How to decide what to charge for your Innovation

For those of us involved in innovation, one of the hard things to get right is pricing.  How much should I charge, and for what?

When I was facing this problem recently, I tried to consider a number of variables in coming up with an answer.

Determine the Cost

The first thing is cost.  If we’re talking about a digital innovation, the bulk of the cost is likely to be in the labour required to create the product in the first place, and then to maintain and evolve it over time. 

Remember, software projects are never finished.

Most likely there will also be some hosting costs and these will increase as more users sign up and so increase the load on the system.  This is hard to predict.

I also included costs associated with sales and marketing, and with legal and compliance issues, and some allowance for basic operational costs like insurance, office space and desks (although maybe I don’t need that anymore).

Acquisition and Attrition

Secondly, I considered the likely growth of the product.  How many users would sign up, and over what timeframe?  It’s likely that growth will be exponential rather than linear, but also that users will come and go.  I needed to try and model both acquisition and attrition.

I used a formula for Compound Annual Growth Rate which used assumptions about user base after three years. 

Pricing and Financial Model

Next, I had to think about the pricing model.  What would I charge for?  Would it be per user, per site, a floating licence, an upfront charge or a monthly subscription (or a mixture)?

Since my product is intended to be used in a healthcare setting, I’m using a B2B model where an organisation pays for a given number of active users.  I know that in reality procurement people don’t like this kind of model, they prefer price certainty, but for the purposes of my model, it provides a basis of estimate which is sufficient.

Once I had some ideas about these points I could create a financial model.  This allowed me to map out my costs and revenue.  I know the business has to make a profit at some point, but when would this be achieved, and how much money would I need to sustain the business until I reached that point.

I used a spreadsheet template for this, which I’d be happy to share with anyone who contacts me.

Market Factors

Armed with this information, I now know how much I need to charge in order for the business to be profitable in a certain timeframe, assuming I can acquire and retain sufficient users.  However, the final point I had to consider was what users would be willing to pay.  If my price is too high I will not acquire sufficient users.  If my price is too low it can send the wrong signal and, paradoxically, make it harder to make sales. 

Because this is an innovative project it is hard to find a comparison to gauge the market’s current perception of price.  I could consider the business case so that I can show potential clients the cost-saving they could make.  I know that, to make sales my product must save money, or deliver an improvement which justifies the spend.

Procurement isn’t always the hyper-rational process it’s made out to be though.

If you’ve faced this challenge, I’d love to hear your thoughts on how you approached pricing an innovative digital product.

Test and Repeat

The theory and analysis is all well and good, but I wont know if I got the pricing right until I test it out.  I talked with some of the market experts we work with to get their view.  The more opportunity I have to sense check my ideas about pricing, the more chance I will have got it right.  As my product moves into commercial availability this is something I’ll need to keep in review.

Of course I may choose to discount prices for my early adopters, or even provide a free period of use for a pilot, but I will need to keep the target price in mind.  This is what I need to be charging to make my business model work.

If you’ve faced this challenge, I’d love to hear your thoughts on how you approached pricing an innovative digital product.