Kevin Hale (YC Partner) introduces the "pricing thermometer" as a framework: pricing involves cost, price, and value. He explains margins (price minus cost) drive seller incentives and the gap between price and value drives buyer incentive. Two pricing methods are cost-plus and value-based; startups are often advised to use value-based pricing but fail due to misunderstanding costs and customer-perceived value. Hale introduces four common startup pricing mistakes and describes the first: underpricing (charging too little), caused by underestimating costs, misjudging value, inability to communicate value, and targeting the wrong customers (early adopters who aren't price-sensitive).
Chapters
The first principles, the basic idea about pricing, the thing, the concept that really opened up in my head, how to think about pricing, how to understand the problems that people are facing and why startups get it wrong, is to use a concept called the pricing thermometer. And so you have to understand that when you price something, there's actually like two other factors at play. And so there's the cost, there's the price, and then there's the value. And the interplay and relationship between these items affects how growth happens inside of your company. Now, the gap between price and cost, that is your margin, that is your incentive to sell. And so the bigger that gap is, the more you are driven to want to push your product to your customers, to have your salespeople, et cetera. This gap here between price and value is incentive to buy. And the larger that gap is, the easier it is to have your customers want to sign up or use your product. Now to figure out price, there's really two ways to go about it. You either start with the cost, if you know what it is, and you figure out where your price is based off of that, that is called cost. Plus. The other way to do it is figure out what is the value of your company or product or service, and then you figure out your price from that. And that is called value based pricing. In startups, and almost pretty consistently across all businesses, everyone will tell you you should strive for value based pricing. It allows you to charge a whole lot more, it allows you to manipulate this incentive to buy. The problem is because people do not understand their relationships or even understand what are their costs and what are the value that the customer is going to think about their product. They put their price in a kind of arbitrary place and, and they don't know what are the forces at play that drives it. And it results in four different types of mistakes. The first one is startups will price their products too low. Basically, you consistently undercharge. It is the number one piece of advice we give to most startups that fix their pricing. And I'll talk a little bit about why most companies fall into that trap. You underestimate your costs and the result is you have a problem where your margins aren't enough to cover sort of acquisition. You don't understand your value, you don't understand how your company thinks about the problem that you're solving for them or how they value it. And either they don't understand your value or you don't know how to convince them of the value that you think you offer. And as a result, you can't get the price that you want. And lastly, you focus on the wrong customers that you think, man, if I built a better product and I charge half the competition, I win. The thing is that almost never happens. And the reason is because you as a startup, you as working on something to create a new market, are working on innovative products, you are focused on the wrong customers. They are not the mainstream people who are going to look at the price and make most of the determination based off of that.
