Wednesday, February 10, 2010

The Dead Zone of Software Pricing

A couple of weeks ago I subscribed to the Lean Startup Circle mailing list and I have been thoroughly enjoying the conversation ever since. If you have any entrepreneurial sensibilities lurking inside you, I highly recommend that you subscribe. The list participants have been in the trenches building companies and are happy to share what they have learned.

Recently, a thread on pricing caught my eye. This doesn't have to be strictly software licensing fees. It could be subscriptions or services too. Jim Murphy wrote that there are four pricing bands: low (< $500), medium ($500-$5,000), dead-zone ($5,000 - $20,000), and high ($20,000+). What is interesting is the "dead-zone." In this band the buying cycle is long and complex but the price of the product doesn't quite compensate for the high cost of sale. I am sure that most successful software vendors understand this either consciously or tacitly and price their products accordingly. From a buyers perspective, I was thinking that a $21,000 software product may have originally been $8,000  but is priced up by $13,000 to get out of the dead zone.

If you look at the CMS market, there are lots of commercial products with sticker prices that hover around $20,000 - $25,000. This range is much smaller than the actual deal size because the list price of $20,000 may be to license a single CPU with little capacity and no fault-tolerance. You will probably also need to add support and training which will typically bring the deal size to the $50,000-$90,000 range. Those figures can certainly justify a sales investment from the vendor. But, because of the complexity, dependencies, and high stakes of web content management, the cost of sale can be very high (remember, you have to factor in the costs of the losses as well as the wins and a flooded marketplace means lots of lost deals). Maybe the dead-zone of WCM is even higher than the average. Maybe it's more like $10,000 - $50,000.

$50,000 is a lot of money to many web initiatives that tend to have expectations of low costs and rapid results. Open source products like Drupal, Joomla! and Wordpress are doing quite well because they enable design studios (with minimal technical skills) to offer a complete website for half that price by taking a pre-existing theme and some modules and tweaking them just enough to make the site look original. Expression Engine, a free but non-open source product, is showing similar success. In these deals the cost of the software sale is essentially zero because the customer is not buying software; they are buying a website. They are considering font/palette/imagery rather than feature/function/value. Plus, because hosting for these platforms is so ubiquitous, the customer doesn't even have to complicate the transaction by involving their I.T. organization.

Commercial CMS vendors that are inflating their price to get above the dead zone are at a real risk here. Unless they can demonstrate value, their outsized prices will really stick out against products in the bottom two tiers. I think their best strategy is to shrink the dead zone by reducing the cost of sales. This means improving their channel sales and giving more access to customers who can take on more of the burden of evaluating the software. They also need to figure out a way to reward low-touch sales with discounts and charge prospective customers more when they demand the formality and overhead of the traditional enterprise sales cycle.