Value-based pricing sets prices according to customer-perceived value rather than production costs. This guide shares the value-based pricing formula and shows how to apply it with a worksheet and example.
What's the value-based pricing formula?
The value-based pricing formula adds a portion of the extra value your product creates to the customer’s next best option and never exceeds willingness to pay (WTP). Here’s what it looks like:
Value-based price = min{ WTP, reference price + (value capture rate × monetized differentiation value) }
Each part of the formula has a specific purpose:
- Reference price is the cost of the customer's next best choice (competitor, DIY, or status quo).
- Monetized differentiation value is the dollar value of your unique benefits (time savings, cost reductions, extra revenue, risk reduction), net of switching costs.
- Value capture rate is the percentage of differentiation value you choose to price in. Typical ranges: 10% to 20% (penetration/competitive), 20% to 40% (standard), 40% to 50% (strong differentiation).
- Customer willingness to pay (WTP) is the maximum price customers accept, measured via research and real transactions.
- Final price applies the value capture rate to differentiation value, added to the reference price, and is capped at WTP.
Example calculation
An enterprise project management software replaces basic tools that cost teams $2,000 monthly. The platform saves 40 hours per month, worth $4,000 at $100 per hour. IT costs drop by $1,500. Better project completion drives $3,500 in extra monthly revenue. At a 60% gross margin, that's $2,100 in value.
Total differentiation value: $7,600 monthly ($4,000 + $1,500 + $2,100). Customer research shows willingness to pay tops out at $6,000.
The company captures 40% of the differentiation value: $2,000 reference price + (40% × $7,600) = $5,040 monthly. This sits below the $6,000 ceiling that customers accept.
What is value-based pricing?
Value-based pricing is a strategy that sets prices based on the economic value your product delivers to customers. You don't use production costs or competitor rates as your main guide. This approach focuses on measurable customer outcomes.
How to calculate value-based pricing step by step
You need to analyze three things to calculate value-based pricing. Those are customer economics, competitive alternatives, and value creation. Each step builds on the previous one. The result is a price that customers accept because they understand the return on investment.
These steps operationalize the value-based pricing formula in your market.
Step 1: Map the customer's current state
Document how customers currently solve the problem your product addresses. Find out their existing tools, processes, and time investment. Calculate their total costs including software, labor, and opportunity costs.
Interview a meaningful sample of customers to build an accurate baseline. Track important metrics like hours spent, error rates, missed opportunities, and total ownership cost.
Step 2: Identify your differentiation value
Calculate the economic impact of each unique benefit you provide. Value-based pricing is all about quantifying the actual economic benefit to the customer.
If your product helps them generate more revenue, the value to them isn't the full revenue amount. It's the profit they keep after costs.
Turn every advantage into dollar amounts in the following ways:
- Multiply hours saved by hourly rates.
- Convert revenue increases to profit value by applying the customer's gross margin percentage.
- Add up the avoided costs from prevented errors.
- Include soft benefits like improved employee satisfaction and reduced compliance risk.
Step 3: Establish the reference price
Research what customers pay for alternative solutions. Look at direct competitors, substitute products, and manual processes.
Weigh prices by market share to find the most relevant comparison. Use the cost of the problem itself as your reference for new product categories.
Step 4: Test willingness to pay
Run pricing research using proven methods. Use Van Westendorp analysis, conjoint studies, or direct customer interviews.
Show value propositions at different price points. Measure how likely people are to buy at each price. Run pilot programs with early customers to test real transactions. Your maximum price is where demand drops significantly.
Step 5: Determine your value capture rate
Decide what percentage of differentiation value to price in. As a rule of thumb: 10% to 20% (penetration/competitive), 20% to 40% (standard), 40% to 50% (strong differentiation). Consider switching costs, implementation effort, and competition.
Put numbers on it: A mini worksheet
Use this worksheet to feed inputs into the value-based pricing formula:
Pick the right structure to capture value
Different pricing structures work better for different types of value:
- Usage-based pricing charges based on consumption metrics. Consider API calls, data processed, or active users. Customers pay based on the value they receive.
- Outcome-based tiers group customers by their results. Higher tiers unlock features that create bigger business impacts.
- Hybrid subscriptions combine a base fee with usage charges. This gives you predictable revenue while capturing extra value from power users.
- Success-based pricing links payment to results. These could be revenue generated or costs saved. This reduces customer risk while keeping your upside.
- Feature bundles package related features that work better together. Using this approach increases average contract values and simplifies buying decisions.
Where value-based pricing shines vs. Struggles
Value-based pricing works best when your differentiation is obvious, customers can switch without major pain, and you stay close enough to track the value you're actually delivering.
- Best conditions include complex B2B solutions with measurable ROI. Markets with different customer segments work well. Products that create major improvements see the best results.
- Key advantages include higher profit margins through premium pricing. Customers naturally segment themselves by choosing their price level. You have built-in reasons to keep improving your product value.
The Harvard Business Review reported that a 5% increase in customer retention can boost profitability by 25% to 95%.
- Main challenges include the need for extensive customer research. It usually takes 3 to 6 months to set up initially. Some benefits are hard to quantify in dollars. Managing different prices for different segments requires careful communication.
BCG's 2025 research on pricing trends shows that companies need to invest in pricing capabilities such as AI features to achieve above-average revenue and profit growth.
Turn value insights into revenue growth with Orb
Orb is a done-for-you billing platform built for modern SaaS and AI companies. Here’s how it can help with your revenue growth:
- Test pricing without risk: Run Orb Simulations on your historical data to see how different value-based pricing formulas affect revenue before making changes. Compare scenarios side-by-side to find the balance between value capture and adoption.
- Implement complex value metrics: Define custom billing metrics using the Orb SQL Editor or visual editor without engineering resources. Track any value driver from API calls to business outcomes, then calculate charges based on delivered value.
- Scale pricing with precision: Orb ingests and tracks every raw event at scale with high accuracy. Get a complete audit trail showing exactly how each customer's value translates to their invoice.
- Iterate faster than competitors: With Orb RevGraph decoupling usage data from pricing logic, you can adjust value capture rates, add new value metrics, or test segment-specific pricing without code changes.
- Get expert implementation support: Orb provides dedicated guidance on value metric selection, pricing model design, and migration strategies. Use best practices and proven frameworks to boost your value-based pricing success.
Ready to capture the full value your product delivers? Explore Orb's flexible pricing tiers to implement value-based pricing that grows with your business and your customers' success.
