With its low marginal cost, pricing enterprise software like any software product has always been a challenge. Slowly the best practice has evolved to differential pricing and value based pricing. Differential pricing of course is selling the same product to different customers at different prices. Value based pricing is where a vendor and a customer agree on some price based on the value delivered for high ticket enterprise software. Of course, this is true whether the transaction is an upfront license model or a subscription model. Here is how I think about the value pricing model.
The expected price for the solution is a small slice of the expected value from the software for the customer- increase in profit if the solution is implemented instead of doing nothing. The size of the slice depends on the probability of achieving the benefit, what are the alternatives, and how much effort going into achieving the results. Let us walk through each of these:
- Expected benefit: What is the profit impact of the software during the expected life of operation compared to doing nothing? The expected life of usage of the software will be based on a perception on how fast technology is changing and how soon the customer will have to rip and replace that to get to the next level of performance. On the flip side, enterprises can feel that they are at a competitive disadvantage because competitors are leveraging certain capabilities and have an urgency to protect their franchise by implementing the solution. Even this can be translated back to the profit impact. So for simplicity, I will leave it as "profit impact of the software during the expected life of the software."
- Probability of achieving success: Each industry has its own unique dynamics and processes. Each company within that industry has its own differentiation to protect. So the success at one company doesn't translate directly to an assurance of success at another company. On the other hand, a body of work showing success at different types of companies in the industry or at least companies in other industries improves the perception of the probability of achieving success. A start up or a new product idea has a significant challenge here and will have to depend on early adopters who feel that they have better success with new technology than their competitors.
- Alternatives: If the customer perceives the solution as differentiated and doesn't see a lot of alternatives, then they would be willing to pay more for it than something they perceive as commodity available from multiple vendors. Even though something might give a lot of value to them, if there are multiple alternatives, then what the customer is willing to pay for it gets driven to near zero.
- Internal resources for deployment: There is always some amount of effort on the customer's side to get the solution deployed. For some solutions, the change required is very high and that needs to be accounted for in what the customer is willing to pay for a solution.
What are the other factors that go into the price equation for enterprise software?