Category Archives: Pricing

Book Review: Free – The Future of a Radical New Price

Free: The Future of a Radical New Price is the most recent book from Chris Anderson, the author of The Long Tail. It explores a relatively modern phenomenon: free products, services, and content. As he describes it:

I’m typing these words on a $250 “netbook” computer, which is the fastest-growing new category of laptop. The operating system happens to be a version of free Linux, although it doesn’t matter since I don’t run any programs but the free Firefox Web Browser. I’m not using Microsoft Word, but rather free Google Docs, which has the advantage of making my drafts available to me wherever I am, and I don’t have to worry about backing them up since Google takes care of that for me. Everything else I do on this computer is free, from my email to my Twitter feeds. Even the wireless access is free, thanks to the coffee shop I’m sitting in.

And yet Google is one of the most profitable companies in America, the “Linux ecosystem” is a $30 billion industry, and the coffee shop seems to be selling $3 lattes as fast as they can make them.

Therein lies the paradox of Free: People are making lots of money charging nothing. Not nothing for everything, but nothing for enough that we have essentially created an economy as big as a good-sized country around the price of $0.00. How did this happen and where is it going?

That’s the exploration he makes in Free. How do you make money without charging? And what are the consequences for us as consumers, us as business owners, and us as citizens?

Why you shouldn’t read Free

Starting back with my very first book review (Rich Dad, Poor Dad), I always start my reviews with the negative aspects of the book. And, like Rich Dad, Poor Dad, Free has had its share of angry detractors. I summarize here from Malcom Gladwell’s review of the book.

    1) Information doesn’t want anything
    Many a young hothead has justified piracy, wikileaks, and violations of non-disclosure agreements with the rather vacuous “Information wants to be free.” Their opponents point out that information doesn’t want anything. But Free puts the quote in context. As originally stated by Stewart Brand:

    On the one hand information wants to be expensive, because it’s so valuable. The right information in the right place just changes your life. On the other hand, information wants to be free, because the cost of getting it out is getting lower and lower all the time. So you have these two fighting against each other

    Free is a book about those two dynamics: should information be priced according to the cost of reproducing it, or according to its value? Which one is better for your business? If free is better for you, how can you leverage it? If charging is better for you, what are your options?

    2) Free is just another price
    Technically speaking, yes. Free is a price of $0.00. But people respond differently to $0.00 than they do to $0.01.

    Free has a discussion of the reasons for this phenomenon, and situations that illustrate it, but suffice to say that we don’t analyze our options as carefully when there’s no money involved. Which means you can spread your message farther and faster with Free than you can with Very Low Cost. And that makes it worth analyzing.

    3) Free often doesn’t work
    YouTube is losing money for Google (as Gladwell points out, at a rate that would qualify it for a bailout, were it a bank). Lots of artists and authors are giving stuff away and not becoming famous. Therefore free doesn’t work.

    I don’t expect that there’s anyone out there surprised that giving stuff away doesn’t always make you money. And no one ever claimed that giving stuff away would work every time, for every person.

    On the other hand, I expect there are some people who are surprised that anyone has made any money giving stuff away. It’s an interesting phenomenon, and it’s worth learning more about when and how and why it works.

Anderson is a bit of an academic. He’s certainly a geek. And his writing tends towards the analytical and theoretical. He’s looking for first causes and underlying reasons, and that may not be your cup of tea. So you may prefer to absorb this information through the (free) audiobook, or through Wikipedia, or through the videos I hope to someday make.

That being said, you need to absorb this information somehow, if you intend to make money in the upcoming decades. As it says in rule 7 of Abundance Thinking:

Whether through cross-subsidies or software, somebody in your business is going to find a way to give away what you charge for. It may not be exactly the same thing, but the price discount of 100 percent may matter more. Your choice: Match that price and sell something else, or ensure that the differences in quality overcome the differences in price.

Note that you don’t have to give away your value (although you can), just that you have to be prepared to handle competitors who give away theirs. And to do that, you’ll want to know all of your options.

Why you should read Free

So let’s move on to why you should read Free, since — as I’m sure you’ve guessed — I believe you should.

Free Works
Not always. The book is full of examples of “failed” free.

But that’s rather the point. If it were as simple as

    give stuff away -> Profit!

then you wouldn’t need any help figuring out how to make use of this “radical new price”. It’s because there are failures that it’s worth discussing the method.

There are also examples of successful free — Google loses $700 million on YouTube, but still makes $23.6 BILLION overall. Xiang Xiang wouldn’t charge for her songs even if she could. Skype has become a word in the Oxford English Dictionary.

If someone can make free work, wouldn’t you like there to at least be a possibility that it’s you?

Free is more complex than you’d think
Leaving aside that the English word “free” covers two distinct concepts (freedom, liberty, aka “free like speech” vs no charge, gratis, aka “free like beer”), Anderson still identifies four different methods of generating “free” value.

    1) Direct Cross-Subsidies
    This is the kind of “free” that we’re most familiar with: the one where they offer you a free lunch if you buy a drink, or a free kids’ admission if you buy an adult’s ticket, or a free laptop if you sign up for 2 years of Verizon’s data package.

    Sometimes this is a fancy version of bait-and-switch (that laptop ended up costing you more than $1400, for which you could have gotten a really nice laptop). Sometimes it’s really a good deal for both the business and the consumer (like when the museum still makes money on the adult admission, but you still get a nice outing with all the kids at an affordable price). But when Heinlein fans say “TANSTAAFL” (There Ain’t No Such Thing As A Free Lunch”) this is the kind of hidden cost they’re usually thinking of.

    2) Three-Party Market
    We’re all familiar with this one too: it’s the “free” of television and radio. The stations produce content and broadcast it for free. Advertisers pay them for the right to interrupt the content and market to us. We pay advertisers by buying their products.

    TANSTAAFLists are still happy, since we’re paying more for our consumer goods than we would in a world without TV advertising.

    3) Freemium
    A contraction of “free” and “premium”, freemium products are anything that are free to basic users and have a premium paid version. Skype is freemium: Skype-to-Skype calls are free, and you pay for Skype-to-Phone. Almost all smartphone apps are freemium: there’s a basic free version, and a version that costs $1.99 with more features (or takes away the annoying ads). Most video games will let you play a couple of levels for free, and charge you for the whole game.

    4) Non-monetary Markets
    Wikipedia, a lot of the blogosphere, and MIT’s OpenCourseWare are all examples of this: the value is free because its creator values something (reputation as being an expert, self-expression, or the opportunity to show off) more than they value money. In many cases the artists could charge for what they’re producing, but they’ve made a conscious choice to take their payoff in wider distribution, reputation, or whatever.

Free is changing
Anderson notes that as he was researching and writing the books, he found two very different opinions of “free”. As a broad generalization, those over 30 were generally TANSTAAFLists — when someone starts talking about “free”, it’s time to make sure your wallet is protected. These are the people who grew up with the 20th Century Free, which was almost always of the direct-cross-subsidy type, and very often of the bait-and-switch type. Since the “free” samples cost the companies money, the companies had to more than make up that cost in the cross-subsidized products.

Again as a broad generalization, the under-30 crowd was so comfortable with the idea of free economy that they were surprised anyone would write a book on it. These are the people who grew up with the 21st Century Free, which includes some really high quality stuff at the cost of some ads, some reputation, or the understanding that you’ll subsidize it if you’re able. Because these “free” samples really are costing the company nothing (or next-to-nothing), they’re not as determined to make their money back from genuine customers, and so there’s more room for genuine win-win arrangements.

Summary

The fact that we now can distribute information and digital products for free has a profound effect on how we can make money. It means you can try business models for very low risk: $10 or less. It means you can reach millions of people for very little money. It means you can help hundreds of thousands of people, even if only a tiny percentage of them pay you back.

The same factors that Anderson analyzes in this book are the factors that make it possible for you to monetize your hobbies and passions. It’s worth knowing what they are.

Buy Free: The Future of a Radical New Price while simultaneously helping African children get an education. (Learn More).

Resources for Further Reading
Monetize Yourself Media: share your expertise for free
Distillery Tours and Alternate Monetization

Who’s the Best?

There are lots of things in life where you can clearly state what is “best”: in class, whoever scored highest on the test is the best student. In soccer, whoever won the World Cup is the best team. There are enough of them, in fact, that we frequently forget how many things in life cannot be clearly defined to be “best”.

Most pertinently, “best” can almost never be determined in business. When I was in college, “best” to me meant cheapest. When I graduated and got a “real job”, I was able to afford more expense, and “best” included durability and quality and price per unit (Now that my graduate student loans are coming due, “best” may go back to meaning cheapest.) If you’re handling neurotoxins, “best” means “safest”. There are lots of ways to define best, which means there are lots of ways to be the best.

If you can’t be the cheapest, can you be the fastest? If you can’t be the most insightful writer, can you be the funniest? Use what you do best.

Play it Safe — and Experiment

In Learning From Your Competition, I discussed what things you can learn from your competitors, including what price, which promotions, and which combinations of products are most likely to be effective for your business. But if your business just copies what other businesses do, why should any customer go to you? This is especially true on the internet, where “Just like Facebook, only different” has repeatedly proven a recipe for failure.

What your competition does is safe

Nonetheless, copying the competition is a good place to start your entrepreneurial ventures, because you know there’s a market for what they’re selling. If you offer a product that’s basically the same as your competitors’ most popular product, at a price that’s the average of all their prices, using the same promotional methods as they do, you’re pretty much guaranteed to sell some of it.

It’s a low-risk choice, but it’s also a low-reward choice: since your offering is essentially identical to everyone else’s, you’re relying on the vagaries of fate to randomly steer some of the customers in your direction.

Once you’re safe, then experiment

With your solid base of safe, low-risk products, you have a relatively stable platform from which to explore. Now start experimenting.

Experiment with new products, or product combinations. Would your customers like these new items? Would they like the deluxe edition? Instead of buying products individually, would they like a subscription?

Experiment with prices (the people who select the MSRP are just guessing, too). If you put this on sale for 10%, does it increase the number of sales by more than 10%? If you increase prices on this one by 5%, how many people still buy it? What does it go for on eBay? Does it make sense to have different prices at different times of the day? Different times of the year? In different locations?

Experiment with delivery. Does it make sense to open another location? To offer home delivery? To create e-products that can be sold everywhere? Will customers pay extra for quicker delivery or more efficient locations?

Experiment with promotions. Is advertising the best method? What about networking meetings, or a booth at local events, or seminars at your local library? Are your customers on Facebook? Would they like to receive information via text message or email?

Keep what works, get rid of the rest

Eventually you’ll have a fantastic marketing mix — product, price, distribution, and promotion — that is great for your customers, and gives them a reason to bring their money to you.

Resources for Further Reading
Seth Godin on Competition
Risk Analysis

Learning From Your Competitors

In my last article, I talked about why judging your success by what your competitors have done is stupid. But does that mean that you shouldn’t pay attention to what your competitors are doing?

Not at all — that’s a good way to go out of business. It only means that you shouldn’t decide how well you did based on what your competitors did — your measurements of success should be internal, based on things you care about achieving. Competitor analysis is a terrible way to judge success… but a great way to help you decide what to do.

What you can learn from studying your competition

  • What your customers like
  • What your customers don’t like
  • How much (approximately) your customers are willing to pay
  • New products/services you can offer to your customers
  • What combination of products/services your customers are most likely interested in
  • What promotional methods are most likely to be effective
  • Industry trends
  • Industry standards

Look at what your competitors are doing, so that you can decide what you need to do in response– whether that’s copy it, offer an opposing product, or ignore it — just don’t use them as a standard of success.

Resources for Further Reading
The Problem With Competitive Metrics

Are You Using Kamikaze Pricing?

Reed K. Holden and Thomas T. Nagle coined the term Kamikaze pricing to refer to companies’ engaging in dive-bombing price wars that lead to a race to the bottom where nobody wins.

So much advertising focuses on price that we forget that customers buy for other reasons, too. After all, how many people do you know who buy exclusively from Wal-Mart? Or who eat exclusively off fast-food dollar menus? Is price a factor? Certainly. But most people actually prefer high-quality-at-a-fair-price to low-quality-at-the-lowest-price. (Holden, 1998)

Can you compete at the bottom?

Who has the lowest prices in your industry? If you sell clothing or basic products, the answer is probably Wal-Mart; if you sell services, the answer might be a virtual assistant in India, and so on.

How much do they charge?

If you charged that much, could you make a profit?

I mean, really make a profit? Not only make more than you spent on the product, but pay your office rent, buy pins and paperclips, cover the advertising costs, and still have enough left over to pay yourself a living wage?

If the answer is yes, then you have to decide if you want to compete on the basis of price. Read on, then make your decision.
If the answer is no, then you’re not competing on the basis of price.

    I want you to sit down and write that 100 times: I am not competing on the basis of price. Or put it on a sticky note by your sewing machine or drill press or laptop. Or whatever else it takes to get that idea into your head. I am not competing on the basis of price.

Competitive Survey

Since you’re not competing on the basis of price, you want to take price out of the equation. This is called a neutral pricing strategy, if you ever need to impress someone.

How do you do that? You charge (essentially) the same as your competition. Not your lowest-price competition, but the people who actually sell the same stuff you do. How much do most artists charge for a one-of-a-kind shirt? How much do most business consultants charge for an hour of assistance? How much do most ebooks charge for a high-quality document that can really help you solve a problem?

Find a couple of genuine, equal-value competitors. Take the average of their prices. Round that to the nearest dollar. Charge that.

Compete on the basis of something else

Now, when prospective customers look at your prices, they’ll think to themselves, “OK, so basically the same as everyone else.” And having established that the prices are basically the same no matter where they go, they’ll forget about prices and start looking at what they can get for their fixed-amount-of-money.

This is where you have a chance to shine. What can you do better than your competitors?

  • Make a product that’s more durable?
  • Make a product that’s more flexible, more useful in more situations?
  • Make a product that fits better with their values (environmentally-friendly, free-trade, etc)?
  • Be more responsive to customer requests?
  • Stick with it until you’ve given the customer exactly what they want?
  • Randomly upgrade some of your customers to overnight shipping?

Not only will you make more money, but you’ll have a lot more fun.

  1. I am not competing on the basis of price
  2. I am not competing on the basis of price
  3. I am not competing on the basis of price
  4. I am not competing on the basis of price
  5. I am not competing on the basis of price

Resources for Further Reading
You Need a Business Plan — Maybe
Marketing for Entrepreneurs: Should You Sell on Price?

Bibliography
Holden, R., Thomas (1998), “Kamikaze Pricing”. Marketing Management, Summer pp. 33-39