As the popularity of the subscription business model continues to surge, more and more companies are looking to tap into lucrative recurring revenue streams. This model has been particularly revolutionary in the software-as-a-service (SaaS) industry, where it has become the modus operandi in pricing digital products and services.
One of the biggest challenges in setting up a subscription offering is determining the best pricing strategy to maximize revenue and customer retention for long-term growth.
In this blog post, we’ll guide you through the complexities of subscription pricing, explore various types of subscription-based pricing models, weigh their benefits and drawbacks, and highlight important factors you should consider in your decision-making process to find the optimal subscription pricing model.
Table of Contents:
- What Is a Subscription Pricing Model?
- The Different Types of Subscription-based Pricing Models
- Factors to Consider When Choosing a Subscription Pricing Model
What Is a Subscription Pricing Model?
A subscription pricing model is a pricing strategy in which customers pay a recurring fee, at regular intervals, in exchange for uninterrupted access to a product or service.
This approach has proven to be a highly effective business strategy that generates predictable and steady recurring revenue. At the same time, it has widened the top of the sales funnel, allowing customers to access products and services that might otherwise be too expensive to purchase with heavy upfront one-time payments.
Examples of subscription-priced services include streaming platforms like Netflix, academic journals like JSTOR, and SaaS tools such as Adobe Suite to name just a few.
The Different Types of Subscription-based Pricing Models
Let’s start by familiarizing ourselves with some of the most popular subscription-based pricing models, alongside their best market fit, benefits, and potential drawbacks.
Flat Rate Subscriptions
Flat rate subscription is a pricing model where customers pay a fixed price to access all the features of a single product. Users are charged the same amount at the start of each billing cycle, making this a predictable and straightforward pricing model for businesses and customers alike.
Fixed pricing works best for subscription services/products offering a fixed set of limited features, with a customer base that fits into a single buyer persona.
- It is easy, simple, and straightforward
- Predictable billing cycles simplify accounts receivable functions
- Resources are freed up for growth-oriented activity, since complex price-tailoring tasks are eliminated
It may not be the most cost-effective choice for B2B SaaS companies. This is because the one-size-fits-all strategy would gate keep the product from start-ups and SMEs, while creating revenue leaks from undercharging high-usage enterprise-level accounts utilizing your subscription offering.
Another popular subscription-based pricing model is tiered subscriptions. Tiered pricing involves offering different subscription plans at various price points that give users access to different suites of features.
This typically includes basic, standard, and premium plans, but can be entirely tailored to your specific business needs and targeted customer base.
Tiered subscriptions are highly popular amongst SaaS companies. This is because SaaS products frequently have many different product features, and must cater to a diverse pool of customers with varying needs, budgets, and intended usage of the product/service.
- It is scalable and flexible
- It offers a higher Average Revenue Per User (ARPU)
- It caters well to multiple different buyer personas
- The option to upgrade/downgrade with changing needs drives up your customer lifetime value (LTV)
If executed poorly, it can lead to a phenomenon called analysis paralysis. Giving your customer too many complex options may complicate pricing to a point where they don’t make a purchase simply, due to a lack of clarity.
Clearly differentiating the value gap between differently priced tiers is essential to prevent this pricing strategy from negatively impacting customer acquisition.
Also termed pay-as-you-go and consumption-based pricing, usage-based subscriptions charge your customers based on their usage of your product/service. Customers pay only for what they use.
Usage-based pricing can only be utilized by businesses whose offerings can be tangibly measured. Charging a company based on the number of clicks their website receives doesn’t make a lot of sense, as this isn’t one of the more regular and useful Saas pricing value metrics.
However, SaaS product usage can easily be tracked with the help of subscription management vendors, with the ability to track customer usage of the product/service. Utility companies also regularly use consumption-based pricing as meters are set in place to measure units of energy, water, and other utilities being used.
- It offers unparalleled flexibility to customers
- It improves customer acquisition and promotes retention, even in times of economic uncertainty, due to low upfront costs
- It maximizes revenue from heavy usage accounts instead of offering them unlimited service at a flat rate
It is easy to see that this is a complex pricing mode for businesses to tackle. It complicates the billing and accounting functions, as charges vary in each billing cycle with no permissible margin for error. This requires subscription companies using this pricing model to have robust systems in place for accurate usage monitoring and automation to support billing and invoicing tasks.
Per User Subscriptions
The per-user subscription pricing model is a strategy used by companies that charge customers based on the number of users who will be accessing their product or service.
In this model, the price of the subscription depends on the number of active users, with each additional user resulting in an additional fee.
The per-user pricing model is popular for B2B SaaS companies and cloud-based solutions, where the number of users can vary, depending on the needs of the company. For example, a company may want to purchase a SaaS tool for its employees and want its subscription to seamlessly scale with the company.
- It offers transparency and flexibility to customers that pay only for the volume of usage they need
- It scales with the business, increasing your customer lifetime value (LTV) Drawbacks: This pricing strategy may be perceived as a barrier to entry for small start-ups that may find it expensive to pay per user, as they enter growth sprouts. Similarly, large companies may find it to be expensive as well, as costs may pile up. Additionally, accurately predicting the number of users and settling on a price point may prove challenging. Discrepancies can lead to disputes and unhappy customers, damaging your customer retention metric.
Per Added Module Subscriptions
In this model, you offer a base product with a flat fee and customers pay extra for added functionality by adding on other available modules.
Per added module pricing works best for companies offering a core product that can be modularized. This means they can choose between multiple available modules and functionalize the core product, according to bespoke needs.
- It offers customers a high level of customizability
- It offers a product that can scale with the customer
- It incentivizes upgrades leading to revenue expansion through upselling/cross-selling opportunities
This pricing model may prove to be a bit complex for customers to understand. Costs may pile up when adding functionality to the base product, which may leave customers feeling nickel-and-dimed for every little service they avail.
Because of this, the competitive pressure may also rise, particularly if competitors are offering a base product at a flat rate with similar functionality, but through a more straightforward pricing arrangement.
Now that we are familiar with most of our major options, let’s explore what factors you should consider while choosing which pricing model is right for your business.
Factors to Consider When Choosing a Subscription Pricing Model
The following are some key factors to consider in your decision-making process:
Know Your Customers
Understanding your customers’ preferences is essential in developing pricing plans that will work for them and encourage them to make a purchase. After all, they are the ones who will be paying for your product/service.
Consider asking the following questions:
- Who are the people that benefit from your subscription product/service?
- How much are they willing to pay for your offering?
- What are consumer behavior trends in your industry?
Some customers may be willing to pay more for premium services, while others may be price-sensitive. Some may be put off by per-added module pricing and prefer to pay more for the same functionality in the form of a flat fee.
The best way to know your customers is straight from the horse’s mouth, through direct customer feedback.
One effective way to gather customer feedback is through surveys. You can send out surveys via email or include them on your website. The questions you ask should be designed to elicit honest and valuable responses from customers about their experience with your product/service, and what they would like to see in a pricing plan.
Another way to gather customer feedback is through customer support channels, such as chatbots or phone calls.
Customers may reach out with questions about pricing or express concerns about the current pricing model. These interactions can provide valuable insights into how customers perceive your product/service, and what changes could be made to improve the pricing model.
Data analytics play an indispensable role in understanding customer behavior, preferences, and usage patterns.
Businesses can gain valuable insights into how their customers interact with their products/services. By leveraging data, businesses can discover what features are most commonly used by customers.
This information can be used to develop tiered pricing plans that offer different features at different price points, ensuring that customers only pay for what they need. Another benefit of data analytics is the ability to track customer churn rates.
By monitoring when and why customers cancel their subscriptions, businesses can identify areas where improvements could be made to prevent future cancellations.
Data analytics also provides insight into the effectiveness of promotional offers and discounts. By tracking the success rate of these offers, businesses can determine which promotions are most effective at driving new customer acquisition and increasing revenue.
Determine Your Costs
Pricing is a lot simpler for product-based businesses – simply add manufacturing costs, shipping costs, and any overhead charges to come up with a fair price for your product. Setting subscription prices is a little more involved.
This includes fixed and variable costs such as production costs, marketing expenses, shipping fees, customer acquisition costs, and overheads. Understanding your costs will help you set prices that ensure profitability, while still offering value to your customers.
Consider Your Competition
It is also important to consider the competitive landscape when choosing a subscription pricing model.
What are your competitors offering their customers in terms of pricing plans? What features do they offer, and how much are they charging for them? How does this compare to your own product/service?
By understanding what your competitors are doing, you can better position your own pricing plans and ensure you remain competitive.
Offer Multiple Pricing Tiers
Offering multiple pricing tiers is an effective way to cater to different buyer personas and widen the top of your sales funnel. For instance, you can offer basic, standard, and premium subscription plans, each with varying features and prices. This way, customers can choose the plan that best suits their needs and budget.
Watch Your Bottom Line
The proof is in the pudding – watch your bottom line to ensure your pricing strategy is functioning optimally in both customer acquisition and retention. If you just aren’t growing at the rate you want, one culprit could very well be your pricing model, as this lies at the heart of your revenue generation capacity.
Test and Refine Your Pricing Strategy
Pricing is not a one-time decision. It’s essential to continually test and refine your subscription pricing plans to ensure they remain competitive and keep providing competitive value to your customers. Collecting feedback from your customers is also crucial in identifying areas that need improvement and making necessary adjustments. Exit surveys are a great way to achieve this.
In conclusion, subscription-based pricing models have become increasingly popular in recent years, especially in the software and digital industries. This pricing model offers several benefits, such as predictable revenue streams, lower upfront costs, and easier customer retention. Additionally, it allows businesses to provide a more customized and personalized experience for their customers, as they can tailor their services to meet specific needs and preferences.
However, it is essential for businesses to carefully consider their pricing strategies and ensure that their subscription plans are transparent, easy to understand, and provide value to their customers. They should also continuously monitor and adjust their pricing models to ensure that they remain competitive and meet the evolving needs of their target audience.