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Startup School Winter 2020
January 20, 2020, Online, USA
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Kevin Hale - Startup Pricing 101
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About the talk

YC Partner Kevin Hale goes over the fundamentals of pricing and monetization, how it affects your customer acquisition strategy, and how to optimize it through a few rules of thumb.

Transcript and lecture slides here: https://www.ycombinator.com/library/6h-startup-pricing-101

This lecture is part of YC's Startup School, a free online program and global community of founders. Register and join the community at https://www.startupschool.org/

Timestamps

0:00 Introduction

1:35 ROI of monetization

2:50 The pricing thermometer

5:00 Pricing mistakes

6:34 Stages of a company

7:47 Why is pricing innovation hard?

9:55 How to optimize prices

10:58 Pricing danger zone

15:24 10 - 5 - 20 rule

16:50 Conclusion

00:00 Intro

01:35 ROI of monetization

02:50 The pricing thermometer

05:00 Pricing mistakes

06:34 Stages of a company

07:47 Why is pricing innovation hard?

09:55 How to optimize prices

10:58 Pricing danger zone

15:24 10-5-20 rule

16:50 Conclusion

About speaker

Kevin Hale
Partner at Y Combinator

Kevin Hale was the cofounder of Wufoo, which was funded by Y Combinator in 2006 and acquired by SurveyMonkey in 2011. He was responsible for Wufoo’s much-admired design and speaks widely about UX. Before Wufoo he wrote about design for Particletree and was editor in chief of the web development magazine Treehouse. He has a BA from Stetson University in Digital Arts and English.

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This was a highly requested talk from last year where lots of people have questions about pricing or really confused. It's actually was well requested both at YC itself. So they're very popular Workshop that we and so we're going to go over a lot of basic fundamentals for pricing. That hopefully will just help you understand how to approach your pricing and monetization from first principles. And then you help you help yourself. Same thing with the landing page. So our first principles for pricing, we're going to go over his pricing particularly hard for startups. Are people making

Innovative products and new markets like why is it extra difficult? How do you do price optimization? Like how do you actually do it? What is that actually look? Like, and just kind of demystify that whole process. When we look at the challenges of pricing, you start recognizing why certain types of customer segments that you're going after or difficult, like smpn will talk a little bit about that. We talked about pricing affects your acquisition strategy, it changes what you can do and what you cannot do. And it's extremely important because a lot of companies get

caught up doing the wrong acquisition strategy or wasting too much. Money is a price is incorrect. And then I'm going to give you some rules of thumbs. Some pricing tricks to help, make it a lot easier with your encountering. Different pricing problems, home, pricing trick sprinkles. Okay. There are three lovers you can pull the improve growth from the last talked. I talked about conversion rate and churn, but monetization is actually the big dog, someone that I really like. Now there was a survey done with over 500 SAS companies

and they talked about sort of, like, amount of effort. They put into each one of these strategies and the returns that they got. As a result of it. The acquisition is really fun and exciting. It's the one that everyone kind of understand simply. It's like I get more customers. I get more logos gives me more growth retention by keeping customers and modernization is not getting more money per customer. Now, if you increase, just your efforts are resources by 1%. Your work on acquisition, used to

get returned about 3.32%. The retention is about 6.7. And when you're optimizing pricing, that gives you your biggest bang for your buck in terms of impact on your business yet. And it's the one that is most neglected. And I think it's the one that I wanted. So afraid to touch be there, so scared that if they get the pricing wrong, that they will lose all their customers. Now, 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. Will you price? Something there's actually like two other Factors at play. And so, There's a cost. There's the price. And then there's the value and the interplay of and relationship between these items effects. 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 that your sales people Etc. This guy up 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 do you use your product now the cigarette 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 what 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 try for value-based pricing. It allows you to charge a whole lot more and allows you to manipulate this incentive to buy. The problem is because people do not understand their relationships or even understand what are the 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 they don't know what are the forces that play that drives. It results in four different types of Mystics. The first one is, Start a price their products to low. Basically you consistently undercharge is the number one piece of advice. We give to most startups to 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 their back was isshin. 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 man if I built a better product and I charge the competition. I win. The

thing is that almost never happens. And the reason is because you as a start-up at 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. We're going to look at the price and make most of the determination based off of that. This is the sales and profit over a product's life from inception to dip to my eyes. That's what we need to know is that these are five different stages of a company and this is what cells

might look like over different stages and what profits might look like over those different stages, you who are in startup School you for getting seed, funding are in the first two stages. Part of the message introduction. You are not in the growth phase. And the thing to keep in mind is that the customers in the first two stages, the ones that you're going after, they don't look like mainstream customers that you find in growth and maturity stages. they're not mature, customers the early adopters and things to know about early adopters

is kind of don't really get on momentum and growth on to get past the first two to 5% of potential buyers of your Market. These people not to 5% to call early adopters and it seems that drives them is very different from mainstream people. So once there's a couple things that you did mine about pricing Innovative products, what you are trying to do, find a monthly is require users to change their pattern. Stop doing it, the old, shity spreadsheet, way and do it in the new better your way and

getting someone to change their pattern is actually difficult, especially if they're on mature person, partly. Because the user lacks information needed, and the trust in you, or whatever it is, that you're making to make that change. To take that risk, you are on sprinters, you're comfortable taking risks. Your customers are not entrepreneurs for the most part. They're probably comfortable taking rest. So, in the beginning, you're going after people who are willing to take a risk and those are early adopters. Those are people who care about

benefits above all else that the highest value to them is beating the competition. Doing something much better and taking a chance that something new will give them that edge over. Anybody else. Those early doctors. Therefore are not price-sensitive anything. If you built a better product than you charge a less. It looks like you have reputation risk was like, why is it too good to be true? What is the catch and understand? This is basically all price optimization

complicated way that you can try to show price optimization. This is Adam and yield curve, or you have on this side is different prices. And on this side, you have sales unit sales and basically what you are trying to figure out when you're optimizing the price that you're charging. Your customers is like basically, what is the perfect balance between, how much I charge and how much sales volume I get. And then your price optimization is basically that try different prices and then see what the effect is. When I have my company's optimize their prices, they just use a

very simple table. You don't need to try to figure that weird-ass grass basically want to have. It, says, these are the prices. I'm going to try. And then, what is the result in conversion rates? What is a result in sales volume? And then how much revenue did I generate? And tell that they have prices at these different price points. And I get these different conversion rates and I get this sales volume. I should immediately be able to see who the winner is. Here we go. Now, the one thing to keep in mind, once we figured out something like this one, simple product,

is that These areas at lower prices, if you can afford them in terms of your margin, actually lost opportunities. And what you want to understand about these are these are what you're going to see if you offer discount pricing or offer tiered pricing at different price points. Another exercise. I like the goat weed companies, when dealing with pricing is help them. Understand is like, are you in a danger zone? And so what I usually do with my companies as I how have the sort of calculate their

business look like or what does it going to look like to be a billion dollar company and usually the rule of thumb. There is to be doing a hundred million dollars a year in sales and revenue and so is like your price that you give how many customers do you need to have to make $109 in that year? So let's have a bunch of different price points then we know. Okay, great. I need these number of customers in order to make this formula work. You understand what that looks like at $100 price point

with a potential of a million users, right? This is consumer. That's what that consumers face. Looks like. And you know what? This down here looks like $100,000 a year call. This Enterprise. This area here is a part that a lot of companies are in and really, really struggle Down The Struggle Bus and the tennis vs MB. These are people who kind of treat their money like consumers, right, but they kind of look like they might be in Enterprise. And the reason why this is such a danger zone is because it will tend to fit in the wrong place on my

next diagram. So, Let's imagine that this vertical axis represents price. You can charge either price or low price for your product and this represents complexity of your sales process. Low complexity, the high complexity. If you are having a product that is $2,000 or less and is basically self-serve. Then you have something in this quadrant here and this affects completely what you can do, in terms of what drives your business, what you can spend on to get that sort of that price point here at

$2,000. It needs to be have almost all marketing. The inbound. You can't spend a lot of money outbound her as etcetera. Your support has to be completely self-serve or very, very minimal. You have no sales team at this price point. You can't afford it. Right? But conversions, could happen on the same deck must be a self-serve model. Traditional the between two and $10,000 when you're able to charge this. You able to Have a few new toys at your slaves and some marketing. Now to be focused on generating qualified,

leads your customer support and now offer like s l a s or you can start paying for training help. People get prom boarded and Versailles. You can't hire a dedicated sales person, but maybe you can have an inside sales rep, to sell within companies are within your customers. You can maybe have an SDR and you can maybe have someone dedicated to getting product demos cell cycle. Here should not be longer than 1 2, 3 months. Enterprise over $25,000. Now from market and you can start spending things on branding on building up. Trust with

customers. Your support is very, very high. I touched that you can afford your new phone support. You can have a customer success person dedicated to the client and for sales, you going to start thinking about sales managers dividing stuff into territories and having sales engineer that participate in terms of conversions and the sales calls. These will have a sale cycle about 6 to 12 months. Is the garbage zone, right? And, you know, if your potential in this and this is a big wake-up call for you if it's taking you months and months and months of clothes.

Someone, but you're not making a lot of money to cover it. You have a process where your acquisition, or just too high for you to be sustainable and you have to get yourself out of that problem. All of your work should be towards increasing, the perceived value of your product or service. My end on a good rule of thumb, if you are. Sorry, we're so kind of price but you don't know how to serve optimize it or figure it out. Then here's a good place to get going. The first thing is,

I like to have things where the value is 10x, the price of whatever it is. I'm charging and I want to have it so that the value is easily understood to be a 10x. So for example, if I charge for a product that is $10, then it should be in terms of perceived value by my customer, that it's worth $100 to them. If they do not immediately understand the 10 x value of the price is going to be hard to get them to move their incentive to buy, might be too low. Once you have any kind of price and this is particularly important

for people doing B2B your Enterprise sale, you should start practicing raising prices and I like to just start by raising prices by 5% If you feel really confident, jump it up by bigger numbers if you want, but this is a pretty safe way to do it so that you can feel comfortable with it and you want to keep raising prices until you're losing 20% of your customers. That's about a good balance to have in terms of understanding that. Like, I have a good price here. I'm losing 20% of my deals, not too high, not too low. In summary for pricing pricing gives the most bang for your buck.

You should work on pricing. If you'd ever touch the pricing of your product, then you're losing out on lots of potential growth. Understanding Variables, do you really understand your cost? Do you understand? Why you played the price where it is? And do you understand the value? When you go into a sales meeting or call? Do you talk to people? You basically say is like I know exactly what this is going to be worth it to you. So when I tell you what the price is going to be you're going to be like damn that's totally worth it. Go after early doctor's, remember,

I as a startup that is who you're going after. So when you are talking to customers and they are taking a really long time to make a decision or they're wanting to have a lot more proof that other people are using it. You are not talking to an early adopter. You're wasting a lot of time on non-believers. Go after them first, don't take it personally. When these people who are much more mature aren't ready for your product. They were never going to be your job is to get through that first to 25 per-cent of the market. Those early adopters care more about benefits than price.

So don't under charger products when you have something that is of value and easily understood to have value. Get organized. What you doing for Price optimization. It's really, really easy. Don't overcomplicate things, figure out a bunch of different price points. You want to check on her stand. Sales volume conversion rate in the revenue that involved that will help you make the best pricing decision. Your price will determine your acquisition strategy. If you realize that your cell cycle or all the things that you're spending on his way too much for the amount of

money that you're charging. You either need to increase the price or come early, reduce your acquisition strategy cost. Use the 10 520 rule. Set a price that is 10x. That is a tenth of the value. Increase prices by 5% until you're losing, 20% of the deals. Thank you very much guys.

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