Let’s be honest. Pricing is the hardest part of building a SaaS product.
If you can’t wrap your head around how much to charge your customers (or how to charge them, for that matter), we don’t blame you.
Companies have to innovate at record speed, attract customers, and retain them, which is tough in a market where 55% of sellers say “budget” is the most common reason deals fall through.
As a whole, pricing strategies are evolving (and not in a way that makes life easier). Now, we see companies using product bundles, multi-factor pricing, usage-based pricing, and blended subscription and consumption models at higher rates.
A company’s pricing is closely tied to its value proposition. Does it draw in customers? Do they agree with the price point? Do the product’s features reflect the continued value they receive from using it?
In 2023, Invesp studied thousands of SaaS companies, and discovered the following:
- 98% of SaaS businesses reported positive results from making core pricing changes.
- Roughly four in every five SaaS companies change their pricing at least once per year.
- Most vendors use value-based (39%), usage-based (38%), and/or seat-based (50%) pricing.
- Interestingly, the typical SaaS company only spends 6 hours (total) deciding its pricing strategy.
A 2021 OpenView Partners study of 2,200 SaaS companies backs the fourth stat — apparently, just 6% of software companies have done sophisticated pricing research to understand buyers’ needs, perceived value, and willingness to pay.
Early- and expansion-stage companies especially have a blind spot when it comes to pricing, but what difference does it make if everyone’s winging it anyways?
A big one.
It’s Complicated: Factors Influencing SaaS Pricing
SaaS pricing isn’t an exact science. It takes into account features, customer interest, competitor pricing, cost of production or development, and many other factors — none of which are easy to juggle if you want to create a fair and profitable model.
It’s important to price based on value, not cost. How do customers feel about your product? What does it mean for them (and their business)? What are they willing to pay?
Perceived value is elusive and difficult to quantify because it’s subjective. Navigating between cost, price, and value is a balancing act, and everything falls apart if the “agreed-upon” price isn’t profitable for the company.
And SaaS companies have it harder than most when it comes to this concept — perceived value and the actual value a user gains from using a SaaS couldn’t be further away from each other.
SaaS products are developed once, scaled, and updated over time. They don’t carry the same production costs as a physical product, nor do they carry the same time constraints as a regular service. Continuous improvements drive down costs, which creates a scenario where 71% of businesses anticipate 10% revenue growth (or higher) from cloud automation, but many automated SaaS products start at a few hundred dollars per month, if that.
In the SaaS world, customers increasingly expect more value for less.
Customer needs and segments
We often think of B2B sellers as rational thinkers who have objective needs. The reality, according to Harvard Business Review, is quite the opposite. Plenty of B2B customers prefer interactions that fuel emotional and psychological needs — even if they require more time or money.
According to the study, what B2B customers really want is autonomy. 58% would prefer the ability to choose multiple products over being offered one that solves all their problems. And 76% would rather have a provider that taught them how to solve them on their own.
Based on additional research, 68% of buyers don’t even want to interact with a sales rep at all. And many are further than 80% of the way through the buying process before talking to sales.
Across all your customer segments, there is one constant: they’re all comparing your pricing with competitors, evaluating their needs, and creating a value perception before talking to someone from your company (if they ever do).
This makes it extremely difficult to know what they’re looking for. And it makes it even harder to understand how much they’re willing to pay for it.
It’s hard to stand out when other SaaS companies seems to offer features at similar (or lower) price points. Competitor-based pricing works well in the auto, telecom, and smartphone industries. But SaaS platforms are a lot different.
Although general pricing ranges are well-defined in most SaaS verticals, basing your pricing solely off a competitor’s completely misses the mark on what makes your product valuable. And if a customer compares two solutions to one another, there’s no guarantee that they’ll favor one over the other just because it’s cheaper.
Competitor pricing is a solid North Star if you’re testing market response for different price points. But as your company matures, you’ll need to differentiate your product and reflect that in your pricing.
There are several different SaaS pricing models:
- Flat-rate pricing — billing customers a set monthly or annual cost for access to your SaaS platform.
- Value-based pricing — charging based on the customer’s perceived value of your product.
- Usage-based pricing — tracking customers’ product usage and billing them at the beginning or end of the month for the exact amount.
- Per-user pricing — adding additional users or features, and charging a fee for each (technically, a form of usage-based pricing).
- Bundled pricing — offering multiple products as one package at a discounted rate.
- Tiered pricing — segmenting your customer base into different buckets (e.g. basic, premium, enterprise) based on the features they need or how much they use your product.
In reality, most companies use a combination of some or all of these pricing models. 83% of SaaS companies use tiered pricing, but most also have add-ons, bundle offers, and usage/seat-based offers.
Salesforce CPQ, for instance, offers two simple price tiers on a per-user-per-month basis. But things get tricky when you zoom out to look at the entire Salesforce ecosystem.
Saying “We are going to charge $X per user per month for Product X” is the easy part. The challenge is knowing which features to add where and how to scale that pricing model across your entire product suite.
Things we can’t explain
Market dynamics are constantly changing and customer (i.e., human) behavior will always be somewhat unpredictable, which is why SaaS product pricing is so tricky to master. Whether or not your SaaS pricing strategy is well-received might not make sense, even if you “do everything right.”
- In pricing your product similar to competitors, you could fail to notice a gap in the market that would make your product more valuable.
- You might overestimate demand and underestimate competitors’ ability to quickly adapt their pricing.
- You could implement usage-based pricing only to learn the hard way that the industries you’re selling into prefer a flat rate per user per month.
- Customers might not understand your pricing to begin with.
That’s why, even with all the data at your disposal, SaaS pricing is never 100% done. And there will always be some guesswork. Market dynamics and customer needs are constantly changing (hence why almost 80% of organizations revisit the topic so frequently).
But pricing is predominantly a reactionary measure. A rock-solid pricing strategy could quickly become your secret weapon for sustained competitive advantage.
Getting it Right: Overcoming SaaS Pricing Challenges
Yes. A statistically small number of companies spend even a day’s worth of time on their pricing strategy. Even up to the IPO stage, most pricing decision-makers are blindfolding themselves, throwing a dart, and hoping to hit a bullseye.
It doesn’t have to be guesswork, though. Software, data, and testing go a long way when it comes to SaaS pricing success.
Let’s take a look at a few best practices.
Balance CAC with LTV to ensure pricing alignment
First and foremost, you have to know what it costs to acquire a new customer. That’s how you know if your pricing strategy is making you money or bleeding it away.
Calculating customer acquisition cost (CAC) is simple:
To fully understand your CAC, you’ll have to factor in marketing costs, sales costs, discounts, and operating expenses.
Once you have your CAC, you’ll need to compare it with the lifetime value (LTV) of your customers. This helps you understand if the cost is worth it in the long run.
The formula for LTV is:
According to data from Latka, bootstrapped companies spend between $0.28 and $0.94 to earn one dollar in new ARR. If you charge $1,000 per year for your platform as a bootstrapped founder, you can expect a CAC of between $280 and $940.
Although the average SaaS company loses 92% of its first-year revenue to customer acquisition, the high cost is justified if your customers stick around for a while. For SaaS companies, a CAC:LTV ratio of 1:3 is the standard benchmark.
When pricing your product, carefully consider how long your average customer sticks around. Then, calculate a price that gets them to spend at least three times what it costs to acquire them.
Plan to scale
Your pricing model needs to scale with you — customers with evolving needs should be able to add new users without worrying about changes to cost structure (with the exception of enterprise, of course).
It also needs to be able to handle a growing user base. Early-stage companies frequently underestimate the rising development, maintenance, and support costs associated with running a software platform for 1,000 multi-seat customers across the country versus 50-100 in a small market.
As you enter new markets and expand your product, create price tiers to serve small, mid-size, and large companies in their own regard. And figure out the cost of additional development resources before you price your products, bring them to market, and support a growing user base.
Avoid complex pricing structures
The customer journey is already hard enough. 77% of B2B buyers say their last purchase was “very complex,” according to Gartner Sales Insights. And pricing plays a huge role in that.
According to the abovementioned Invesp study, only 39% of SaaS companies display pricing information on their website. And we know why — many companies find it impossible to relay pricing info upfront because it’s too inherently complicated.
Sometimes, increasing the level of customizability is good for business. But most of the time, it complicates the process.
The whole point of SaaS is to provide a frictionless customer experience. Standardizing pricing increases sales velocity and significantly improves your chances of having customers understand what they’re paying for, which is the first step to getting your foot in the door with them.
Opt for flexible pricing models
Flexibility means something different to every organization. But there are a few primary ways to bring it into your pricing.
- Tiered pricing. The easiest way to simplify your pricing is to divide your product into three tiers. If you need to, you can add a quote-based enterprise solution with custom pricing. Restricting access to advanced features ensures your lower-tier customers aren’t overpaying and underusing your product and justifies the value of higher-priced packages.
- Usage-based pricing. Usage-based pricing is an increasingly popular model becauase it lets customers pay for what they use. This could mean usage by the hour, app feature, or functionality type — whatever makes the most sense for your product.
- Freemium. Freemium models are also gaining traction in recent years. Signing up for a free trial is a no-brainer for most, and it’s an easy way to introduce and familiarize new customers with a product. With a benchmark conversion rate of 18.2%, you’ll convert considerably more customers this way than with sales and marketing alone.
It also helps to create custom CPQ bundles (with restrictions) to streamline your pricing and maximize revenue. For the customer, this simplifies pricing and allows them to add more users to a license. Restricting the number of licenses or features they can access in each product tier can gradually move them up to a higher one as they scale their needs.
Use data insights
As you test different price points for your SaaS product, you 100% need to collect and store the data. That way, you can examine how many customers buy at certain price points and where they stop converting.
Since A/B testing your prices on your customer base and raising your prices on new customers too quickly are huge no-nos, most SaaS orgs find this to be a years-long process.
Here, CPQ software will be your best friend. Since it’s the machine behind your product configuration (and sometimes has a pricing engine of its own), you can use it to understand which price points your customers accept for each product, bundle, and subscription tier.
You can also use it to understand your customers on a granular level. For example, you can compare customer data like region, company size, industry, and usage frequency to find out which tiers and pricing strategies work best in each case.
Don’t be afraid to experiment
Again, don’t A/B test SaaS pricing on your customers. That’ll only frustrate the ones paying the higher price for the same product. But experimenting with pricing the right way won’t hurt at all.
Start by surveying your customers to understand the value they’re getting from your product. Ask them questions about their usage, benefits of using your platform, and how they’d feel if the prices were lower or higher. Then, adapt your pricing strategy over time based on customer feedback and market dynamics.
One simple hack that can help you gauge your product’s value as it relates to price is to offer an introductory price (e.g., first six months for 50% of the cost when you subscribe for a year). If customers are willing to pay the lower cost but churn after the promo year ends, you have your answer. Regardless, you secured a year’s worth of revenue and learned something (and you didn’t have to change your pricing on any of your loyal customers).
Be proactive – continuous pricing optimization
Historically, most companies have taken a reactive approach to pricing. By monitoring market trends and competitors’ pricing strategies, you can create a sustained competitive advantage by way of pricing.
Make sure you’re constantly testing different prices and product bundles to figure out where customers respond the most. And as you scale your SaaS org, bake profitability into the pricing equation ahead of time for sustainable growth.
Achieving the end goal requires mountains of data, which you won’t have at first. But your customer data and competitive intelligence will compound over time. That’s when AI-driven predictive pricing models start to “predict” the future more accurately.
All of a sudden, you’re ahead of the curve.