Pricing and the numbers that keep you alive

New founders often price low. It feels kind, it feels competitive, and it seems to make the first sale easier. The trouble shows up later, in a number most people never work out: whether a customer ever pays back what it cost to win them.

Two ways to set a price

Cost-plus: add up what it costs you to serve a customer and add a margin. It’s simple, and it guarantees you’re not selling at a loss on each unit.

Value-based: start from what the problem costs the customer. A shop owner who lost most of a weekend’s orders to an outage isn’t comparing your price with your server bill. They’re comparing it with that weekend. Cost tells you the lowest price that makes sense; value tells you how high you can go.

Whichever you start from, the price has to clear one test: does a customer bring in more than they cost?

The unit economics of one customer

Andreessen Horowitz’s 16 Startup Metrics defines most of the pieces. In plain terms:

• CAC (customer acquisition cost): the full cost of winning one customer, including ads, referral fees, credits and discounts.
• Gross profit per month: price minus what it costs to serve that customer.
• Churn: the share of customers who cancel each month. The a16z post puts the expected lifetime, in months, at 1 divided by monthly churn.
• LTV (lifetime value): the profit from a customer over the relationship. The post’s simple version is contribution margin multiplied by expected lifetime; here, gross profit per month stands in for contribution margin.
• Payback: how many months of gross profit it takes to earn back the CAC (a standard measure, though the a16z post doesn’t spell it out).

1. 1A customer pays the price every month.
2. 2Serving them costs something every month too. What is left is gross profit.
3. 3Gross profit first pays back what it cost to win the customer. Until then, that customer has cost you money.
4. 4Only after payback does the customer make you money - and they have to stay long enough to get there.

Try it

The numbers below belong to this toy shop, not to any industry: $1.50 a month to serve each customer, $60 to win one, and 5% of monthly customers cancelling each month. Change the price and the billing, and watch payback move.

Annual billing moves the cash forward

Offering a year upfront at a discount (here, a year for the price of ten months) changes when the money arrives. At $6 a month the annual payment is $60, which matches the cost of winning that customer on day one. It isn’t free money: you still owe a year of serving them ($18 here), and at the discounted price a year earns $42 after that, so they repay their $60 only if they renew. What changes is timing - the cash arrives now, rather than trickling in over a year.