Boost recurring revenue with these 7 principles of psychological pricing

Published on: January 11, 2022

Psychological pricing refers to the practice of enhancing sales prospects by leveraging customers’ emotional responses to certain price points. Like value-based pricing, psychological pricing is rooted in the buyers’ perception; but it differs by analyzing their reaction to the price itself rather than the product or service. Negative consumer perception can significantly impact your ability to sell, so it’s crucial to make the price appear as reasonable as possible. Marketers employ psychological pricing to influence buyers to see their offering in the best light.

Interested in a specific aspect of psychological pricing? Skip ahead by clicking below.

 

What are the benefits of psychological pricing for recurring billing?

By applying principles of pricing psychology to your marketing, you can increase potential buyers. Some of the ways psychological pricing compels people to spend include:

1. Influence people to pay attention to your offer
2. Simplify the buyer’s journey to allow for easy conversion
3. Create a sense of urgency to encourage customers to act fast
4. Foster the feeling of having made a smart decision
5. Build perceived trust in your products and services

 

Why does psychological pricing work?

Psychological pricing strategies are developed from a deep understanding of what drives people. The principles covered in this article are guided by the findings of psychological studies and underlying theories. One of the most foundational and fundamental theories is Maslow’s hierarchy of needs, which depicts our needs as a hierarchical pyramid structure to explain how we prioritize different aspects of our lives.

You can craft an effective marketing strategy for your recurring billing by knowing which level(s) of the pyramid will be satisfied by your product or service. It may even be possible to address different levels of the pyramid at various price points or tiers. For instance, if you sell data management software, you may want to appeal to the need for safety on every tier, but you may also want to think about appealing to the esteem level at higher price points, emphasizing that upper tiers are premium or prestigious.

Maslow's hierarchy of needs is the basis of psychological pricing for recurring billing

 

How to develop an effective psychological pricing strategy

Make it a priority to align your pricing with your overall positioning, so you can attract the right subscribers. Appeal to utility if you have conservative spenders and appeal to pleasure if you have liberal spenders. If you offer a product that is “hassle-free” and “simplistic”, go for a straightforward tiered pricing model. If the strength of your offer lays in its innovative complexity, a more intricate pricing strategy segmented by features may be required to communicate these benefits. The price is an integral part of the consumer experience and modern customers expect unity across all elements of a great offer.

Above all, you will need to experiment with your pricing strategy. Even with comprehensive market research and a firm understanding of your buyer personas, it will take time to develop the correct technique to truly maximize your recurring revenue.

 

7 principles of pricing psychology to help boost your conversions

Read on to discover seven principles of psychological pricing to help you increase conversions, build a robust subscriber base, and boost recurring revenue.

Click on the psychological pricing principle below to skip ahead. 

1. Reference prices
2. Comparative pricing
3. Partitioned pricing
4. Odd-even pricing
5. Market segmentation
6. Market entry
7. Discounts

 

1. Reference prices

Numbers can be a pretty abstract concept so, in order to determine whether they’re getting a good deal, customers often compare the price of an item they are about to buy with a ‘reference price’. People generate reference prices by averaging their experience with previous prices, advertised prices, their expected prices, and adjacent prices into a single magnitude.

The catch is that reference prices are not absolute; they fluctuate from person to person and are heavily influenced by whatever information is immediately available to the buyer in that moment. A core theory governing this reaction is the Hedwig Von Restorff effect, more commonly known as “anchoring”. The effect states that people remember better that which is highlighted or stands out.

In marketing we can see this effect play out as customers tend to rely on a single piece of information to make a decision, often the first piece of information that they see. A sloppy design can weaponize anchoring against your sales if customers determine their reference point based on the wrong highlighted information. Intentionally crafting your pricing page is essential to the success of your subscription.

 The anchoring effect greatly influences buyers’ reference prices

2. Comparative pricing

According to the Weber-Fechner law, the amount of change needed for sensory detection to occur increases with the initial intensity of stimulus and is proportional to it. In other words, people perceive numbers being closer in value as they observe more numbers.

Marketers apply this law to influence customers’ internal reference price through comparative pricing. By supplying multiple pricing tiers and subscription options, customers may perceive your offer as being less expensive. However, the whole process is a balancing act because too many options causes ‘analysis-paralysis’—overwhelming the customer and resulting in zero purchases.

The Goldilocks effect suggests that three is the optimal number of pricing tiers. Most customers will be swayed towards the middle option due to their natural psychological inclination to avoid extremes. The most expensive option seems like a luxury and the least expensive option seems like a risk, so the middle option seems practical and safe. A well-designed pricing structure will ensure that the bulk of sales volume comes from the middle option.

A variation on comparative pricing and the Goldilocks effect is known as ‘decoy pricing’, which is the practice of adding another pricing point to steer customers towards a specific option. However, the targeted pricing tier does not have to be the middle option.

A classic example of decoy pricing is the Economist’s subscriptions. Although the ‘print’ and ‘print & web’ subscriptions are the same price, ‘print’ is a decoy price to encourage consumers to see the ‘print & web’ option as a great deal. Without the decoy price, most customers chose the ‘Economist.com’ option for $59, but with the decoy price, the majority chose the ‘print & web’ option for $125.

 

The Economist uses decoy pricing in their subscription options

3. Partitioned pricing

Partitioned pricing is when the price is broken down into multiple components that cannot be purchased separately. The customer can see all the costs ‘partitioned’ out, allowing them to decide if they are getting a good deal. If you’ve ever shopped online then you’ve likely run into this pricing strategy.

Once you reach the check out on most websites, you not only can see the cost of the items you want to purchase but also the costs for shipping, handling, tax, and any additional fees. Some subscription services with feature-based billing may apply this concept by outlining the various features associated with each tier on their pricing page.

By giving the customer all this information, companies can demonstrate transparency and facilitate the feeling of making smart decisions. Even if the customer decides against purchasing items the first time around, they are more likely to return to your business because they feel they can rely on honest pricing and a positive experience.

4. Odd-even pricing

Odd-even pricing refers to two related pricing strategies, whether your pricing ends in an odd or an even number. Odd pricing, also called charm pricing, is when you lower the left most number by one and compensate by increasing the right most numbers often to “.99”. Even pricing, also called prestige pricing, is when you price using whole numbers often ending in “.00”. For example, if you price a tier at $30.00 you are using prestige pricing, but if you lower it to $29.99 you are now using charm pricing.

Charm pricing is so common that the term psychological pricing is often used interchangeably to describe the strategy. The lowered left most number tricks your brain into rounding down. Returning to the above example, customers will associate the $29.99 price more with $20 than with $30, even though the difference is marginal. During a 2003 study, researchers discovered that people were more likely to buy products with a price ending in nine, even if that meant it was more expensive.

While charm pricing appeals to frugality, prestige pricing appeals to luxury. If you are selling subscription services or products that are expensive or connected with emotional value, prestige pricing may be a better option because you can emphasize time saved over money spent. So, pricing a low tier at an incredibly low rate such as $2.00 may send a message that it lacks value, whereas pricing a premium tier at $82.00 helps convey its prestige. Knowing which method to take heavily depends on understanding your customers’ needs and desires.

 

Odd-even pricing depends on the kind of subscription service

5. Market segmentation

By dividing your target market into approachable groups, market segmentation allows your business to sell more effectively to your buyer personas. The four main types of market segmentation include:

1. Demographic segmentation (age, sex, income, education level, occupation)
2. Behavioural segmentation (online shopping habits, benefits sought, loyalty)
3. Geographic segmentation (location, region)
4. Psychographic segmentation (personality traits, interests, beliefs, attitudes, lifestyles)

Psychographic data is generally more difficult to collect because it captures mental and emotional characteristics; however, the investment is worth it as psychographics provide insight into your churn rate by examining why your audience is deciding to purchase your product or service. For example, if you find that members of a demographic segment are responding differently to your offer adding in psychographic segmentation can arm you with increased visibility and potential tactics for increasing conversions.

When designing a psychological pricing strategy, market segmentation can help determine how to structure your pricing tiers. Club 16 offers a fitness membership with two bi-weekly tiers: $8.98 for membership and access to one gym or $13.98 for the regular package and access to all their gyms. They’ve segmented the market by offering two prices that are geared towards buyer personas with different demographics, behaviours, geographies, and psychographics.

6. Market entry

Before your offer enters the market, an important question to ask is where will your pricing tiers start in comparison to your competition? High? Low? In-between? Two common strategies used for subscription billing that can help guide this decision are price skimming and penetration pricing.

Price skimming is a strategy where the price of goods or services is set high at the time of launch and gradually lowered as customers become more familiar with your offer. This model first targets early adopters who will spend more to adopt cutting-edge “must-have” products, and then ‘skims’ off each customer segment to capture optimal consumer surplus. Perhaps the most familiar use of this in today’s world would be the launch of new Apple products, which retail at premium rates before dropping in cost over time.

Penetration pricing is a strategy where the price of goods or services is set low at the time of launch and slowly increased via follow-on pricing as demand is generated. This model is excellent for entering saturated markets and appealing to mass markets; however, it’s reliant on large sales volume. A common example of this is used when new streaming channels are launched. Netflix is now used across the world and most consumers are familiar with it and the value offered, for a new streaming service to gain market traction they must use penetration pricing.

Price skimming and penetration pricing strategy graphed by quantity and price

7. Discounts

Discounts can be very effective for driving sales, and you can get even better results by incorporating methods from psychology. To prospective buyers, any business model that relies on recurring payments has the potential to seem like a big commitment. Price reductions and free trials can help to lower that barrier and allow customers to warm up to your offer before having to decide.

If you’re wondering whether to make a discount a percentage or an absolute value, it’s important to remember to always display the larger numeric. The $100 rule provides a quick way to determine which to use; if an offer is over $100 use an absolute amount, but if the offer is under $100 use a percentage. For example, if you are reducing the subscription fee from $150/month to $120/month, you would want to display the discount as $30 instead of 20%. Customers will feel that they’re getting a better deal because 30 is greater than 20.

Timing is also important for getting the most out of your discounts. Try to have discounts towards the end of the month when customers have likely depleted their monthly budgets and are trying to save money. Also, make sure to slowly reintroduce the original price. A steadily decreasing discount causes consumers to expect higher future prices and anticipate regret from inaction, which increases overall likelihood to buy.

Invest in a robust subscription management solution

To launch an effective psychological pricing strategy, you need to ensure that the right tools are in place to take care of the nitty gritty. Subscription Billing Suite is a robust subscription management solution that can facilitate a host of pricing functions like tiered pricing, discounts, price changes mid-contract, and feature-based segmentation. It can also handle billing, invoicing, and recognition challenges and available as an embedded extension in Microsoft Dynamics 365 Finance and Operations, Business Central, and GP.

 

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