TL;DR
- Usage-based pricing (UBP) is increasingly popular, with 45% of SaaS companies adopting it in some form as of 2021, offering a flexible and fair pricing strategy based on consumption.
- UBP eliminates cost barriers to customer trials, complemented by seamless onboarding for a frictionless first experience.
- SaaS companies at all levels, from infrastructure to applications, have found success with UBP, indicating its wide applicability.
- Models like pay-as-you-go, per-unit pricing, and usage-tier pricing provide options for businesses to align costs with customer usage, potentially improving customer satisfaction and retention.
- Successful UBP implementation involves starting with simple, value-aligned metrics, enabling customer monitoring and reporting, assisting customers in budget forecasting, and reconfiguring sales strategies to focus on customer value.
- UBP can lead to higher net dollar retention and allows businesses to experiment with pricing to find the most effective model, with companies like AWS and Azure showing success by compensating sales reps based on customer consumption.
- If considering UBP for your business, tools and infrastructure like Togai can support the launch of any pricing model efficiently, reducing time to market.
Charge too much, you might face dissatisfaction from customers. Charge too little, your profit margin will suffer, and your customers might undermine the effort your brand has put in.
Pricing has to be a win-win strategy for you and your customers. You want to price your products or services to sustain the business, retain your existing customers, and grow your customer base—all at the same time. So, it is no wonder that usage-based pricing has gained popularity in recent years.
So what is it about UBP that makes it so popular? Let's find out!
About Usage-Based Pricing
What is Usage-Based Pricing?
Usage-based pricing is not something new. If you are familiar with how your electricity bill is charged, then you might have an idea of how UBP works. Services like electricity and water are metered, and the amount you pay each month depends on your usage. Today, SaaS (Software as a Service) companies are also moving towards adding usage-based pricing options, i.e., they are charging customers based on their consumption or usage of a product. For example, Amazon charges customers based on how much cloud storage or services they use.
Usage-based pricing allows businesses to offer flexible billing options to customers without demanding long-term contracts. It enables customers to scale up and down as per their needs. It also allows companies to accurately capture the value that they are providing, gain a competitive advantage, and improve retention.
Prominent Usage-Based Pricing Models
The range of approaches to usage-based pricing is exceptionally diverse, with some models being more commonly used than others, such as
Pay-as-you-go model
It charges businesses only for the resources they use. For example, phone carriers bill based on minutes used.
Per-unit pricing model
In this model, the amount charged is correlated to the quantity of a service or product purchased. Thus, the total price charged per period would be the quantity multiplied by the per-unit price.
Usage-tier pricing
In this model, customers pay for only the services they need by choosing from one of the multiple tiers. Services are offered as incremental tiers based on different feature bundles and customers can upgrade their plans based on their needs.
So, is usage-based pricing the right model for your business? If yes, how can you successfully implement it at your company?
Also Read: Consumption-based Vs. Subscription-based Pricing Models–Which Is Better For Your Business?
Increasing Trend of Usage-Based Pricing in SaaS
According to the data from OpenView’s State of Usage-Based Pricing Report, 45% of SaaS companies (in 2021) have some form of usage-based pricing (UBP). In February 2023, their second edition indicated that three out of five SaaS businesses had adopted some form of this pricing model. Similarly, a study by Chargebee reports that 63% of SaaS companies now utilize usage-based pricing. These figures underscore the rapid adoption of this pricing strategy within the SaaS industry.
Moreover the usage-based pricing model has become increasingly prevalent in infrastructure services such as AWS, Azure, and GCP. This approach extends beyond infrastructure to encompass various layers of the technology stack, including horizontal and vertical applications. This trend reflects a shift towards more flexible and scalable pricing structures across the entire ecosystem.
Image: OpenView
But is there anything common among them that makes them good for a usage-based pricing model? Here are some observations:
- Take Snowflake, Elastic, Data Dog, MongoDB, Fastly, and Sumo Logic who have experienced success with usage-based pricing. Their services incur direct costs to the organization because customers are consuming physical resources like storage, computing, and bandwidth. Customers clearly understand that such services cost money to provide. Thus, they consider the pricing to be fair.
- SaaS companies at the top of the application stack that have implemented UBP have identified the value customers reap from using their products/services. UBP helps them capture this value created. While not all SaaS applications can be linked to revenue, companies can explore potential connections between features and revenue.
- Since UBP eliminates any cost barrier to customer trial, customers can try the product at little cost before committing to using and paying more. But this needs to be complimented by seamless onboarding, so there is no friction when customers try the product for the first time. Ease of implementation is one of the reasons usage-based pricing is so popular with Product Led Growth (PLG) companies.
Benefits of a Usage-based Pricing Model
Easy to Acquire and Retain Customers
Customers don't have to make big commitments. They can start using the features that they need and pay for only what they use. When they realize the value and decide to scale, they can easily do so. Users tend not to change their habits because they feel in control. This can improve customer satisfaction and retention.
This leads me to the second point.
Increase Net Dollar Retention
There are two obvious ways to increase net retention: retain more customers or upsell existing customers. And UBP allows businesses to do both seamlessly. On average, organizations typically see a ten percent increase in net dollar retention over more conventional subscription-based companies.
Experiment with Pricing
Pricing is often the most underutilized growth lever in a business. However, a small change to pricing can positively influence your profits. Pricing is unique to each business, and it is crucial that you spend time deciding what best works for you. With this pricing model, an organization can experiment with different combinations, analyze data, and use the insights to understand which pricing model to adopt.
Strategies to Consider for Successful Implementation of UBP
If you are a first-time user of usage-based pricing, you should consider these four fundamental factors to implement a UBP model:
Start Simple with the Right Metric Value
The metrics you are charging your customers should be the ones closely associated with the value your customers extract from your product. A usage-based pricing model can make value-based pricing easier. It allows for a unified pricing model, packaging your products with variable usage metrics.
Enable Customer Monitoring, Notifying & Reporting
With the UBP model, the control is in the hands of your customers. They can decide what and how much to use. To facilitate managing this better, a certain level of monitoring, alerting, and reporting will help. It can assist in managing costs, performance, and the adoption of your service/product. This way, there is no uncertainty about what they will be billed after a certain period of usage.
Help Customers Forecast their Budget
It can be difficult for new customers to forecast how much they may consume in a given period. Your sales team (and your success teams) can bring in their expertise for helping them forecast the estimated usage of your product/service. Offer tools to help customers easily predict costs. Or have your solution engineers help them navigate more complex requirements.
Reconfigure Your Sales Strategy
It is common to have customers purchase annual usage commitments in advance to lock in discounted pricing offered. And this is tied to your sales teams' performance. But if you are adopting the UBP model, how would the sales team be compensated, and what would differentiate their performance?
Sales should take a customer-centric approach and think about how each customer can uncover more value by using your solution. They must think of ways to encourage early adoption and usage. This uncovers new opportunities to upsell.
Companies like AWS and Azure compensate their sales reps 100% based on customers' consumption and not their commitment. This way, they align sales compensation with customer value.
Reasons Why SaaS Companies are Adopting Usage-based Pricing
SaaS usage-based pricing is fast becoming the lifeline for many SaaS companies for more reasons than one.
- It increases growth potential.
Usage-based pricing adapts to user activity, enabling SaaS providers to boost revenue as customer engagement increases. This close tie to customer usage drives effective revenue growth.
- It enhances customer retention built-in.
Usage-based pricing directly correlates pricing with the value customers derive. Charging based on the actual usage helps customers recognize and value your offering.
- It minimizes entry barriers.
UBP lowers initial costs and offers value without a high price tag, making it easier to attract new customers. This approach facilitates quick user onboarding and showcases the product’s value without significant investment.
It is crucial to choose the right value metric to lower entry barriers. This metric enables your business to ensure the right pay for the value. This approach helps track and predict growth and communicate the value of your product more effectively.
- It increases product accessibility.
UBP allows users to access products or services under a single account, thus encouraging wider adoption and integration across various teams. Moving away from pricing based on the number of seats encourages more people within a customer account to use the product regularly. When a group succeeds, they're more likely to tell others in their organization about it.
- It expands your target audience.
Usage-based pricing for SaaS attracts more customers and expands your footprint beyond total addressable markets (TAM). Also, this is possible with minimum marketing efforts and feature developments. Moreover, TAM expansion can help your profits and aid in developing new market strategies.
- Makes your product or service more attractive to customers.
Customers feel that usage-based pricing is a fair and reasonable pricing model since they pay only for what they use instead of a flat fee. This pricing model helps the company grow by ensuring that revenue reflects customer satisfaction and value.
Wrapping Up
There are numerous advantages to usage-based pricing as we have discussed in the blog. There is merit in thinking about if it is right for your business. If you would like to consider UBP for your business, Togai is here to help. We are an end-to-end usage-based billing software that businesses can leverage to launch any pricing model in the shortest time possible. If you are curious and would like to take a look, sign up here. Or you can schedule a demo!
Frequently Asked Questions
How do you illustrate usage-based pricing with an example?
Usage-based pricing is determined by what the customer consumes. This strategy relies on usage metrics to tie resource consumption to the billable amount. For example, cloud providers charge customers by the GB of cloud storage they use or how many data points per minute (DPM) they use on average.
Is usage-based pricing preferable?
In usage-based pricing (UBP), customers pay for the actual usage of a product or service instead of a flat rate. Usage-based, tiered pricing models deliver more cost-effective solutions, lowering the risk of overage charges and the financial viability of an organization or business.
What challenges do you usually face when implementing usage-based pricing? How does Togai tackle them?
Implementing the usage-based pricing model will likely present challenges, including choosing and setting the right metrics, efficiently organizing onboarding, and maintaining billing transparency. Togai addresses these challenges by offering flexible pricing systems, robust tools for metering and reporting, and expert support and guidance to smoothly maneuver the implementation process.
How does Togai help businesses to mitigate the risks of implementing usage-based pricing?
Togai software has built-in tools for effective follow-up, monitoring and reporting. It enables businesses to track usage patterns and mitigate risks of over charging or under charging. Maintaining fair and transparent billing practices becomes easy with Togai Software.
What types of businesses does the usage-based pricing model of Togai suit the most?
Togai’s versatility makes it suitable and applicable across industries, particularly businesses offering software services (SaaS), cloud computing services, IoT platforms, and various tech services where usage patterns vary substantially.
Transitioning to a usage-based pricing model can be challenging for businesses. How does Togai manage them?
Defining the usage metrics, educating customers about the pricing, and adapting to the internal processes can be challenging. Togai guides and supports businesses through these steps by providing consulting services, learning resources, and technical handholding.
