What’s the right price for something that costs nothing to make?
Most people tend to think about pricing for products in terms of cost plus. However, the cost of goods for software is so low that it cannot be used as a basis of price or competitive comparison. It costs a lot to develop and maintain, but the incremental cost of delivery is near zero. What’s the right pricing model and the right price for your software? And is it better to sell your software product as a service?
There is a huge variety in the types of software available and the scope of tasks each package supports. Over the past 20 years or so, the market has become extremely segmented. But we can identify basically four general classes of software products available today:
- Enterprise Software: Almost always purchased by large organizations and almost always costing more than $100,000. Examples of this are products from SAP, Oracle, IBM, and thousands of smaller niche-oriented companies that service specific market segments.
- Desktop Software: Sometimes purchased by individual users and at other times purchased by large organizations for widespread deployment. In general, desktop software costs between $20 and $1000. Some desktop software is sold as shareware that allows limited functionality in a free version, with complete functionality available in a paid version of the same product. Examples include Microsoft Office, Adobe Photoshop and Norton Antivirus.
- Open Source: These products are developed and supported by volunteers and donations. Some companies can make money in the open source world by offering documentation, training and support to serious users. Open source products are “free”; that is, there is no charge for the software license. However, actually using the software can be as expensive as using normally licensed products when the total cost of ownership is calculated. Examples of open source products include the Linux operating system, the MySQL database, the Open Office application suite, and the Mozilla Firefox browser.
- Software as a Service (SaaS): These are software programs that are often, but not always, delivered over the internet and sold using a subscription fee usually paid monthly. Customers can customize the implementation of their software to greater or lesser extents. In addition, they can usually discontinue using the software after fairly short contract periods. Examples of this include the Constant Contact email system, Salesforce.com customer relationship management and now, even Microsoft is offering its Office suite using this pricing model. SaaS offerings have gained substantial momentum in the market over the past several years and some industry analysts expect it to become the most common way to purchase software in the future.
Avoid the most common traps.
PriceGain has been working on software pricing since we founded the company in 2003. We have identified many of the most common traps that companies fall into with their pricing, including:
- Not charging enough. Companies often try to maximize their unit sales instead of optimizing their profits. We can help companies determine what their customers willingness to pay is and then set prices to reflect that.
- Trial periods that are too long. It’s quite common especially in the world of desktop software to offer free trial periods. We find that many companies make these trial periods too long. Also, more common in B2B situations, they will extend a limited trial period several times in the hopes of eventually closing a sale. We find that its best to have consistent and enforceable software trial periods, and that they should be set on the requirements of the market segment. Making them too long simply encourages people to postpone serious testing. Making them too short discourages acceptance of the trial offer. We work with companies to structure programs that encourage trials by qualified prospects and help convert the highest percentage of prospects into buyers.
- Incorrect feature bundling. We have seen many companies that configure their offerings with bundles of features that are misaligned with customer preferences. For example, if your offering is too feature-rich, customers may not buy because they feel that they are paying for functions they will never use. Incorrect feature bundling can also lead to customers being unwilling to pay for upgrades if they perceive that your basic level gives them everything they want. We help companies structure their price lists and feature bundles so that their customers can select the best fit at the price that feels most comfortable.
There are many books written about how to price software. As the industry continues to grow and mature, we can expect new pricing models and new variations on the old themes to emerge. The essential challenge will always remain: How can you express the value of your software using price in a way that your customers understand and accept? PriceGain helps software companies meet that challenge and implement pricing models that support growth and improved profitability based on the customer’s willingness to pay.