A higher price tag automatically means a better quality product.
Even as you read that sentence, you know it's not true. Yet in practice, the psychological pricing strategy of prestige pricing works. We value high-cost items more. Our monkey minds just can't help it.
It's the same psychological pricing phenomenon that makes wine taste nicer if you're told it's expensive. Even California's finest wins snobs—er, connoisseurs—weren't immune to the power of this marketing placebo. Just ask Rudy Kurniawan.
What is a premium pricing strategy?
Premium pricing, aka prestige pricing or image pricing, is when you intentionally charge higher prices than your competitors.
Some businesses use it as an early introduction price to drive demand, but it can be implemented at any time to increase the perceived value of a brand, product, or service. It works by giving customers the impression that because the product costs more, it’s worth more.
You don't need to be a luxury brand selling a luxury product to use prestige pricing. In fact, a premium pricing strategy can be very successful for your B2B SaaS business. It works best where there's inelastic demand, i.e., the change in pricing doesn't affect demand for the product or service.
A premium pricing strategy relies on a few factors
1. The fear of getting a sub-par product, service, or outcome.
It's not so important if we're talking about a crappy bottle of merlot, but when a customer invests in software for their own business, then security risks are a major concern.
2. The infamous click-whirr response.
Robert Caildini's "Weapon of Influence" refers to the split-second information processing in our brain. The premium pricing strategy works because we've learned to associate cost with quality.
3. Some people just want to throw their cash around.
While this may be more relevant for luxury consumer products, B2B customers may also choose a SaaS vendor based on nothing but the perceived brand value that comes from premium pricing. Some customers will pay good money just for bragging rights that come with being associated with a luxury brand.
An example of a premium pricing strategy
Typically, when we think of premium pricing examples, we think of designer clothes brands like Louis Vuitton, or physical products like Rolex watches. Each brand uses prestige pricing strategies that have been so wildly successful that many customers now purchase their products purely as a status symbol.
However, it's not just the world of fashion that benefits from a premium pricing strategy.
The premium pricing strategy of the world's most popular website optimization software
Optimizely, founded by two ex-Googlers in 2010, is a B2B SaaS business that offers A/B testing solutions. Optimizely charges such premium prices that they're only available "on request". Plans start at a modest $40,000 per year, ish. This makes it considerably more expensive than its closest competitors, who offer free trials and monthly costs of as little as $0 (we're looking at you, Google Optimize).
So why does premium pricing work for Optimizely?
- Well, for starters they're the oldest and most well-known. They've been around long enough and got the higher quality product to justify their premium prices.
- Pre-2014, Optimizely offered a tiered pricing system including a free—yes, that's right, free—plan. Naturally, this attracted businesses of all sizes. They've since whittled down their target market to enterprise customers, exclusively. As Christoph Janz so whimsically puts it: “To run a $100 million business you only need 100 whales, but you'd need 100,000 rabbits.”
What are the advantages of a premium pricing strategy?
Thinking of implementing a premium pricing strategy in your SaaS business? If done right, you stand to enjoy some pretty great advantages.
When you charge more money, sell the same product, and your costs remain the same, your profit margins increase and you generate more revenue. No surprises there.
Increased perceived value
We can't help but associate quality with cost. Simply making your product the most expensive makes people think that means it must be the best quality, too. After all, why else could you charge such high prices...right?
This doesn't only apply to customers using and paying for your premium product. The advantages of this marketing strategy include helping to enhance the overall perception of your business and positioning yourself as a prestige brand in the eyes of potential customers.
Encourages product or service improvement
So, congratulations are in order! You have higher profit margins and a glowing new reputation as a premium brand. Now it's time to live up to expectations.
When people are willing to pay more for your service, you've got to be prepared to deliver. Continuing to add value to your product and going the extra mile will help retain your existing customers. And if you push standards up enough, you can raise your industry's barriers to entry. A successful premium pricing strategy can create a market advantage for your brand. Other, newer SaaS brands simply won't be able to compete with your better-quality product.
Drawbacks of a premium pricing strategy
Naturally, there's a flip side to this pricing approach. Some of the same reasons a premium pricing strategy works so well can also work against your business. If you don’t manage the strategy effectively.
You're exposed to undercuts from other competitors
When you use a premium pricing strategy, you leave yourself open to being undercut. This is especially true if you're in a red ocean with many competitors. Another SaaS business could arrive in your market space offering a comparable service for less cost and gain a competitive edge.
You'll push away more budget-minded customers
When you increase prices, some people will jump ship. Certain market segments won't be willing to pay the prices your brand asks.
But losing mass-market appeal doesn't need to be a cause for alarm. Were the lost users your best-fit customers? This customer churn may be a blessing in disguise. After all, target market and target audience can be very dynamic, especially during times of growth.
Your internal costs will go up
As the saying goes, you’ve got to spend money to make money. Well, in this case, when you make money you’ve got to spend it. As your revenue and profits increase, so must your investment in product improvement.
Your product quality needs to be in line with your higher prices. This means heavily focusing on your unique selling point (USP) to differentiate your brand from competitors in the market. Without a strong USP and inelastic market demand, a premium pricing strategy is unlikely to work.
You'll also spend more money on a consistent marketing strategy to establish your brand as 'premium' and create a new customer base—which translates to a higher customer acquisition cost.
But good marketing isn’t foolproof. A competing brand could have a more successful marketing strategy and offer similar products at lower prices. So, your own marketing efforts could cost a lot of money yet return little result.
How not to implement a premium pricing strategy
In March 2018, remote support software brand Upscope doubled its prices. It wasn’t the resounding success they'd hoped for, but not for the reason you'd think.
Sales went up—and down—and up again. It wasn't that customers weren't prepared to pay. The problem was that the guys and gals at Upscope hadn't the foggiest why the variation in purchase numbers was happening.
It was probably something to do with the business’s (non) reason for implementing a premium pricing strategy in the first place: "We read it somewhere so we did it."
Folks at Upscope learned the hard way: conduct proper marketing analysis and understand customers' behavior before going all-in on a new pricing strategy. The good news is that the business did manage to make a premium pricing strategy work for it in the end, and concluded that:
- pricing experiments are absolutely essential,
- it helps to experiment faster so you can figure out strategy early on, and
- when you deliver quality, customers don't expect a cheap deal.
Testing your premium pricing strategy with a subscription billing platform
The advantages of a winning premium pricing strategy are huge. But, if you get it wrong, the backlash could negatively impact public opinion and hurt your brand value. And that would suck.
Upscope went through eight pricing models before they finally got it right. And their story is nothing out of the ordinary.
Using a subscription billing platform with a flexible catalog lets you experiment with your pricing strategy. The ability to adjust price at a customer level means you can try out prestige pricing with a smaller cohort first. Running A/B tests will determine if you should roll out higher prices to the rest of your customers—so you don’t have to put your entire userbase through eight price changes in the space of a year.
Should your business use a premium pricing strategy?
Since a SaaS business doesn't sell physical products, pricing strategy isn't as straightforward as production cost + desired profit margin = price. There are many factors to consider when you create your pricing strategy, such as psychological impact and positioning strategy. The strategy that works for your brand also depends on your direct competitors and your particular market niche.
One thing's for sure, though. To create the best chance of a successful premium pricing strategy, run pricing experiments first! That way you can be confident you know how customers will react to premium price points.
If they run away screaming, it's probably wise to re-think your prices. Or, seriously evaluate the kind of visitors your website attracts, and consider why your customers don't want to pay a premium price for their purchase.
Conversely, if your new pricing seems to stick, extend it to the rest of your customer base and enjoy instantly higher profit margins!