B2B pricing strategy: examples of pricing models, approaches, and tactics
December 9, 2020
Price is a critical lever in the marketing mix. But it’s a difficult lever to pull and is often overlooked.
Companies often focus on product innovation or promotional techniques while failing to price their products effectively. 85% of companies recognize they have ‘significant room to improve’ in their pricing.
When building a pricing strategy, there are three components to consider:
- The foundation of a pricing strategy is the pricing model that you will use (e.g., usage-based pricing, tiered pricing)
- A pricing model is only a framework; it doesn’t give you the actual price. Once you have decided on a pricing model, you need to select a pricing approach (e.g., cost-plus pricing, value-based pricing)
- Finally, you should consider which psychological pricing tactics you will employ to fine-tune your price points (e.g., odd pricing, charm pricing)
Let’s look at each in turn.
B2B pricing models
B2B pricing approaches
B2B pricing tactics
B2B pricing models
When picking a pricing model, you need to consider a few different questions.
The first question – are we going to offer one price point or many?
A single price point is easy for customers to understand but leads to lower revenue. The price might be set too high for price-sensitive customers. Or it might be too low for customers who are willing to pay more for a premium service.
Offering multiple price points can often be the best approach, especially if a company has complex solutions.
But too many price points can be a problem. Psychologists such as Barry Schwartz have demonstrated that when buyers are faced with too much choice, they may be paralyzed into inaction. The purchase may be deferred to a later date if it happens at all.
Most companies try to find a balance by either:
- Offering a small number of pricing tiers
- Using a pricing model that’s linked to product usage or the number of users. This approach means that each buyer only sees a small number of pricing options, but because each buyer’s usage levels vary, there are many different possible pricing options in the market
The second question – which value metric are we going to use? In other words, what and how are we going to charge for our solution?
There are several different value metrics to consider:
- Users – customers pay more as the number of individuals who can access the product increases
- Active users – customers pay more as the number of people using the product increases
- Feature usage – customers pay more as the number of features they use increases, regardless of the number of users
- Activity – customers pay for each activity conducted. For example, email marketing platform users could pay per email sent
When choosing a value metric, you should consider the benefits that customers are receiving from the product. For example, Slack uses the ‘active user’ value metric. An increase in active Slack users should lead to greater company productivity, which justifies charging per active user.
Once you know the answers to these two questions, it becomes easier to pick the correct pricing model.
Flat-rate pricing means offering one product, with the same set of features, for one price.
This model is easy to sell and communicate. Sales and marketing can focus on a single offer that is clearly defined.
But, as mentioned above, flat-rate pricing prevents you from maximizing revenue.
Flat-rate pricing is typically only suited to companies that have one product and limited revenue. Research has found that ‘the fastest-growing companies have less than one product per million dollars of revenue.’ Therefore, flat-rate pricing is best suited to companies who have just launched and may not hit that threshold.
Most companies with tiered pricing models offer 3-6 tiers or packages. The most common tiered pricing model is linear. The lowest-priced tier has the fewest features, and each subsequent level adds new features for a higher price.
The advantages of a linear model are:
- You push buyers to upgrade by offering more functionality
- Some features require more resources to develop/deliver. You can put these features in higher-priced tiers to ensure that you don’t under-sell them
- The market is likely to be made up of some very price-sensitive individuals and some less price-sensitive ones. Having linear pricing tiers allows you to offer a product for each level of price sensitivity
- You can include a free tier to get a ‘foot in the door’ with prospects – the so-called ‘freemium’ model
However, it is challenging to optimize this model. It’s not clear which features users want at each tier or how many tiers they require. As a result, it’s easy for critical features to be in highly-priced tiers or for the only relevant features to be at the cheapest level, leaving money on the table.
A less common tiered pricing model is to build packages/tiers around different customer needs. For example, an email marketing platform could design one tier for experts who want to send emails in volume and another tier for beginners who need hand-holding but not volume.
Needs-based tiers can be very powerful as they can be tailored to specific customer personas. And up-selling is still possible – as customers’ needs change, the package they need may change too.
The downside of needs-based tiers is that every customer has unique needs, and it becomes tempting to create many packages to cover every possible need. You can quickly end up with too many choices and overwhelm buyers.
Usage-based pricing (i.e., Pay As You Go)
The more you use a service, the more you pay. For example, Amazon’s Simple Email Service doesn’t have a monthly subscription for access. Users are only charged per email sent or received.
The advantages of this model are:
- Price is linked to usage. Customers pay more in months of more significant activity, which may be months of greater revenue, making it easier to justify a larger invoice
- Certain customers require more resources to service than others. Fixed pricing can mean that they pay the same as less resource-intensive customers. Usage-based pricing tends to mean that these resource-intensive customers are charged the most
- It makes it easier to get a ‘foot in the door.’ Buyers aren’t scared off by any up-front costs, so they can quickly start using the product
The disadvantages of usage-based pricing are that:
- The month-to-month uncertainty isn’t for everyone. Customers may dislike the volatility in their monthly bills. The organization selling the product may not like being unable to forecast revenues
- It can commoditize the product. If you charge for a specific task (e.g., sending an email), it becomes harder to demonstrate the broader value that your product provides
Per-user pricing is the most popular pricing model for SaaS companies. This is understandable, given the simplicity of the model. The purchasing company pays for each individual who can access a product or service. The more users, the higher the price.
The benefits of this model are clear:
- It is easy for buyers to understand what they’re paying for. It is also straightforward to predict upcoming spend
- The company selling the product or service also benefits from the simplicity of the model. It is relatively straightforward to forecast revenue generation by month
However, there are drawbacks to per-user pricing:
- You disincentivize user adoption. Purchasing companies try to avoid adding new users to a tool, e.g., by sharing a single log-in between employees
Some companies price their solutions by active users rather than potential users. The purchasing company can sign-up as many users as they want, knowing that they’ll only pay for those using the service. This approach tends to be more successful at encouraging company-wide adoption because more employees are likely to be given access to the product.
B2B pricing approaches
The above models provide a structure for your pricing, but you still have to determine a price. That is where pricing approaches and tactics come in.
There are several pricing approaches for B2B organizations to consider. Some are inward-looking – you develop pricing based on how much a product or service costs you to produce.
Others are outward-looking – price is determined by what your customers are willing to pay given the product value or the current competitive landscape.
Other approaches are driven by strategy – you start by considering what the company is trying to achieve, e.g., maximizing market share.
One of the most straightforward approaches to pricing. You calculate how much a product or service costs your business to make, add a fixed profit margin, and set that as your price.
This approach is very inward-looking – it ignores customers’ willingness to pay and your strategic objectives – but it’s a useful starting point. And it can be the correct approach when you have just launched a solution.
Marginal cost pricing
Marginal cost pricing takes a similar approach to cost-plus pricing. The critical difference is that, when calculating costs, you ignore the ‘sunk’ or ‘fixed’ costs that are inherent in the development of the product or service.
For example, rent is a significant overhead for restaurants, but when restaurants price a dish, they ignore it and focus on variable costs such as ingredients. After all, how do you assign the cost of rent to a specific dish? The goal of marginal cost pricing is for each product’s profit margin to cover the fixed costs.
Like cost-plus pricing, marginal cost pricing is an inward-looking approach but a useful starting point.
Value pricing ignores how much a product costs to make and focuses on a product’s perceived value. Typically, companies doing value pricing are looking to charge a premium for their product.
Value pricing tends to be lead to a few benefits for the company selling the product:
- It encourages them to focus on adding value to products rather than on cutting costs
- It also encourages them to understand how and why their customers value a product, which can help to inform future product development decisions
If you are releasing a product comparable to existing products, your pricing options can be limited.
If the price of the new product is set too low, you will undermine the existing products. If it is too high, buyers are likely to stick with the status quo.
Often it is necessary to set a price that is comparable to the existing products. For example, if the new product is slightly improved, you should set the price slightly higher than current products.
This approach is outward-looking – you are considering customers’ willingness to pay given existing products – but not incredibly sophisticated. After all, you’re not considering the value of the new product or your strategic objectives.
Dynamic or tailored pricing
Each buyers’ willingness to pay is different. In an ideal world, each individual would have to pay the highest price they’re willing to consider for a product.
In reality, tailoring pricing to each individual isn’t possible. However, it is possible to tailor pricing to some degree. Some companies do this by setting different prices at different levels depending on a customer’s location or size, e.g., prices are set lower in countries that are more price sensitive.
A minority of companies can take a step further and use ‘dynamic pricing,’ where prices are continuously changed based on current market demand.
If you want to maximize your market share, you should set a lower price than competitors. Often, this can mean setting prices at levels that are unsustainable in the long-term, so the goal is to either:
- Drive competitors out of business and raise prices once you have more market power
- Use the product as a ‘loss-leader’ so that you can cross-sell more profitable solutions – this is often called ‘captive pricing’
- Get a foot in the door so that you can up-sell a more profitable package in future
This pricing approach can be risky. If you have strong competitors, they can cut their prices in retaliation, and the situation can descend into a price war.
Therefore, this strategy is most appropriate in two situations:
- If the solution is relatively new, and there are no real competitors. Low prices will help you to gain share quickly and make it more difficult for competitors to enter the market
- If the industry is one in which low costs are only possible if you sell in high volume. Gaining a large market share will enable you to keep your costs down and make it harder for competitors to do the same
Market skimming, like market penetration, is a pricing approach driven by a specific strategic objective.
In this case, the focus is on profitability over market share. Market skimming has two critical steps:
- The company sets a high introductory price to attract a market segment that wants the product and is less price-sensitive
- Over time, the company lowers the price to appeal to different segments who are more price-sensitive
This approach is most appropriate for unique products, as you are likely to have ‘early adopters’ who will pay a premium to be among the first to access the product.
Understandably, skimming is particularly common in the technology industry, with Apple being the pre-eminent practitioner.
B2B pricing tactics
Once you’ve selected a pricing model and a pricing approach, there are still tactics that you can use to optimize your pricing.
Many of these tactics rely on psychological concepts of how people think or behave.
Anchoring + decoys
When people make economic decisions, they tend to consider relative differences rather than thinking in absolute terms .
When decision-makers evaluate a price, they use other fees as a reference point. A buyer assessing the price of some software will compare it to competitor solutions rather than determining if it represents value in a vacuum.
Companies can leverage this knowledge and increase customers’ willingness to purchase a product at a particular price by anchoring customers at a higher price.
Let’s say you are trying to sell a $200 product. Without a reference point, that might seem expensive to customers. But if it is sold as an add-on to a $10,000 package, the extra $200 suddenly looks relatively inexpensive. By anchoring customers on the $10,000 fee, the $200 becomes more acceptable.
That tactic assumes that the buyer will purchase, or intends to buy, the more expensive package. An alternative tactic, called ‘decoy’ pricing, works slightly differently.
In decoy pricing, you can nudge buyers to select a specific choice by offering a product that is a bad deal by comparison. The decoy’s goal is to make the existing product look more attractive by comparison, increasing willingness to pay.
Charm prices + odd prices
Our brains make rapid judgments. Specifically, they naturally try to simplify numbers and will focus on the first number in a price. This process is called the ‘left digit effect.’ $499 is a lot closer to $500 than it is to $400, but subconsciously we associate it with a $400 reference point.
As a result, prices ending in the number nine tend to lead to more purchases than prices ending in zero. The practice of ending a price with a nine is so common that it has a name – charm pricing.
Charm pricing is so standard that psychologists believe that our brains are starting to factor it into decisions.
Some believe that charm prices are now subconsciously associated with good value, meaning that a price ending in 9 gets an extra boost. This belief is supported by an MIT study that tested three price points for a product – $34, $39, and $44. The study found that the $39 price point performed best, even though $34 has the same reference point and is cheaper.
Others believe that charm pricing is so common that people are now correctly associating $499 prices with a $500 reference point.
That is where ‘odd pricing’ comes in. Odd pricing uses the same principle as ‘charm pricing,’ except the price ends with a number other than nine. For example, in the example above, we would charge $497.
Of course, ‘odd pricing’ can have the additional benefit of allowing your product to stand out through its novelty. However, in doing so, it could make the buyer more conscious of the price and mitigate the left digit effect.
Generally, people intuitively link price and quality. They assume that low price goods are of low quality.
Some businesses can take advantage of this perceived link. By charging a high price, they encourage the belief that the product is of high quality.
Of course, a company also needs a brand and a sales approach to support this tactic.
The prestige pricing tactic has historically been employed in the wine industry and the luxury goods sector.
But there is evidence that prestige pricing is far more common right now. Venkatesh Rao famously coined the phrase ‘premium mediocre’ to describe Direct To Consumer (DTC) brands’ go-to-market strategy.
Multiple studies have demonstrated the ‘power of free,’ the extent to which a price of zero can drive an increase in purchases. Price discounts can also cause increases in adoption due to the buyer’s perception that they are getting a good deal.
Trial pricing is a tactic that takes advantage of the power of free/discounts. A company offers its solution for free, or at a reduced price, for a limited time.
This tactic gets more customers to try the product than would have at a regular price. And if you’re able to demonstrate how useful the product is during the trial, they’ll be happy to pay a full rate once the trial ends.
Companies offer their customers multiple products or features, some of which may not be required or desired. They often ‘bundle’ these individual components together into one package.
This package is likely to have a lower price than if all of its features were purchased individually. However, it may have a higher price than if the buyer purchased all the features it wanted independently.
The buyer is happy because they are getting discounts, even if some discounts are on products they don’t want or need.
The selling company may:
- Receive more revenue than it would have without bundling its products
- Save sales resource because they’re only selling one solution instead of multiple products
- Encourage buyers to focus on outcomes rather than individual products
The Goldilocks effect
When people are presented with multiple options, they tend to select the ‘middle’ option.
If there are three pricing levels, they are more likely to select the middle price. That’s because it is probably a safer choice than the lower price (which may be linked to an inferior quality product) and the high price (which may be a waste of money).
People also tend to select the option that is physically in the middle of a selection – the so-called ‘center-stage effect.’ Psychologists believe that this is because buyers assume that the middle choice is the most popular.
Of course, as more and more companies become aware of these effects, they are taking steps to leverage them, for example, making the ‘middle’ option more prominent on a website. By doing so, they make it even more likely that the ‘middle’ option will be selected and reinforce perceptions that the ‘middle’ option is the best choice.
The final two tactics are not common in B2B SaaS, but academic studies have found that they work in B2C environments:
- Some academic studies have determined that consumers believe a price is better when it’s written in a smaller font
- Researchers have also found that prices seem higher when there are more symbols and numbers. As a result, 250 may be seen as a lower price than $250.00
B2B pricing models
B2B pricing models set a framework for your pricing strategy, though they they don’t actually set the price itself. Examples of pricing models include: flat-rate pricing; tiered pricing; usage-based pricing; per-user pricing.
B2B pricing approaches
Pricing approaches are the methods that are used to develop price points. Actual pricing approaches include: cost-plus pricing; marginal cost pricing; value pricing; product-line enhancement; dynamic or tailored pricing; market penetration; market skimming.
B2B pricing tactics
Pricing tactics are used to fine-tune your price and increase willingness to pay. Tactics include: anchoring and decoys; charm pricing and odd pricing; prestige pricing; trial pricing; bundling; the Goldilocks effect.