“New products fail for many reasons. But the root of all innovation evil…is the failure to put the customer’s willingness to pay for a new product at the very core of a product design.”
Madhavan Ramanujam and Georg Tacke in Monetizing Innovation
As someone with a UX background, I can confidently say that design thinking is getting too much of the spotlight these days. We often think that if we work with our customers and design and build something beautiful, the money will come. In reality, the business plan is the fundamental building block for any new product, and that starts with pricing.
This is exactly what Madhavan Ramanujam and Georg Tacke argue in their book, Monetizing Innovation. They explain all successful businesses have started with a market and pricing strategy, and then this falls into the design of the product. Asking customers how much they will pay for a potential product is the only sure way of knowing if a product will have any value. The consequences of not doing so are:
- Feature Shock: too many features in one product
- Minivation: an innovation that is incredibly successful for the market, but priced too low
- Hidden Gem: a potential blockbuster product that is never properly brought to market
- Undead: an innovation that customers don’t want but has nevertheless been brought to market
Each of these are surefire ways to see diminished (or negative) returns on your value. For me, the biggest concern is by far an ‘Undead’. Never do I want to bring a product to market only to have no one use it.
In the book, Madhavan and team go on to explain the basic process for proceeding with this phase of idea validation:
- Conduct a WTP (Willingness to Pay) research study to determine price points and features ordered by desirability
- Use the previous information to determine customer segmentation. Identify your targets and size the market opportunity
- Build product configurations (and bundling if applicable) based on customer segmentations.
- Develop a pricing strategy
There are a few additional steps as well but for the purpose of today, we won’t dive into these. Instead I will focus on these four steps in a small example to solidify the understanding.
I’ve been working on a new product idea with my girlfriend and a few other friends; the idea is called Challenge Me. It’s a mobile app that dynamically connects you with your friends and presents you all with random challenges to accomplish in random locations, generally located outdoors in public parks. All along the way it asks you to record video of yourself conducting the challenges and will stitch together the videos of you and your friends in a memory.
One of the questions I’ve been trying to answer is how do we validate this opportunity? We had gone on to design it and show it to some of our friends—various feedback has come up, but there was no big, ‘aha’ moment. I want to know exactly what the market is for this opportunity.
According to Monetizing Innovation, this really starts with a survey to determine WTP and customer segmentation.
For example, as of right now, I’m 95% confident customers would be willing to pay between $1 – $30 a month for this product (a wide confidence range until I conduct the survey!). I imagine we’ll have two distinct customer segmentations: one that is primarily interested in the random challenge part of the app, and one that is primarily interested in the video and sharing aspect of the app.
Different customer segmentations may value the product differently. For example, the random challenge group may only be willing to pay $1-$10, but the video sharing group may have a higher threshold, $10-30$.
I imagine our target customer is college age kids and early in careers that are primarily interested in outdoor activities. In the triangle region there are around 60,000 students per year, plus an additional 15000 early in careers entering the market of which let’s says 40% (I will assume a 95% confidence interval of 20%-60% and take the average) are interested in outdoor ‘challenge-like’ opportunities.
I’ve established a fairly high number here because North Carolina is a fairly outdoor activity focused state. That puts are market size to 30,000 prospective buyers. Assuming an 80/20 split on challenge to video sharing segmentation, and also assuming a normal distribution of prices ($5 for the 80%, $20 for the 20%), that puts our monthly market to $240,000. Or a yearly market opportunity of $2.8M.
If we scale the business outside of the Triangle region of North Carolina to Austin, Denver, and Portland, we look to potentially more than quadruple our market opportunity for a cool $11.2M market size.
Of course that fancy math was a lot of assumption—but performing the calculations with some simple confidence intervals helps understand what data points we need to work on narrowing down with real data. From here, we validate our prior beliefs with quantitative data.
You might have one doubt that surfaced: is there a better way to monetize other than monthly subscription?
In Monetizing Innovation, he delves into a few different models such as Auction, Performance Pricing, and Usage. The main alternative option in this case, of course, is to go with a Freemium model, though I would only do this if we could encourage a sizeable portion of the market to upgrade to the premium version.
Instead, what seems like the best business strategy is to start with a ‘Skimming Strategy’. This is what Tesla did when they released a high-priced premium car and later built a cheaper version for the market. This enables you to make money early, while building your loyal customer fanbase, and naturally leads to word of mouth advertising.
For Challenge Me, this means targeting the loyal fans who love the idea of doing random challenges with friends and recording video, and then slowly release a version with less features for the less enthused later.
Either way, as this example has hopefully shown, there is a lot of thought that should occur well before you begin designing your business idea. Instead the main focus of work should revolve around the size of the opportunity and the monetization plan. Once your forecasts are made, only then can you intelligently budget for an opportunity, design with excellence, and bring to market.
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