In my previous posts, I explored the primary reason for startup failure: a flawed commercial model. To help you avoid these early pitfalls, I’ll discuss three core elements of capturing customer value:
- How to create value?
- How to capture value?
- How to realize value?
Today, we’ll focus on the second and perhaps most crucial step: How can you capture the value your idea or solution creates?
To answer this, let’s break it down into several sub-questions:
- How can the benefit of the solution be measured? The best way to capture value is to secure a portion of the benefit that customers receive from your solution. However, measuring this benefit can be challenging. In some cases, like direct payments, the dollar value is clear. In others, benefits may manifest as saved time, reduced risk, or increased convenience. Here, selecting the right revenue model and price metric becomes critical.
- Which revenue model is suitable? Before diving into price metrics, consider who benefits from your solution: the user, their employer, their customers, or others? Consumer platforms often offer free services to generate large user bases, monetizing through advertising. When choosing a revenue model, you might consider free (ad-financed), freemium, or paid-only models. Many startups believe in the freemium model to generate a “ground-swell” of customers to then later up-sell them into paid offers. While in theory that is a great approach, in practice it often fails to deliver on the second (the money making) step. Common reason for this dilemma is that the initial free product too often already includes some of the core value drivers of the overall solution – and any paid offer afterwards struggles to provide sufficient value-add to justify the jump from free to paid. Data shows that even successful tech firms achieve only single-digit conversion rates from free to paid, with top performers maxing out around 20%. Thus, finding a balance between volume and revenue growth is essential.
- Which price metric best captures your value? Traditional pricing models are evolving. In the olden days products were charged by unit, logistics services by weight or size, communication by minute and software by seat. Nowadays – and in the pursuit of better monetisation – there is a lot more creativity at play. You can sign up to a sock-subscription, pay extra for faster delivery, have unlimited calls and data usage, share a percentage of the revenue you generated with your Shopify account and so forth. While this diversity allows for better value capture, it also adds complexity. As noted earlier, measurability is key in selecting the right metric, along with billing capabilities. A very hot topic is how to capture the value of AI – which I will write about in a separate post. Overall the use of AI and bots will endanger traditional SaaS per user models. In a recent project our client had two customers with similar usage of their software where one had 150 users, the other 5. A clear sign how much user-based revenue is under threat.
- What is an acceptable price level? After 25 years in growth and pricing, I’m still amazed at how many companies set prices based primarily on costs and competition, often neglecting actual customer value perception and willingness-to-pay. For established sectors, historical data aids price sensitivity assessments, but new products require nuanced research with potential customers. Simply asking if they like the product or how much they’d pay isn’t enough and more sophisticated research is required. An alternative approach involves assessing a "fair benefit share." For example, if a solution saves a customer 10 hours a week valued at $100 per hour, the total benefit is $1,000. A fair price might be around 30-40% of that benefit; pricing above 50% may deter customers.
Conclusion: Capturing value requires a deep understanding of who benefits from your offer and how to measure that benefit. It involves strategic decisions about the revenue model (free with ad revenue, freemium, or paid-only) and identifying the right price metric. Ultimately, while costs and competition are important considerations, they shouldn’t drive your pricing level setting - which needs to be based on customer value perception.
In my next post, I’ll discuss value realization—how to effectively sell your product or service, ensuring a seamless purchase and usage experience.
