Posted on January 9, 2014 by

SaaS Pricing Strategy: The Decoy Effect

In todays post I want to share with you a technique covered in Dan Ariely’s book: Predictably Irrational¬†known as The Decoy Effect. This is the exact same technique that has been used in top end restaurants for years to improve their revenue however in this post we will see how we can use it online instead.

Let’s start with a simple if rather dated example from The Economist that looks at how they structured their pricing:

Economist's pricing options

 

This is the exact same set of options that Ariely gave to 100 students at MIT’s Sloan School of Management where he was teaching as a professor at the time. The students stated their preferences to the three options as shown in the graph below:

student responsesHowever when he tried the exact same experiment but this time removing the “Print Only” option from their list of choices he instead got a very different set of figures:

Limited Pricing Preferences

 

Before we move on, to put that experiment back into real world terms of what that would have meant for The Economist’s figures. The second experiment with only the 2 options would have actually resulted in almost 30% less revenue for them. Now think for a moment of what that might mean to you if you happen to run a SaaS or some other kind of subscription business.

So how and why do decoy options work?

Despite their sincere beliefs to the contrary people very rarely possess the ability to choose things in absolute terms. In Ariely’s words we don’t have an internal value meter that tells us how much things are worth. Rather we focus on the relative advantage of one thing over another and estimate value accordingly. Additionally, for better or worse, most people don’t even know what they want unless they see it in context.

The reality is that we tend to make almost off of these kinds of decisions based on little more than simple comparisons of like for like where we can and avoid trying to make choices between things that cannot be compared easily. Think about what that means to the example used above. The marketers at The Economist realised one key insight: people don’t intuitively know in most cases if they want an online or print subscription to begin with. However, making the comparison between the perceived value of two can be difficult. It is for this exact reason that in order to get people to not just shop on price they needed a 3rd option to bridge the gap.

If you run a SaaS business or you run a subscription based business at all you might want to consider taking a deeper look into applying the decoy effect into your pricing strategy. Besides this is exactly the kind of thing that would make for a perfect A/B test.

P.S If anyone has used the decoy effect in their pricing strategy I would love to hear about how you found it to work in the comments below.

 

If you are interested in bringing world-class online marketing insights and analysis to your business you may want to consider working with me as a part of a new service I have launched called Easy Insights.

I currently only have a small number of positions left so get in touch if you would like to be a part of it now as I am likely raising my prices in the near future. Even if this service isn't for you check out how you can make $500 simply by referring a client to me.