Are Software as a Service Vendors Innovating on Pricing Metrics?

by | Aug 24, 2010 | Presales, Pricing, Why LeveragePoint?

Pricing metrics are the unit that something is priced in – we buy bread by the loaf, hamburger meat by the pound, frozen hamburgers by the patty. Choice of a pricing metric is one of the most subtle yet powerful decisions that a company can make, and those companies that successfully introduce a new pricing metric can transform an industry. Pay-per-Click advertising, originally introduced by Goto.com in 1998 but popularized by Google in 1999, has disrupted advertising across many media. When GE introduced its innovative GE90 jet engine in 1990 there were questions about the cost of maintenance. Instead of compromising by offering a lower price to compensate for the perceived risk, GE effectively rented aircraft engine for a fee per hour flown (it shifted the metric from ‘engines,’ what it makes, to ‘hours flown,’ what matters to its customers). Without the uncertainty of maintenance cost, GE90 engines quickly became popular even with the price premium (see Strategy and Tactics of Pricing pg. 60).

SaaS vendors have a big opportunity to innovate around how they price services. SaaS solutions are easier to meter (measure the many different types of use), configure and integrate than is conventional software. This makes it possible for SaaS vendors to offer new pricing metrics to their customers.

In The Strategy and Tactics of Pricing, Tom Nagle and John Hogan propose a framework for choosing pricing metrics, see Figure 1. How are SaaS vendors doing when it comes to finding new pricing metrics?

Most SaaS companies have moved away from the traditional enterprise software model of licenses + maintenance fees+ services + license upgrades. Buyers have been pushing back against this model for years as it does not map well to how they get value from software and it locks them into long-term commitments on terms not to their advantage. SaaS vendors are providing different options. In general, SaaS vendors sell some form of subscription in which the buyer always has access to the most current version of the system, and systems are typically updated more quickly than the 18-plus month cycles common with enterprise software (for SaaS customers upgrades are part of the subscription and are a positive, for installed systems upgrades are sometimes seen as a way to extort additional upgrade fees). Best of breed SaaS companies have figured out how to maintain configurations and integrations with other software across these upgrades.

Four general types of metrics have been adopted by SaaS vendors: Access, Users, Usage, Performance. These can be blended to create many unique solutions.

Access A company pays for access to the application and data, regardless of how many users there are or how much usage is made. This metric makes sense for applications with a large differentiated value that have relatively few users or intermittent use, and whose value generation depends on relatively unfettered access. A refinement of this is to breakdown pricing by function.Examples:

salesforce.com charges different per user fees for its Group, Professional, and Enterprise licenses.

LeveragePoint’s Group, Division, Enterprise pricing.

Users The number of users that can access the application is a common metric, this can be the absolute number of users or the number of named users (when people need to personalize their data). Per user metrics make sense when the value created by the application is primarily at the individual level or there are operating costs that scale with the number of users. This is the most common pricing metric for SaaS vendors and is used for many services by industry leaderssalesforce.com and NetSuite.
Usage In some cases it is how often the software is used, or how many resources that are consumed, that maps best to value or cost. This approach is especially relevant to commoditized services such as cloud computing.Example:

Basecamp has different charges depending on how much storage you need.

Doczone, an XML content management system, charges by the page.

Performance The ultimate pricing metric is to link price to outcomes. Typical examples are a percentage of savings, or a percentage of new sales, or a percentage of margin improvement. These pricing metrics are rare because outcomes usually depend on multiple inputs and it can be very difficult to untangle these.Example:

Pay-per-Click in Google’s Adsense is the classic SaaS example.

One start-up has used LeveragePoint for Value Management to uncover an interesting pricing metric. This company provides a service that tracks how messages propagate across social media such as FaceBook, Twitter and LinkedIn. The application is used by marketing companies to track social media campaigns and the pricing metric is per campaign. At some point this company may want to find a performance metric in which they get paid based on the effectiveness of the campaign!

SaaS Pricing is a rapidly evolving topic, here are some other informative posts.

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