Pricing framework: costs, competition and customer value

The pricing framework brings together the three classic ways to set a price. The first starts from costs: you work out the unit cost and add a margin. The second starts from competition: you position yourself against what the customer already pays to solve the same problem. The third starts from value: you estimate what the product earns or saves the customer, and therefore what they would be willing to pay.

These three approaches appear in every marketing textbook and none has a single author. Taken one at a time, each gives a different price. Taken together, they give a range: below cost you lose money, above perceived value nobody buys, and in between the alternatives set what the customer will find normal.

In interviews, pricing cases come as "at what price should we launch this new product?" or "should we raise our prices?". The second form is really a profitability case seen through the price lever.

Each branch of the tree answers a different question and produces a number. The floor comes from the company, the reference from the market, the ceiling from the customer. The fourth branch is the one most candidates forget: a price is not just an amount, it is also a form (per unit, subscription, usage-based) and a structure (one offer or several tiers).

Here is the prompt. Kafeo is launching a subscription for small offices: a bean-to-cup machine, the coffee and maintenance, for a single monthly price. The typical customer is a 10-person office drinking 400 coffees a month. What should the subscription cost?

The objective first. You ask what Kafeo is after. Answer: win customers fast while being profitable on each 24-month contract.

The floor. The prompt gives the monthly costs per office: €25 for depreciation of the machine, €35 for coffee, €10 for maintenance. The cost to serve is €70 a month.

The reference. What does this office do today? Two situations, according to the interviewer. Either it buys capsules at €0.40 each, so €160 a month for 400 coffees. Or it rents a bean-to-cup machine from a competitor for €120 a month.

The ceiling. Kafeo's offer is worth at least as much as capsules, for coffee considered better and no orders to place. An office on capsules would therefore accept paying up to about €160. An office already equipped by the competitor will not switch to pay more than €120.

The choice. Kafeo wants volume, so it must also win over the competitor's customers: the price has to go below €120. At €110, the margin is €40 a month. The interviewer adds that acquiring a customer costs €480: that cost is paid back in 12 months, and the 24-month contract leaves a €480 gain.

Recommendation. €110 a month with a 24-month commitment, because this price stays below the competitor, saves an office on capsules €50 a month and makes each contract pay back within a year. The point to watch is cancellation before 12 months, which turns a customer into a loss.

The framework breaks when you stop at the range. Saying "the price is somewhere between €70 and €160" is not a recommendation. The choice within the range depends on what the client wants, volume or margin, and on how competitors are expected to react, two subjects the three reference points do not cover.

It also breaks on value. The ceiling assumes you know what the customer is willing to pay, and that is precisely the unknown. In an interview you approach it through the most expensive alternative the customer already pays for, or through the gain the product brings, stating clearly that it is an estimate to be tested.

Third limit: it reasons about an average customer. An office on capsules and an office already equipped do not have the same ceiling. As soon as segments differ, a single price leaves money on the table with some and loses others, and the right answer becomes a range of offers.

Finally, the framework ignores the relationship between price and volume. Cutting the price by 10% is only a good idea if volume grows enough to make up for it, which you work out with the margin per unit, not with the three reference points.

Start with the objective, because it decides everything else. A client who wants to establish itself quickly in a market does not set the same price as a client who wants to cash in on an innovation before it is copied.

Then give each reference point a role instead of listing them. "Costs tell me what I should not go below. What offices pay today tells me what they will find normal. Value tells me how high I can go." In three sentences, the interviewer understands what each calculation is for.

Next, think about segments. Ask who the customers are and whether they all have the same alternative. That is often where the case gets interesting, and where a single price shows its limits.

Finish with a number and its justification, then check it: does the price cover the cost of acquiring the customer, and what happens if the competitor matches it? The FrameLab course files these three reference points under business mental models, a building block you bring in when the case calls for it, alongside a unit economics calculation. To get faster at this kind of arithmetic, the mental maths tool is free to use.

A manufacturer sells a product for €100, with a variable cost of €60 per unit. Its sales director suggests cutting the price by 10% to sell more. By how much does volume need to rise for total margin not to fall? Do the calculation before opening the answer.