Decisions regarding pricing are of crucial importance for SaaS businesses. The first decision point usually relates to whether you are contemplating a Freemium offering or choosing to charge from the off. The pro’s and con’s of launching with a Freemium offering are well documented but regardless this decision warrants some thought. Additional areas to consider include:
1/ The number of price tiers you plan to offer
2/ Which currency you plan to anchor in
3/ Whether you plan to dynamically price around the world (changing currency based on IP address)
4/ The indicative price ranges you plan to launch at.
As you evaluate the above, the following list represents some of the key things to consider when evaluating the pricing strategy for your SaaS startup.
Don’t Underestimate The Importance of Pricing
In terms of SaaS startup decisions, pricing is a critically important consideration but an area that does not always get the attention it deserves. The good news is that decisions on pricing are largely reversible ones meaning entrepreneurs can test their pricing without much downside.
Pricing decisions inform much more than just the ‘price’, as it impacts everything from the ‘approach to sales’ to the very viability of the ‘business model’. For example a low monthly price point must be aligned with a self service ‘zero touch’ model whereas a high price point will likely need a ‘field sales’ based approach to the market.
(Understanding SaaS: Why the Pundits have it Wrong by Scott Kupor and Preethi Kasireddy)
2. Think in Terms of a Pricing Range
It is useful to think of pricing in the context of prospects across a continuum from hunting ‘elephants’ (a small number of huge customers) to targeting ‘fleas’ (a large numbers of small/ free customers).
Entrepreneurs need to be really clear as to where the realizable value for prospects lies when viewed in the context of $1/ $10/$100/ $1000/ $10000 a month pricing. Are there substitute offerings or analogs you can use as reference points? How big is the pain your solution seeks to address?
Once you are clear where you fit you can then assess the resultant implications of the price range in terms of the marketing strategy (including budgets) as well as the preferred lead generation approach i.e. content led versus outbound led.
You can also use the indicative range to align with your investment requirements, the cost of customer acquisition (CAC), the sales complexity and what this means in terms of your approach to sales (self service versus field sales). Knowing whether you are hunting elephants or fleas is of paramount importance in terms of how you allocate your resources.
(Five ways to Build a $500m business by Christopher Janz)
3. Align Pricing with the Business Model
It is also useful to think about the differences between ‘Freemium’, Low Touch, Inside Sales, Field Sales, and how these different approaches need to align with the proposed price points and sales complexity so as to help you avoid the ‘Startup Graveyard’ so aptly described by Joel York. For example, If you need to demo your application face to face, the cost of acquisition will likely be significant and your price range will need to reflect this. Whether your offering is primarily a B2B or a B2C one will also impact your decision here.
SaaS businesses are particularly tough on cashflows, as marketing costs occur up front, and (uncertain) revenues are generated into the future. For innovative startups the Life Time Value (LTV) is practically impossible to calculate at the start up stage and costs need to be managed very carefully so as to ensure the business stays afloat.
Startups lack historical data on which to base future revenue projections accurately so while costs are largely knowable, the Life Time Value is difficult to calculate accurately for early stage businesses.
However, once traction is achieved, and the business matures, SaaS businesses can generate strong ongoing cashflows with negligible associated costs. Hence the appeal of SaaS businesses! The key is to get your business to that point. If there is even the slightest disconnect between the price point and the product complexity you could be in big trouble.
(Three SaaS Sales Models by Joel York)
4. Seek Out Analogs
It is vitally important to learn from the experiences of others within your wider competitive space, particularly those further along their journey and those offering ‘broadly similar’ or substitute offerings. Pricing needs to also reflect the competitive set to ensure you are not pricing yourself out of the market.
Anchoring your pricing at a similar range to more established SaaS businesses who may offer broadly similar solutions also makes sense e.g. at Xpenditure we look to ensure our pricing aligns well with other B2B productivity solutions within the expense management space.
“If I have seen further, it is by standing on the shoulders of giants” Isaac Newton
(Getting to Plan B by John Mullins)
5. Use Real Data to Inform Decisions
Pricing in a vacuum is hard, and the old ‘cost plus’ methods hold no weight in SaaS. Pricing needs to be more closely aligned with customer value (which can vary greatly by segment).
By a/b testing different pricing pages it is possible to use data to help inform decisions. Lacking traffic? Buy some PPC adverts and direct eyeballs at two different Unbounce landing pages and measure the results.
“Given the dynamic pricing environment, the most effective way I’ve found to pursue the right pricing is to test constantly and then compare different prices’ effectiveness at maximizing customer lifetime value. This is the process I’ve been using to benchmark different price points.” Tom Tungz
If you do decide to raise prices based on new data, it is best to ‘grandfather’ existing customers when increasing prices (retaining existing/ older and more loyal customers on the older prices) and not charging them the higher price.
(How to Determine which Price is Best for your SaaS Startup’s Product by Tom Tungz)
6. Focus on Optimizing the Pricing Page
Entrepreneurs also need to consider versioning from the get go, and need to reflect on how different versions are needed as the product matured.
Decisions regarding what feature(s) to ‘version on’ (price discriminate) can be complicated and can result in cash being left on the table. ‘On page’ psychology on pricing pages has become increasingly important, as companies look to signpost products to different segments and to nudge prospects towards taking the first step.
The views on naming conventions have also evolved. It is very much a case of ‘Out with Premium and Basic’ and ‘In with Enterprise, SMB, Freelancer’ etc helping the various segments self select based on their needs as well as their group.
Derisking the decision for time pressed prospects is also of crucial importance, which explains the increase in ‘no credit card required’ sign ups as well as the placement of testimonials, and customer validations as forms of social proof (usually including well known logos) at the point of purchase.
(Hooked by Nir Eyal)
7. Obsess on Key SaaS Metrics
Entrepreneurs must also ensure adequate tracking is in place to ensure they are not funnelling prospects into ‘leaky buckets’ (applications that fail to retain users). Startups needed to ensure retention by delivering early value and applications like Intercom can help SaaS companies pre-empt churn based on data related to in-app behaviours.
Onboarding needs to be ‘frictionless’ and product managers need to ensure the ‘blank slate’ problem is adequately dealt with so new users are not left feeling underwhelmed by the application. (The blank slate is essentially the empty natural state of an app without any data in it).
(Backstage: Designing the New Blank Slate for Basecamp Jason Fried)
8. Increase Prices as the Product Matures
It is also important to ensure pricing strategies are evaluated regularly. As the feature set matures, and segments emerge where the value being obtained is now disproportionate to the price, having the confidence to increase it is paramount. Pushing bug fixes, feature releases and enhancements on a regular basis quickly mount up in terms of delivering additional value. Ensuring heavy users pay a premium is only fair (driving average revenue per user is a key component of growth). The decisions you will have made about versioning and what you are metering on will be vital here.
Finally, entrepreneurs need to be aware of ‘cohort analysis’ and the importance of assessing customer data based on their cohort (typically those who subscribed at the same time as them). One would hope that over time that cohorts become more sticky, as an improved feature set delivers better value to the different emergent segments, than those early adopters who signed up for version 1 barely out of beta.
(What I Learned from Increasing my Prices by Ruben Gamez)
9. Know your Customer Segments
Like all businesses, ‘knowing your customer’ is critical for SaaS businesses. The world is your market and customers can be based anywhere.
Even simple signals on a pricing page like ensuring currencies reflect the currency of the ‘majority of customers’ is crucial (particularly for US prospects given the market size and appetite for SaaS applications). British companies like Geckoboard price in $ for this very reason (others use IP detect software to change prices based on IP location).
It is also important to recognize the challenges of a ‘Freemium led’ approach so as to ensure you don’t fall into the trap many others have fallen into where whole swathes of users are perfectly content with the Free and have no intention of upgrading (e.g. Spotify, Evernote, Trello etc). If these same free users require support of any kind - it could signal the death knell of your business.
Using personas to develop segmented offerings also helps to ensure that your marketing efforts indicate a strong awareness of their unique requirements will also help.
10. Track Core KPI’s and Metrics
SaaS business are really all about ‘the numbers’. Ensuring the team are au fait with everything from Monthly Recurring Revenue (MRR) to Churn Rates to Life Time Values ensures that there is full clarity re the performance of the business and where it needs to get to.
SaaS applications offer tremendous value to customers and entrepreneurs alike. But with most cancellations a mere click away, attention to detail is everything. By focusing on building a compelling proposition, that delivers real value to users on an ongoing basis (ensuring stickiness) will help ensure your SaaS startup thrives.
In summary, while focusing on customer acquisition and lead generation often represent the primary focus of sales and marketing teams at many startups, spending more time on your pricing strategy can have a disproportionate impact on your bottom line.
( SaaS Metrics by David Skok)
Additional Resources on SaaS pricing:
1/ David Skok @BostonVC from Matrix Partners
2/ Lincoln Murphy @LincolnMurphy from Gainsight
3/ Patrick McKenzie @patio11 from Starfighter
4/ Joel York @chaoticflow from Chaotic-Flow
5/ Tom Tungz @TomTungz from Red Point
6/ Mark Suster @msuster from Upfront Ventures
7/ Patrick Campbell @Patticus from Price Intelligently
This article originally appeared on Medium