The Benefits of a Usage-Based Pricing Model
The Benefits of a Usage-Based Pricing Model
Subscription-based pricing as a concept sounds pretty straightforward—customers pay a recurring monthly or annual fee to use a company’s software. But as it turns out, there are several different pricing models SaaS companies can choose from to meet their customers’ billing expectations.
In recent years, usage-based pricing has become popular among growing SaaS companies and their customers, but is it the right choice for your business? In this article, we’ll be discussing the different SaaS pricing models and why usage-based pricing stands out among the rest.
Types of Pricing Models
Most SaaS pricing models typically fall into one of the following categories:
Flat-Rate/Fixed Pricing: All users pay a single price every month to use your software. The revenue gained from a fixed pricing model is easy for finance teams to recognize; however, you could easily overcharge or undercharge your customers based on their product usage.
Usage-Based/Metered Pricing: Usage-based pricing aligns monetization with how customers actually consume your products and services. It also offers a vast array of scalable pricing schemes, such as:
- Tiered Usage-Based Pricing: Multiple price brackets define the price at different quantity levels. For example, a customer will always pay $50/unit for the first 10 units, $40/unit for units 11-20, etc.
- Per Unit Usage-Based Pricing: In this model, customers are charged per unit. For example, customers would be charged on the number of card transactions, number of active integrations, or minutes used on a cellular plan.
- Volume Usage-Based Pricing: Multiple price brackets where the price per unit for all units is determined by quantity. For example, a customer pays $50/unit for 10 units or $40/unit for 15 units.
- Stair-Step Usage-Based Pricing: Multiple price brackets where pricing is based on a range of usage instead of individual per-unit costs. For example, the first 50 emails are free, 51-1,000 emails cost $99/month, etc.
Choosing a Pricing Model
There are several factors SaaS companies must take into consideration when choosing a pricing model, but above all else, an ideal SaaS pricing model is one that is scalable and captures the full value of your product/service. Scalability is a primary concern among high-growth SaaS companies because flexible pricing options are needed to meet the expectations of different users.
Twilio is a great example of a SaaS company with a scalable and flexible pricing model. They offer a free trial, metered-usage “pay-as-you-go” pricing, and sales-negotiated contracts to name a few. These flexible pricing options have allowed them to capture new market segments and give their customers the option to scale with them as their product usage increases.
Another way to find the right pricing model is to identify your company’s value metrics—a.k.a., the measurable value that your product provides for your customers. Standard SaaS value metrics such as Churn, Contraction MRR, and ARPU can be measured to determine whether your customers find value in your SaaS.
An increase in Churn, a decrease in monthly revenue, and a loss in average revenue per user are all signs that you’re not delivering adequate value to your users—so how can SaaS companies turn these numbers around?
By transitioning to a usage-based pricing model, customers are only billed strictly based on the value they receive from your product/service. This metered-usage approach allows users to leverage the total value of your SaaS without being forced into a recurring monthly payment or an annual contract.
As long as you’ve achieved product/market fit and your SaaS solves a unique customer pain, the addition of usage-based pricing to your billing model should positively affect your company’s value metrics.
What is a Usage-Based Pricing Model?
In a usage-based pricing model, customers are charged based on their usage of a product/service within a given billing cycle (e.g. month, business quarter, year).
For example, your monthly electricity bill and the fare at the end of a taxi ride are both determined by usage—all they need is a unit of measurement. In this case, it would be kilowatts or duration of the ride. Similarly, SaaS companies can measure usage based on individual actions taken within their software.
Benefits of Usage-Based Pricing
A usage pricing model gives SaaS companies several advantages for acquiring, retaining, and monetizing users.
The most important and influential one is billing flexibility. As SaaS continues to become more customer-centric, potential buyers want to get hands-on with software before making a significant investment. By charging for usage, you’re also creating a lower barrier of entry for new users to get familiar with your product/service and spread the word to their colleagues, department, and key stakeholders within their company.
Additionally, customers don’t feel the restrictions of being locked into a monthly recurring payment or annual contract. Instead, they are deciding when and how they use your product. This new billing scenario might seem like a disadvantage to SaaS businesses who are used to collecting consistent revenue each month; however, in 2021, metered usage pricing was used by 45% of SaaS companies, and a study by Openview partners showed that the fastest-growing companies are likely to use metered usage pricing as well.
So, how else can SaaS companies make the most of metered-usage billing?
To successfully deploy usage-based pricing, you need a system or structure to track a customer’s usage and bill them accordingly. Customer usage data is also referred to as “Event Data,” or customers’ specific actions within your application. SaaS businesses can use this event data to gain insights into how their product is being used by customers, where they can make product improvements, and how they can reiterate their pricing strategy.
Check out this article for more ways to succeed at implementing a metered usage pricing model for your SaaS business.
Prerequisites of Usage-Based Pricing
Even if you’re already sold on the idea of billing for metered usage, there are two prerequisites your company must meet before you get started.
1. Your SaaS is compatible with a usage-based pricing model
Some software tools are either too simple or too complex to charge customers based on metered usage.
For example, Basecamp’s entire value proposition revolves around its flat-fee pricing model. For a flat monthly fee, early-stage, remote-first, and hybrid companies can access a full suite of project management and communication tools to run their businesses online. Charging customers for metered usage would negate the value created by their bundle-style approach to pricing.
On the other hand, a company like Sprig has a suite of products that are too complex to be billed on a usage basis. For context, Sprig is a platform designed to streamline and improve the user-research process. Between user targeting, research analysis, data warehousing, and more, billing for all the individual actions taken within these tools would be extremely complicated.
2. You can track and recognize unpredictable revenue
As your customers’ usage fluctuates every month, so will your revenue. These fluctuations in MRR create challenges for finance teams who still manage all their core financials in a spreadsheet. Instead, finance teams need to develop scalable financial operations to capture and recognize complex, usage-based revenue streams.
Implementing a Usage-Based Pricing Model
Transitioning to a usage-based pricing model creates several opportunities to optimize product and service offers for revenue growth—but it can be challenging to execute depending on your go-to-market strategy.
For sales-led companies, trying to track and charge enterprise accounts for their product usage creates both a billing and revenue management problem. Similarly, product-led SaaS companies can struggle to bill their customers for usage—especially when the majority of their customer base is made up of thousands of individual users with varied usage.
To shed some light on this pricing problem, we’ve put together this ebook, How Product-Led Growth is Changing B2B SaaS. In it, you’ll learn:
- How to choose and implement the right pricing model based on your GTM strategy
- Why product-led growth is being adopted so rapidly
- How to determine if product-led growth is right for you
- Is Sales-led SaaS dying?
- How PLG will affect your SaaS business
- How to introduce a hybrid GTM strategy
Sound interesting? You can download the ebook here.