What is Price Anchoring?
How it helps Startup Founders
Price Anchoring is a concept used in retail sales.
The idea is that you anchor the price of your product to a high value, and then reduce it to a low value, with the goal of getting customers to perceive the lower price as a bargain.
For example, you’ve got a product priced at $200, but then on sale for $150. You might think that the discount is $50, but it’s actually $50 off $200, which means that you’re really only saving 25%. But because your initial price was set so high, most people will see the $150 as an amazing deal.
You can use this technique in negotiations too
When you ask for a higher salary or better terms for your business deal, it helps to give an initial figure that is higher than what you actually want. That way, when you settle on something lower than what you asked for initially, people will perceive it as a great deal and be more likely to agree to it.
You can also use this technique in raising capital for your startup business
You tell investors about how much money you need and how much equity they’ll get in return for their investment — which will usually be quite low compared to the value of their investment once your company becomes successful — and then offer them an opportunity to invest at a “discounted” rate (i.e., get more equity) if they act quickly. In other words: start with a high price and then discount it until someone buys in.
And this is exactly what a lot of startup founders do.
The Problem with Price Anchoring
Price Anchoring is an effective technique when you’re selling something to someone who doesn’t know what it’s worth.
For example, if you sell used cars, people will pay more for a car that’s in great condition than they will for one that looks like it was driven by the devil himself.
But investors aren’t stupid. They know what your company is worth and they know how much it should cost to acquire new customers. So if you ask for too much money from them — or too much equity — they won’t be fooled by your “anchoring.”
In fact, the opposite will happen: they might actually be insulted by your lowball offer and walk away without giving you a chance to negotiate further. And if they do give you money, it will probably be at a lower valuation than what you wanted in the first place — and there won’t be anything you can do about it because you already set their expectations with your initial offer.
So how do you get around this? How can you effectively price anchor when talking to investors? The key is to set the price yourself instead of letting them set it for you. Here are some strategies:
Set up “Shark Tank-style” meetings with potential investors where everyone has to pitch at the same time and all of the pitches are videotaped .
If you can show that your company has multiple offers from other investors, that puts pressure on them to compete with other investors for a piece of your company (which means offering a lower valuation).
If no one else wants to invest in your company, then there won’t be any competition and it will be easier for them to convince their partners that they got a good deal compared to what everyone else was offering (which means offering more equity).
Either way, once an investor agrees to meet with your team and hear about your business idea, he or she is more likely to feel like they have no choice but to agree on whatever terms you ask for during negotiations later on.
The key here is not only making sure that multiple people want in on your business idea (you don’t want just one shark eating up all of the potential deals), but also making sure that these people have enough money/resources/experience so that each shark can compete with the others.
About the Author
I am the Founder of Cudy Technologies (www.cudy.co), a full-stack EdTech startup helping teachers and students teach and learn better. I am also a mentor and angel investor in other Startups of my other interests (Proptech, Fintech, HRtech, Ride-hailing, C2C marketplaces and SaaS). You can also find me on Cudy for early-stage Startup Founder mentorship and advice.
You can connect with me on Linkedin (https://www.linkedin.com/in/alexanderlhk) and let me know that you are a reader of my Medium posts in your invitation message.
