’s already someone else’s customer to switch to you.

Make sense?

Only price low if there’s a chance to capture sales that would never have otherwise happened, ever.

In fact, because of the effects of derived demand — remember, lower prices don’t increase total demand — penetration pricing is poison if you are competing in a mature market.

I wouldn’t go so far as to say that ebooks, screencasts, and web apps are mature markets just yet. They are still growing, and will continue to grow.

But they are based off mature markets. With ebooks & screencasts, there are direct corollaries to books and video training from before (and simple comparisons to live training as well).

With web-based software, the vast majority of your potential customers have already used or bought web-based software.

For customers who have not yet bought ebooks or subscribed to a web app, the hurdles are not cost or price, but a different way of looking at software & education.

If a person hates the idea of paying monthly for software he could “just buy at CompUSA,” no price will convince him otherwise. If a person thinks it’s morally wrong to pay for one person’s well-orchestrated “bits” instead for a 3lb paper book with 42 authors on the cover, it’s not the price that will sway her bias.

So let other people blaze trails with low prices and unsustainable overhead. And let them suffer the consequences.

What to do? The best response is to skim price for high margins at the top of the market and use a neutral pricing strategy for mainstream and low-end market segments.

Charge a higher price, earn more from fewer customers, and serve those few customers better with your limited resources (e.g. your time). Go for the margins, don’t go for broke.

Be like Apple: with 4% of the mobile phone market, they have nearly 50% of all profits.

That’s a great place to be.

Welcome to Biz Book Fridays! I’ve got a whopper of a biz book habit and I’ll read ‘em so you don’t have to. I bring the juiciest morsels straight to you.

Today I’m talkin’ two pricing lessons from the very excellent (if dry) Pricing with Confidence.

Underneath that lame-o, goatse-scented cover beats the heart of a biz book tiger.

First, your customers don’t care about your costs. They care only about the value you deliver.

Let’s say your cost is a cake. The amount you charge above the cost of that cake is the icing on the cake. Result: a cake with a thin layer of tasty icing! Deliciousness.

Too bad this (tasty) model is totally wrong.

Believe it or not, this cake-and-icing model is a real thing, called cost-plus pricing. Only there is no cake. Cost-plus pricing is one of many majestic pricing unicorns: it is easy, appealing, convenient, and in complete denial of reality.

Fact: Your customers do not care about your costs.

A customer will never think to themselves, “Gee. The price is $10, and I’ll only get $8 of value out of it… but it must have been really expensive to make! That poor little company. I’ll throw ‘em a bone.”

Never. Not once. Not ever.

Not unless they’re your mama.

What’s the alternative?

Value is the basis of business exchange. You provide products and services to customers so they can build their own value. In exchange, they take a part of that value you helped them build and return it to you in the form of price. That’s the way business is supposed to work.

You have to look at how much value your product creates for your customer, and price from there.

Let’s say you create a little screencast course that saves would-be Ruby devs hours of ineffective Googling. How much can they charge for the hours you saved them? That’s one way to look at value.

Or what about if you create a tool that helps freelancers close more leads? How many more leads will it help them close, and how much income will they get from each lead? That’s the value.

Work backwards from the value to the price. Create value — then capture it. Mwahaha.

The Bottom Line

Change the way you think about price. Don’t think about your costs: think about customer value.

Then price your product accordingly.

But… where does value come from? How do you design & create a product that creates lots of customer value? Then how do you figure out the price from there? Well, those are two of the main topics from my 30×500 Product Launch Class. Tickets are on sale now, woop woop!