Pricing to recover high development costs

When you have a new product with no easy comparables it is vexing to price. This is the source of many a nervous breakdown.

The typical questions are:

• Do we price at a high level assuming only a limited number of customers?
• Do we price at a low level assuming a rapidly growing customer base?
• Do we charge once off up front or do we have an ongoing/trailing fee?
• Can we offer leasing arrangements and charge the customers a fixed price per month?
• Do we simply write off some of our R&D costs to reduce the amount we need to recover?
• Do we include the costs of developing failed products in the total we are trying to recover or are we strictly limiting the charges to the direct costs of the product?
• What kind of marketing/logistics costs do we need to recover as well?

Not a short list.

Just to be controversial – lets pick Monsanto the global biotech/agritech company as an example.

Monsanto spend billions developing new products. They do research on a very wide range of ideas, hitting blind alleys on many of them I am sure. Then for the promising products they have to run the gauntlet of approvals required for genetically modified organisms. That is, years of greenhouse and field based trials on growing the crop and then proving the safety of the product for consumption by animals and humans.

It is likely that only a small percentage of their promising new products come onto the market.

For example, Monsanto developed a soy bean variety that is resistant to glycophosphate based weed killers (e.g. Roundup). That’s great for farmers as they can plant the crop and then simply spray glycophosphate onto the crop to kill all other plants except their crop. That’s a pretty major advance.

I am sure Monsanto would have loved to have charged a once off upfront fee to farmers. “Yes, it’s $1.50 a seed, but you will save hundreds of thousands over the next 10 years.” I am sure farmers told them to get knotted when they can already buy seeds in bulk pretty cheaply. That plus I am sure farmers were thinking that they could buy seeds from other farmers in the future.

So what could Monsanto do?  They came up with pricing that allowed the farmer to be able to afford the crop. There was an upfront seed cost, but that came with a contract saying they couldn’t onsell seeds, and they had to hand over a royalty of about 2% or so for future crops. 

That way, Monsanto’s IP is protected, it can recover costs over time at an upfront price that farmers could accept and it can protect its market.

All in all, this is pretty innovative thinking that is taking care of their customers and their own business.  The only problem is that this goes against thousands of years of farming tradition in which farmers buy seed, grow crop, keep some seed aside for the next year, and also sell seed to other farmers too. So the current debate is how many generations (seasons) can Monsanto charge for. The backlash against Monsanto is pretty big right now, especially in developing countries.

As the Monsanto example shows you can be pretty innovative in your pricing. Customers often are more worried about the upfront cost coming out of their wallets now rather than the ongoing costs.

For your first few major customers you may even try pricing based on the customer’s ability to pay (if I remember my undergraduate economics courses correctly, this is called a third degree pricing policy).

Many high tech startups selling into the corporate sector have tried exactly this to set their ultimate pricing point.

Have fun, and most of all don’t sell your product too cheap just to guarantee sales.