Does Goldilocks Pricing Work for SaaS?

A Pricing Strategy for SaaS built for the sole purpose of nudging customers away from a decoy price to the middle version can work.

I was asked for my thoughts on this question someone posted on Quora: “Based on your real-world experiences, does Hal Varian’s ‘Goldilocks pricing’ result in most buyers choosing the middle option?” Essentially, this is the notion of having a low, medium, and high price to – theoretically – force people to the medium pricing tier / bundle. I decided to explore this from a value-based pricing perspective. Following is my response…

This is a great question / topic. I’m not sure anyone has data to support or dispute this at scale. Anecdotal and first hand experiences, though certainly not in aggregate, will be the best you can expect most likely and I will do my part to spread the word to get some of that input. My experience is also only in Software-as-a-Service (SaaS) and Web / Cloud Apps. While most of what I deal with could be extrapolated to include other industries, markets, etc. I just wanted to put that out there. If you’re selling brake pads, what I have to say might not work.

That all said I wanted to weigh in here with some guidance around “Goldilocks” pricing. My interpretation of Varian’s paper is that the differences between pricing tiers should be value-based, not just tiered without giving thought to the value perception at each level. This is certainly how we recommend our clients create their pricing strategy – if they go with tiers. “If” is key to that last statement.

The fact is most new SaaS and Web App companies assume they must have tiered pricing. For the most part this is due to following companies that are already in the market. They will assume since ABC SaaS app has 5 pricing levels that they should, too. What they fail to consider is that ABC has been in the market for 7 years and has the intelligence – market, behavioral, etc. – to be able to identify the proper value differentiators for each tier. Or maybe they don’t and even 7 years on they are still guessing. That is the problem with looking at other’s pricing pages – especially those not in direct competition with you – there is a serious lack of context!

So the key is that you should not do tiered pricing or bundles for the sake of having a “pricing grid” on your pricing page. For early-stage SaaS or web app companies it adds complexity, even if you leverage a light-weight subscription management solution like Recurly or Chargify. The reality is there is extra management overhead, expense, etc. and if you are brand new, right out of the gate you might not have the intel to know how to segment based on value yet. You could even turn away prospects or upset clients by using the wrong value differentiators in your pricing “bundles.”

We recommend that SaaS and Web App vendors work through a process to figure out what the value-based differentiators should be for their bundles. We put them through a value perception matrix to ensure their value proposition intercepts appropriately with what they know the market will want, but no matter how you do it, it should be done. This means, if you are considering “differentiating” bundles based on storage, for example, do your best to ensure that “storage” is a metric that is valuable enough to your customers that they want to move up to – or start out with – the next tier up. Otherwise you could cause them to feel like they are paying for something they aren’t using or alter behavior to keep from upgrading – while looking for an alternative product or service that understands them.

The other thing is, even with tiered pricing, regardless of whether you do the “Goldilocks” thing or simply have multiple tiers, it is generally unwise to attempt to have pricing that is all things to everybody if you cover a wide range of target markets or segments. Instead, you’ll need to employ market segmentation and then leverage tiered pricing within each segment. This is why you will see some SaaS apps with 7 or 9 pricing levels… everyone from tiny 1-person companies to Fortune 100 companies are represented on that one page. This is not advised.

This should make sense – what is valuable to one market segment will not be (or will not be the same as) for another and will require messaging around the pricing to convey the value to the segment. Healthcare users of your horizontal solution will speak a different language than Aerospace, just as small businesses will consume your messaging differently than Fortune 100 companies. The product might be the same (the great thing about SaaS and web apps), but how you convey the message – including pricing – is key.

But the point of “extremeness aversion” put forth by Varian is something legitimate to consider. But I would again look to that strategy in a value-oriented way. Why create a pricing tier that is your “hail mary” price (as I’ve seen some write about a high-priced version you “hope” someone chooses) if there is no real value? Do you create a high reference price so the “recommended” one looks like a bargain? Yes, but if the “high price” is not accompanied by some perception of value and appears to simply be a high price, it could throw off the entire value perception of your offering.

That is the danger of just pulling prices out of thin air (or somewhere else) and failing to work through a proper strategy. So yes, “Goldilocks” can and does work, but only when in the confines of true value-based pricing. Varian often refers to the “premium” product (tier) – premium doesn’t just mean more expensive, but more valuable. How it works, how often customers are “nudged” the middle tier, is hard to say in any conclusive way. In fact, you’ll note that most SaaS or Web Apps that have a “recommended” tier offer no reason for that, and it is quite often in the middle of 4 or more tiers, completely throwing off the “Goldilocks” nature of the experiment.

While the goal is always to get pricing as right as possible out of the gate, early stage companies are at a disadvantage due to lack of time in market. Understanding the true nature of value-based pricing, and that pricing IS marketing, can greatly improve the results of any pricing strategy. So, is “Goldilocks” a good base for your pricing strategy? It can be, but there is a lot more to it. I recommend going back to Varian’s paper (download the PDF here) and reading with with a focus on”value-based” pricing. Where he says “quality” substitute “value” and “What’s in it for them?”

If you’ve been in-market at least 6 months and are curious how we could Accelerate your Profitable Growth – perhaps by optimizing your Pricing Strategy – contact me and we’ll setup a time to discuss your options for improving and accelerating customer acquisition.

– Lincoln
(972) 200-9317