Using Exchange Theory to Guide Pricing Decisions

How do you decide whether something is valuable to you? What’s the right price for your product or service? How much is too much? Or too little?

Unless you’re in a commodity market where you can use your competition’s prices as a guide (like domain names, airfare, or car tires), pricing a product is one of the most difficult decisions a company has to make. How much will people pay?

User Research best practices advise against directly asking people “How much would you pay for this?”. Not because people won’t answer you–they will–but but because they’ll usually give you a misleading answer. People often respond with what they think you want to hear instead of what they really think. But that’s another topic. So how can you figure out how to price something without any clear indicators of what customers will pay?

Enter Exchange Theory. This basic equation guides nearly every decision we make. It’s all about perceived value and perceived cost.

If the perceived value is greater than its perceived cost, you will buy it.

If the perceived cost is greater than its perceived value, you will not buy it.

Of course this assumes all other factors are equal.

So how does this help you figure out pricing? Simple (well, kinda). 

Value and Cost can be defined and measured in multiple ways, like money, time, status, happiness, or safety. You can get value by saving time on a task, earning the confidence of your peers, or gaining peace of mind. Likewise, you pay for things by spending time, money, or stress on them. These are alternate currencies people spend and earn, just like Dollars or Euros or Yen.

How does this translate to pricing? Currency Conversion! Stay with me…

Let’s say your product saves people time in completing a task. On average, a customer would save 2 hours per week by using your product. What’s that time worth? If that customer earns a salary of $80,000/year, that’s about $50/hour of labor cost. So–in the abstract–they could be saving about $100/week by using your product. Does this mean they will pay $100/week? Probably not.

Remember that word “perceived“? The perceived value of time gets minimized by people because they’re going to spend that time on something else. It’s not like they can put that $100 in the bank. 

You have to find out how your customers define value and cost, and how they justify purchasing decisions. Are they doing the math or going with their gut? Do they value time more than status or safety, or are they placing value on something else entirely?

Even with this framework, pricing is still a tricky task. But thinking about the value your product or service can deliver in context of what the customer cares about can guide you to pricing it at an amount they can justify.