I recently read Monetizing Innovation by Madhavan Ramanujam and Georg Tacke. Overall, I can recommend this book, but with one major caveat.
In the book, the authors recommend that for any new product idea, we need to consider the monetization potential from the very beginning. This I agree with. However, they suggest that we can simply ask our customers about their willingness to pay. This I 100% disagree with.
Assessing a customer’s willingness to pay is a critical discovery activity that directly ties to our viability assumptions. But long-time Product Talk readers already know that asking customers about what they might do in the future leads to unreliable feedback.
Assessing a customer’s willingness to pay is a critical discovery activity that directly ties to our viability assumptions. But asking customers what they might do in the future leads to unreliable feedback. – Tweet This
We recently discussed this book in our CDH community and one of the questions that came up was how do we assess a customer’s willingness to pay. Let’s dive in.
Question: How do you test a customer’s willingness to pay for a solution?
I’m going to start with the worst way of going about this, and then make some recommendations for a good, better, and best approach.
What a lot of teams—especially startup founders—do is ask their customers, “Hey, would you pay for this? How much would you pay for this?” We’re going to put that in the worst category.
I will tell you a personal story that illustrates why this is not going to get you reliable feedback. For years, I said, “I would never pay over $100 for a pair of jeans.” I thought that was way too expensive. I bought my jeans for $60. They were fine. They fit well. I never understood the super designer fashion, outrageously expensive jeans. Until one day my sister convinced me to walk into a Lucky Store. I tried a pair on, they fit far better than any pair of jeans I had ever worn in my life, and I walked out with a $120 pair of jeans.
Why did this happen? I had a strong belief that my $60 jeans were good enough right up until I had an experience where they weren’t. What I thought I was willing to do—or not do—just was not real. Anytime we ask anybody, “What would you do?”—whether it’s about pricing, behavior, or anything else—that response is garbage. Throw that answer away. It is completely unreliable.
Anytime we ask anybody, ‘What would you do?’—whether it’s about pricing, behavior, or anything else— that response is garbage. Throw that answer away. It is completely unreliable. – Tweet This
A Good Approach: Ask About the Past
So in the framework of good, better, best, what counts as “good”? We can ask, “What have you done in the past?” If you’re trying to understand what someone would pay for something, ask them if they pay for something like that today. If I’m going to do a new streaming entertainment service, I can ask you, “What subscriptions do you have today? How do you pay for them? How much do you pay for them?” Those questions are going to give me a sense of the ballpark figure of your willingness to pay today.
This approach is good—but not great—because, going back to my jeans story, I would’ve told you I spent $60 on jeans. My answer was not indicative of the fact that I actually had the potential to spend more. But at least you can get a sense of what customers are willing to do right now.
If your product is brand new and you think you have no competitors, expand your understanding of competitors. There may be no other software product that does what you do, but if your product solves a problem that is real, there are people solving that problem today. They may not be solving it with software, but they are solving it somehow. What are they paying to solve that problem today? That’s the good answer.
A Better Approach: Run a Demand Test
We can simulate the buying experience and see if it resonates with people. We can mock up our pricing page including our different packages, what is included with each package, how the pricing will work (e.g. monthly, annual, subscriptions, one-time payments, etc.) and the price for each package. The goal is to show people how pricing will work.
But with this strategy, we still don’t want to fall into the trap of asking them what they will do. So we don’t want to ask, “Which package would you buy?” or “Which package meets your need?”
Instead, we want to observe actual behavior. If we aren’t ready to start selling our product, we can change the call to action on our pricing page from “Buy” to something like “Join the Waitlist.” The goal here is to see if our offer resonates enough that they are willing to give up their email address to be notified when it’s available.
With demand testing, we want to observe actual behavior. If we aren’t ready to start selling our product, we can change the call to action on our pricing page from ‘Buy’ to something like ‘Join the Waitlist’. – Tweet This
This works because if your pricing is way off, people won’t bother joining the waitlist. The challenge, however, is that many people will join the waitlist, but never buy. Which is why we also have the best approach.
The Best Approach: Ask Customers to Pay Right Now
The best way to test if people will buy your product is to ask them to buy your product. And yes, you can do this before you’ve built your product. Before you write this off as impossible, let’s consider a few examples.
The best way to test if people will buy your product is to ask them to buy your product. And yes, you can do this before you’ve built your product. – Tweet This
Most of us have pre-ordered a book before. I’ve sold every single one of my courses before I did all of the course production work. Plenty of products are bought and then made to order (think Dell computers, custom cars, and even Boeing airplanes). Many startups concierge test their ideas before they start building—this means they sell and manually deliver their solutions before they build anything. For example, Uber manually matched drivers with riders before they built the back-end system to route drivers and passengers.
These tactics aren’t just for startups. I’ve worked with many large companies who used their sales teams to demo products that didn’t exist yet. This is a great way to get fast feedback on new ideas.
Now with this strategy, we have to be careful. We can’t overpromise and then under deliver. We can’t say a product exists when it doesn’t. We can’t take money for value we can’t deliver. So we need to get creative on how to make this work.
When I sold my first course, I was planning to teach it using a flipped classroom model where I recorded videos of all of the instructional content and then used class time to apply the lesson to a case study. But I only got 10 sign-ups for that first class. This wasn’t enough demand for me to do all of the video production work. So instead, I increased the class time and live taught the class. The students still got the same benefit, but I reduced my effort until I could verify there was enough demand to warrant the work.
Every day, products launch on Kickstarter. Many fail. This model works because everyone who funds a Kickstarter knows that the product might not succeed. They know if the project isn’t funded they’ll get their money back. But they also know that if it is funded, there is still a chance they won’t ever get the product or their money back. Funders are okay with this and are willing to take that risk.
When a sales team is demoing a product that doesn’t exist, they should be upfront that it’s still in development. They can test demand by asking for letters of intent. When you pre-sell a book, if you don’t deliver it, you’ll need to refund everyone’s money.
The guiding principle here is to do right by your customer. Ideally, you’ll find a way to deliver the promised value without building the whole solution—like I did with my course and Uber did in their early days. Short of that, you’ll need to communicate the risk upfront to customers and if you end up not building your product, you’ll need to be prepared to refund payments—like Kickstarter does.
So when trying to assess your customers’ willingness to pay, remember these three strategies. Don’t ask what people are willing to pay. We are all terrible at predicting our future behavior. Instead, create scenarios where you observe real behavior.
We explore tactics like this in our Identifying Hidden Assumptions and Assumption Testing courses. Come join an upcoming cohort.