Usage based pricing The model almost feels like a cheat code – it enables SaaS companies to acquire new customers more efficiently, grow with those customers as they succeed and keep those customers on the platform.
Compared to their peers, companies with usage-based pricing trading at a premium of 50% revenue and 10pp see better net dollar retention rates.
But the shift from pure membership to usage-based pricing is almost as complex as it is going from on-premise to SaaS. This opens up the addressable market by reducing purchase barriers, which then require users to find new ways to scale. It more closely associates payment with customer consumption, affecting cash flow and revenue recognition. And it predicts lower revenue, which can generate pushback from purchases and legal.
SaaS companies are exploring a usage-based model, with plans for both market and operational challenges spanning from pricing to billing to sales compensation.
Choosing the right usage metric
There are several possible usage metrics that SaaS companies can use in their pricing. Datadog charges based on the host, HubSpot uses marketing contacts, by functions zapier prices and snowflake have resources to calculate. Taking the wrong usage metric can have disastrous consequences for long-term development.
The best-use metric meets five key criteria: value-based, flexible, scalable, predictable, and feasible.
- Value-based: It should align how customers derive value from the product and how they see success. For example, Stripe charges a 2.9% transaction fee and therefore their business as a direct customer grows.
- Flexible: Customers should be able to choose and pay for the exact scope of their usage, starting small and scaling as they mature.
- Scalable: Once a product is adopted it should increase over time for the average customer. There is a reason that cell phone providers now charge based on GB data instead of minutes – data volumes keep going up.
- Popular: Customers should be able to predict their usage fairly so that they have a budget forecast. (Some assistance may be required during the sales process.)
- possible: Use of surveillance, administration and police should be possible. Metrics need to be tracked along with the cost of providing the service so that customers do not become unprofitable.
Navigating the enterprise legal and procurement teams
Enterprise customers often crave price forecasting for annual budgetary purposes. It can be hard for traditional legal and procurement teams to wrap their heads around a purchase with an unspecified cost. SaaS vendors need to be creative with different usage-based value structures to allow enterprise customers greater peace of mind.
Customer engagement software Twilio offers deep discounts when the customer wants to use it for an extended period. AWS takes this a step further by allowing the customer to commit in advance, but still pay for their use as it happens. Data analytics company Snowflake lets customers roll over their unused usage credits until their next year’s commitment becomes at least as large as before.
No one wants to see shock expense when they inadvertently exceed their usage limits. It is important to design thoughtful overage policies that provide customers with a sense of control at their expense.