This is Part 1 of a 5-Part series: Joy of Honesty in Business.
Which of these pricing strategies is more persuasive?
- If you buy now, I’ll get you a discount.
- The price is going up, but if you buy now I will lock in your rate.
Both are types of discount. The typical software sales strategy is #1. It’s often applied to get the customer to “close” before the end of the month or quarter or some other arbitrary time boundary.
At first blush it seems harder to persuade with #2. After all, #1 means the customer pays less than #2, because #2 isn’t a real discount — it’s a discount against some future price, which is a lot harder sell than a discount today.
But for me, the evidence is overwhelmingly in favor of #2. Here’s why, from the point of view of the customer.
You’ve already established your price. In strategy #1 there’s a discount if I “act now.” Hmm, so that means the old price wasn’t really the price after all. The old price must have included a nice slice of pure profit that apparently you’re willing to leave behind. So you were gouging me before. And the only reason I found out about it is that it happens to be the end of the quarter?
This is how #1 breeds mistrust — the opposite of what you’re trying to establish with me, your customer. In #2 you’re looking out for my interests. You’re cluing me in that there might be a rate increase, and you’re actively protecting me from it. Sure, I know there may not be an increase, or it may not come for a while. But it’s still protection, not a gouge that you graciously chose to reveal.
Four years ago I was trialing .TEST from Parasoft. It was buggy; even after hours of remote desktop control with tech support we couldn’t get it to stay up long enough to scan my code.
But the salesman was persistent. The conversation went like this, minus many minutes of sales-speak on his end of the phone:
“How much will this cost me?”
“Wow, I thought you were going to say $2,000. That’s way out of my price range for one person and this product. In fact, I’ve looked at FxCop and NUnit and [something else] and it seems to me I can do the same thing with free tools. I was willing to pay for some convenience, but not that much.”
“Let me see what I can do.”
“No nevermind, it’s, like, an order of magnitude problem.”
He called back the next day.
I didn’t buy. I talked to someone who did, though. A reference customer. That guy said he paid $20,000. I asked how he liked it and whether he encountered the crash problems I was seeing. He said they hadn’t installed it yet, but the demo looked great. I made a mental note to try to understand the mentality and budget that forks out $20,000 for a nice demo.
But getting back to the point. If he can go from $20,000 to $1,500, maybe he will go to $1,000. Yes, this strategy means often you will extract extra money from me. But it also means I don’t know where the floor is, and I have every incentive to haggle. The process drags out, ending at gunpoint. Meanwhile your “customer relationship” is now more of a “hostage situation.”
So let me get this straight: It’s better to get an extra 10% on every order, but create an adversarial environment with me, your cherished customer? This is enterprise sales, right, where the pilot is 30 seats and the roll-out is 2,000? And you’re going to risk pissing me off over 10% on the 30-seat part?
And now imagine if I had called back that reference customer and told him he could’ve had it for $1,500? Yet another problem with discounting — word gets around, meaningless differences in pricing is unfair, and now I, the customer, see you as plain old dishonest. Goodbye 2,000 seat order.
Even if we set the honesty/relationship argument aside, there’s the matter of image.
What kind of company provides a #1-style discount? Wal-Mart, Target, Walgreens. No, software companies. Try to get quotes for Microsoft or Oracle or IBM products for 1000 desktops. Everything’s negotiable, everything’s discountable. At best it conjures images of haggling and struggle; at worst of low-quality or the desperate need to “meet numbers” at the expense of everything else.
Which companies don’t discount, ever? Apple, Google, Constant Contact. No discounts on iPhones. No haggling over AdWord prices. What’s the image? Desirable. The best. Worth paying for. The leader doesn’t have to compromise. The leader isn’t desperate for orders.
Strategy #2 implies growth. You’ve planted “higher prices” in my head now. Supply in software is unlimited, so that must mean demand is increasing. I won’t go through that calculus, but certainly I feel the product is becoming more valuable, not less. Discounts feel like unloading unwanted product; price increases feel like success.
Strategy #2 implies I’m part of a club. I’ve gotten in early, on the ground floor, before the product explodes in popularity and prices go up. And I’m rewarded for this support and loyalty with price protection. A “thank-you” from you to me because I was part of it, because I was there before you were big and expensive, because I took that risk with you.
So there it is. #1 means less money now, an adversarial relationship, a never-ending struggle over money, and a message that maybe the product needs a discount to be desirable. #2 means more money now, a consistent and fair pricing policy, an inclusive, special customer relationship, and a message of market leadership and growth.
So why do 90% of software companies pick #1?
12 responses to “Discount gambit”
Most companies (software or otherwise) opt for strategy #1 because it is the classic mantra of sales. Giving you a good deal today means I like you today. This is why car salesman slash prices with preposterous statements like "my boss will be mad at me, but you seem like my kind of guy so I’m going to help you out."
Every salesman from Bo Bennet to Zig Ziglar is obsessed with "relationships." An easy way to make someone feel special in the short term is to give them something which they feel most people don’t get. This often backfires in the long run, because if you can’t keep up the special treatment than you will lose eventually lose the deal. Anyone else who finds out they weren’t considered "special" will also back down.
The reality is that your strategy #2 is not actually a discount program, but a clear offer of honesty . Strategy #1 offers a special price to special customers. Strategy #2 offers the same pricing plan to all customers: commit today and lock-in the current price. The difference is that one plan makes your customers into competitors, each of whom is fighting for the best price, while the other makes your customers into partners, who are rewarded for making a committment.
Interesting post as usual… I think this type of selling may have its roots in car salesmen… I read that in the past, car companies held the power because it was such a desirable quantity (any color as long as it’s black?). So they could start high and negotiate their way down, and act all arrogant about it. (Maybe the car industry still feels that way, and maybe that’s why they need a bailout?).
Also in the past there was a lot less information available, so people flat out didn’t know that other people paid different prices. How come sales people haven’t realized that yet?
Interested to see your second post… :)
Good points about car salesmen. The car guys might have a point actually, because although repeat business is nice it’s more important to close the deal today. Making a relationship is not their job and possibly will not maximize their commission checks.
But you might agree that software sales (especially enterprise software sales) are not 1-off situations so these same rules don’t apply, or possibly are destructive.
Robby, you make a good point that strategy #2 is not technical a discount program, so in that sense I’m possibly blurring the idea of a discount. Perhaps a better way to put it is that "you shouldn’t discount" but that there are other ways that are similar to discounting (in that it’s real or perceived price manipulation) that can still have the effect of spurring a customer into action without the negative baggage of discounting.
Jason, your two strategies are really incentives to buy now. Salespeople offers these all the time, whether in the form of an immediate discount, price lock-in, a steak dinner, or some "tru-coat sealant."
If a purchase incentive factors in the future as well as the present, it implies some partnership between buyer and seller. Locking in a cheap price today means you are committed to tomorrow, not just today.
What if everyone is using that #2, and customer clearly sees the price only can go down on these commodity product?
I see my cable company is doing that. The only reason I have to choose them because they are monopoly in town, not because of the "locking price" crap. There’s going to be more competitors; price will go down in the future.
@Tim — You’re right that this argument doesn’t work for all types of product, specifically not for commodities. In the post I tried to talk only about software sales, and enterprise-style sales in particular.
Still, even in the commodities markets it’s not true that price can only go down. The folks locked into high gas bills in the Northeast went for a #2 strategy expecting the price to continue rising, and then it fell!
Jason, just stumbled across your blog and I’m surprised by the quality of this post and the smart bear in general.
Regarding the strategies, I’ve been selling software for 3 years (not much I know :), but I’ve discovered, that different products require different approaches.
If it’s a quick website development with a price-tag around 5-30K the #1 option works wonderful. However, when you are dealing with corporate market and when project budget is set up to 300-500K, you just look ridiculous with #1 discount. Actually, even #2 is not what large clients expect – all they need is to have confidence that you can deliver in timely and professional manner.
#2 works well for existing customers though. Help me out several times ;)
Thanks for the kind words. But having made sales in the dollar range you specify:
I disagree that #2 is not used in large deals. In fact it’s the status quo for many enterprise products that price is locked in for a period of time, but only if an “enterprise” sized deal is struck.
I also disagree that #1 is required. I completely agree that #1 is expected! But every time I’ve pushed back on that we’ve been successful at closing the deal anyway.
Note that typically with large sales the go-ahead has already been given for the project, and you’re just haggling with the Purchasing Department whose job it is to whittle down your price. They will tell you things like “I cannot recommend that we purchase this.” They will tell you they have the power to kill the deal.
But if you think about that a little while, it’s ludicrous that some random purchasing person has the power to kill a $500k pre-approved deal.
I will, however, concede that in extreme cases like the current economy these rules might have to be lessened. Budgets aren’t what they used to be….
A simple question: how do you go about setting your very first baseline price? I have read the business of software ebook, but would love your thoughts.
.-= Richard Wilner’s latest blog post: IE6? More like IE666 =-.
It’s a great question, but anyone who claims to have a simple, general answer is not to be trusted. :-)
Neil’s book is great; definitely read that.
I suggest posting this question on Answers OnStartups and be as specific as you can about the market, product, etc., and you’ll get a lot of different perspectives, including mine.