What is the Decoy Effect?
The Decoy Effect talks about when we can choose between two options and a third option (the decoy) is added. This third tier, let's call it the basic tier, can have a significant influence on our perception of the original two choices. The basic tier (the decoy) is superior to the economy tier, the tier we don't want people to take. On the other hand, the basic tier is only a little cheaper than the premium tier, the option we want people to take.
This basic tier (the decoy) will raise the expectations of the customer. These are the tiers we'll offer:
- An economy tier
- A basic tier that's very close in price to the premium tier but the quality is that of the economy tier
- A premium tier that's only a little bit more expensive than the basic tier but much better quality.
Your customers will now very likely choose the premium tier, as it's a great value for the price compared to the basic tier. The Decoy Effect is also known as the "asymmetric dominance effect".
When should you use the Decoy Effect?
You should use the Decoy Effect when you sell a product that has multiple varieties, each at a different price point. This definition could apply to a bakery with different sizes of cakes, but also a SaaS product with different subscriptions. As you can see, it's applicable to a very wide range of situations.
An example of applying the Decoy Effect
Let's go over an example to see how you can use the Decoy Effect to increase your earnings for a SaaS product. This SaaS product helps you to resize images for your website, so you're always showing the image in the exact resolution they need to be, this helps your website to load much quicker. Imagine we have two tiers:
- Basic $10.00 per month: 20.000 image resizes per month, but you can only specify the resolution you'd like to use
- Premium $25.00 per month: 50.000 image resizes per month, and you can specify the resolution you want, center faces in images, change colors, apply filters, and use new image formats for even faster load times.
Clearly, the basic version is much cheaper and probably gets the job done for a lot of people, but you'd really like your customers to choose the premium version. It makes you 5x more money and it offers a lot more functionality that's definitely worth the price. Your customers don't seem to think so, because all they see is that the premium plan is 5 times more expensive.
In a situation like this, you should add a "Pro" plan that offers this:
- Pro $20.00 per month: 40.000 image resizes per month, but you can only specify the resolution you'd like to use.
This plan is very close in price to your premium plan, but the features it offers are not on-par with the premium plan, rather it looks like a second basic plan. When your customers outgrow the basic plan and have to rethink their subscription, all of a sudden there is a plan that offers so much more than the next tier. The Premium plan offers more image resizes, but also a lot more functionality that will become important as a website becomes more popular.