Pricing approaches for generative AI applications
Steven Forth is a Managing Partner at Ibbaka. See his Skill Profile on Ibbaka Talio.
How to price and monetize generative AI applications is a foundational question in the B2B software space at present. Tom Tunguz, one of the leading investors in generative AI at Theory Ventures has said …
“Pricing an AI product will be a defining question in software for the next few years. AI products offer productivity gains. But greater productivity may reduce the demand for seats over time, ultimately decreasing the size of software markets.” Tomasz Tunguz, July 11, 2024
Ibbaka has published four key blog posts to help you get oriented and begin to execute with generative pricing.
Generative Pricing (where we introduce the approach)
Pricing approaches for generative AI applications (where the alternatives are considered)
The path to generative pricing (where we introduced the five step approach to generative pricing)
Steps on the path to generative pricing (where we expand on the five steps)
Ibbaka is advocating a new approach ‘generative pricing’ but we wanted to ask our community what they think are the best approaches to pricing generative AI applications.
On July 22-24 we shared the following poll on LinkedIn, sending it to our personal feeds, the Professional Pricing Society, the Design Thinking Group, PDMA (Product Development and Management Association), Subscribed (the Zuora community), Artificial Intelligence Exchange and Software as a Service - SaaS.
We received 151 responses.
Additionally, three people took the trouble to write in OUtcome Based in the comments. Thank you to these people for calling this out.
What are the strengths and weaknesses of each approach?
Dynamic Pricing is an AI based approach to pricing that uses a wide variety of internal and external signals to estimate willingness to pay. It is usually implemented using a pricing management systems such as Pricefx, PROS, Vendavo or Zilliant.
Value Based Pricing bases the price on an estimate of the value delivered to the customer (V2C). A value model is developed and inputs are estimated or provided from the application being priced. The price is set so that the vendor captures a fair percent of the value being delivered. Software platforms such as Ibbaka Valio support value based pricing.
Cost Plus Pricing is a traditional approach to pricing in which the price is set based on a markup of a combination of the fixed and variable costs. It makes most sense when the buyer’s actions have a big impact on the vendor’s costs.
Outcomes Based pricing is an ideal form of pricing in which the price paid is directly based on the outcomes from the solution. Lawyers who work on a contingency fee or financial advisors who get a part of the return on investment are using a form of outcomes based pricing.
Generative Pricing is an emergent approach to pricing that fits the properties of second generation generative AI applications. It is a blend of dynamic pricing and value based pricing for applications that are composable and can be configured in real time to meet a customer’s changing needs.
As generative pricing is a new idea, here is a sketch of some of the drivers. This is described more fully in out post introducing generative pricing.
See Generative Pricing for an introduction.
