Like a lot of other people, I read Derek Siver’s blog and Twitter feed (@sivers). I find him to be a highly interesting guy and the best living example of following one’s passions. As you can tell from the notes below, this is the LessConf presentation that I got the most from. Here are some notes of his talk.
The Jewelry Shop Owner and the Performer
Derek kicked off his presentation on profit models with a couple stories. Derek has a friend who owns a jewelry shop in a tourist area. The shop had good traffic, but not great sales. Awareness and marketing were evidently not issues, because of the relatively healthy traffic flow into the store. Yet, the store was faltering. The owner decided to take some time away to think about next steps for the shop. When the day before her vacation came, she was packing up and wrapping up loose ends, one of which was to leave directions for her staff to price a box of items at half-price. She quickly scribbled on the box: “everything here price 1/2”. Upon returning from her trip she was surprised to find that sales had doubled! Her employees thought she her strategy to “double the price” was brilliant. “What do you mean, doubled the price?”, she wondered, having left instruction to do just the opposite and halve the price. “Right here, you wrote ‘everything here price X 2′”. Upon a misreading of the hastily scribbled direction, her employee had doubled the price of the items to be tagged and shelved.
Why did doubling the price double the number of items sold? This is contradictory to traditional demand-curve models. It turns out that tourists used price as an indicator of quality. Picking up a $12 piece of jewelry to bring home to a friend or family member they might think, “this is nice, but can’t be that good if it’s only $12”. Yet, when holding a $24 piece of jewelry, customers typically thought of it as higher quality and were thus more likely to purchase.
Similarly, Derek told of a performing friend who doubled his performance price from $1,500 to $3,000. The result: he lost some recurring customers but more than made up for it with some new customers at the higher rate. Though he was performing fewer gigs, he was making the same income. He loved it! Before the price increase, he soft of performed for the the sake of keeping income coming in. After the increase, when getting paid $3,000 per performance, he found himself more excited and more into his work! Eventually his calendar became full at his $3,000/performance rate and he was still excited about his performances. [Ed: Of all the anecdotes of the day, this had the most impact to me as a Ruby on Rails consultant who often gets paid by the hour. It got me thinking of ways to double my rate in 2010. Also, the Multiplier Profit Model (notes below) got me thinking of ways to package up my knowledge and experience in different ways. All-and-all this was a thought-provoking and potentially profitable presentation.]
Derek shared his frustration with people that go after the number of users as a metric of success, or love to brag about how their solutions are FREE! There is no business model there, only a feel-good metric that will not make money. Only a step up on the business-model ladder are those businesses that blindly follow the profit model of their competitors or peers. Derek’s talk was meant to get us to think of a larger variety of profit models.
It’s important to consider and implement a variety of profit models for competitive advantage and for diversification. If you have all of your profit tied to one model, then when the industry inevitably changes, your entire revenue stream could be destroyed. By diversifying among two or more profit models, you are better protected from industry changes.
Derek next went into an overview of a wide variety of profit models. Here are notes on three of them. [Ed: These notes lose a lot of impact without Derek’s drawings. Maybe he will post them.]
Customer Solution Profit
This is where you spend a lot of time, effort, and money up front to customize a solution for your customer in order to have long-term, sustainable, stable revenue in the future. Initially, you lose money as you spend unpaid time getting to know the customer and building and implementing a custom solution for them. In the long-run though, that up-front effort helps you win customers, keep customers happy all while keeping your support costs low for those customers because your solution is so well implemented.
Derek used the example of Hostbaby. As soon as someone signed up, they would call them and hand-hold their new customer through getting started. It was a lot of up-front work, but once the Hostbaby customer was set up and happy, they had little ongoing support work. Using customer solution profit model helped Hostbaby net ~$2 million / year with no inventory requirement, no warehouse, little physical space requirement, and a small staff.
Takeaway: Consider how can you get to know each of your customers well up front and create a customized experience for them?
This is where you have several levels of products, starting at one that is barely profitable but prevents competitor entry all the way up to a price level that is very high-margin, but low volume. Examples: Apple’s $59 iPod. American Express’ Green, Blue, Gold, and Platinum cards. Hotel chains.
Takeway:Consider what can you offer to people that think you are too expensive? On the other end of the spectrum, what upscale, huge profit margin offering can you put out there?
After Sales Profit
We’ve all probably had this experience. You do heavy research on selection and pricing of a big ticket item like a laptop, appliance, or car. Yet on the way out the door after purchase, we’ll buy add-ons without any research or price-comparison at all. For example, we’ll buy a laptop and then choose from a limited selection of laptop bags at non-competitive prices. At the time of checkout of the big-ticket item, we are at a low price-sensitive moment for small-ticket items. What’s a $200 floor-mat add-on to a $30,000 truck? What’s a $70 computer bag when you’re already spending two grand on the computer? Price sensitivity is lowest when your purchase price is high and selection is low.
Takeaway: What tiny but profitable thing can you ad onto someone else’s big ticket purchase?
This is when you have one skill set or product re-packaged in multiple ways. The up-front development cost of the skill or product is fixed, yet you profit from that skill or product by offering it in different forms. This gives you a broader reach, more diversified customer base, and increased profit.
Takeaway: In what ways can you re-package and re-sell you primary work product?
[Ed: As I eluded to earlier, in my field of software development consulting, this is one of the most intriguing profit models to consider. For consultants, this is probably one of the most under-utilized yet promising profit models. When we learn something new in our work, or become an expert at a technical skill, we should package that knowledge up in ways to share beyond hourly consulting.]
– Consider doubling your price. At the least, experiment with your pricing.
– Don’t blindly follow the profit model of your competitors. Differentiate and diversify instead!
– Consider each of the profit models Derek presented, asking yourself the takeaway questions.
– For more profit models, check out The Art of Profitability by Adrian Slywotzky and Derek’s detailed notes on that book.
Thank you, Derek, for attending LessConf and for your talk.