Developing your SaaS Pricing Model isn’t Rocket Science, but even in the Rocket Science business, you need to price your work so you can sell it and make money!
This post is awesome (IMHO), but there’s an even better, more recent one that’s specific to early-stage SaaS companies: Pricing Strategy Framework for SaaS Startups
Just so we’re clear, your Pricing Strategy is so much more than your Pricing Page. It’s about far more than not leaving money on the table and making a profit; though profit is a good thing, after all, that’s why we’re in business!
Your SaaS Pricing Model will help determine – among other things – your market position, whether or not your target customers can buy from you, and whether or not you can provide the level of service required by those customers.
A Good SaaS Pricing Model has Many Inputs
So when a friend of mine mentioned that SaaS vendors should think a little less about Pricing and a little more about deal size, I was confused.
You see, “Deal Size” is simply one input – of many – that should be used to develop a Pricing Strategy for your SaaS or Cloud offering.
So that you have a more complete picture of what is required to develop a Pricing Strategy, here are some of the required inputs:
Internal / Strategic SaaS Pricing Model Questions
Quantity vs. Quality: Do you want a massive amount of customers or fewer, potentially more profitable customers? There are pros and cons to both…
Market Position: Do you want to be the low-end, low-price leader or Super-Premium, high-end offering targeting elite customers only? Who do you want to pick a fight with in the market that we’re entering and how will you compete? Hint: SaaS doesn’t mean Cheap!
Once you have those big ideas figured out, then you move on to…
External/ Customer-Facing SaaS Pricing Model Questions
Who are you marketing your SaaS offering to?
- First and foremost… Who’s your ideal customer?
- If you’re new to market… who did you build your SaaS for? Who is ready, willing, and able to buy your solution today?
- If you’re already in-market… look for patterns within your customer base to define market segments
- If you have different segments you’re selling to – multiple Ideal Customer profiles – then the questions below should be answered for each one
What value will they get from your offering?
- Not the features… not the benefits… what VALUE are they going to get from your offering?
- The benefit of the benefit is a good way to think about this
- This requires that you really understand your customer
What will the ROI – monetary or perceived – be on that value?
- This is the hard part usually… takes a lot of work to figure this out
- You really have to know your customer… often better than they know themselves
- I’ve written about the 10x ROI pricing rule before…
What metric(s) will the price will be based on?
- Maybe it’s a ‘seat’ (named user, concurrent user, etc.)
- Maybe it’s storage (but hopefully not unless you are a storage company)
- Maybe it’s functionality
- This is the thing that your customer will say “yes, I need 7 of those…” and feel good about the purchase.
- Basing your price on something of little value – say a commodity item like storage– will de-value your offering
- Segmenting your pricing tiers/bundles on something of value avoids this issue and keeps people from gaming the system to avoid forced upgrades
- Done right, customers will even be happy to upgrade because they’ve reached a greater level of success.
How many will they buy?
- This is the “Deal Size” that my friend talked about
- How many of the metric from above?
- If you sell bundles of 10 *metrics*, how many bundles of 10 will they sign-up for?
- How many will they sign-up for at first?
- How many will they add over their lifetime as a customer to drive Expansion Revenue? (hint: you want this number to be higher than the “at first” number)
What is their estimated Customer Lifetime?
- 3 months? 3 years?
- At first, you’ll have to use your gut and any market data you can gather (taken with a grain of salt) to determine estimated Customer Lifetime
- If you’re in-market, you have some history to look to… BUT… if you have a high churn rate because you haven’t done what it takes to keep customers around – but you’re going to in the future – your past Average Customer Lifetime metric could be meaningless.
- This is the metric that will help drive our Acquisition spend… if a customer pays $1000/mo but only stays 2 months and you paid $3000 to acquire them, you lost $1000 + support/operating costs. This is bad.
- If you think you can keep a $1000/mo customer for 36 months, and you pay $2000 to acquire them, we’ll have 34 months of profitable revenue from that customer, even if they don’t expand their use of the service (Expansion Revenue) over that time. This is good.
What is their buying process?
- This determines whether you go the e-commerce or higher-touch, human-powered route
- Price doesn’t determine which model should be used
- Complex products often require more human interaction
- But some markets – regardless of product complexity – require a human touch
- As much as you’d like to think you can drive this, this is a market-driven element of your business model unless you are so big and powerful you can change consumer behavior (be realistic here)
- The only way you can choose the model you go with is by selecting the market segment you target
- But who cares which model is used as long as the margins are there, right?
- If the market – based on your competitors – seems to have a complex sales model with a high-touch sales force and you want to go the e-commerce route, can you?
- If you come in at a lower price than your competitors, are you changing behavior or will you simply fit into a different procurement process than your higher-priced competitors reducing the sales cycle time and complexity?
- Or will you still have to go through the same process, meaning you’ll wait the same amount of time as higher-priced competitors, just for less money?
- If you come in cheaper will you be seen as a joke and not be taken seriously by the target market?
- See “what level of service…” below for why this is more likely than you think
What is their internal procurement process?
- This is different than – but directly impacts – their buying process!
- Who are the various players in that process?
- What are the steps that need to be taken to get sign-off within their company?
- How do they pay their vendors? Can they use a credit card?
- Will they pay annually or monthly?
- Will they pay up-front or in arrears?
- Will they want a contract even though you don’t require a contract?
- How long does this usually take?
What level of service must you provide the customer?
- If you’re running mission-critical apps for high-end clients, your level of service should probably be amazing; uptime guarantees with the infrastructure to support it, 24/7 phone-based customer support staff, proactive monitoring of not just critical systems but of customer use (where appropriate and accepted) to ensure a fantastic experience, etc. – this is a cost-side input in determining your price; not enough margin, you can’t provide the level of support the customers expect (and would likely pay for).
- If you’re running a low-end utility-class application, uptime is probably a good thing but some hiccups might be acceptable (and not even noticed because the amount of time a customer spends in your app is probably less than the mission-critical ones), support can be asynchronous email/ticket-based, etc.
- Data loss and security breaches are never tolerated so you have to ensure you have enough margin to provide that baseline level of support.
- If you come in “cheap” your market might be savvy enough to know that you won’t be able to provide the level of service they require once you get more than a handful of customers and might pass because they realize you don’t “get it” yet, even though your price is lower than the other guys
Some other things you need to consider:
- Should you bundle features / functionally, include everything and charge per user, or do a la carte?
- Will prospects want or expect a Free Trial?
- What is the on-boarding process going to require?
- What do your commercial competitors do?
- What other things – homegrown or re-purposed software – are you displacing in the market?
Then, once you have all of these questions answered – oh, and those aren’t all of them, either – you can start to put together your Pricing Strategy, including the actual price – the number – that you’ll charge for access to your SaaS or Cloud offering.
So yeah, developing a SaaS Pricing Model isn’t Rocket Science…
…it’s just a super-important, high-level Strategic initiative that requires many different inputs and can ultimately determine whether your company thrives or goes out of business!
That seems kind of important to get right to me.
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