Usage-Based Pricing for Your SaaS Startup: The Complete Guide of Everything You Need to Know

September 5, 2023
Pricing Models
Usage-based pricing, also known as metered billing, is becoming increasingly popular among SaaS startups. This pricing model allows customers to pay only for the resources they consume, which is in many cases resulting in higher customer satisfaction and better alignment between the value customers receive and the price they pay.

As a result, many SaaS companies are considering implementing a usage-based subscription model, and even their VCs want them to do it. You might wonder if you should do the same. Usage-based pricing really is the hype topic of SaaS recently. Implementing it can be down in-house, but most often, it is better to use a billing software vendor. Which one should you use? What are the potential pitfalls of implementing a usage-based model? One thing is for sure - usage-based billing is not a one-size-fits-all solution. It may not be suitable for your customer base, depending on factors such as the nature of your product, your use case, target market, and how your customers buy and use your product.

The Evolution of Usage-Based Billing: From Telecom to SaaS

Usage-based billing has its roots in the telecom industry, where companies have been charging customers based on their usage of services like voice, SMS, and data for decades. Traditionally, implementing usage-based billing was a significant technical challenge, requiring complex billing systems and processes to accurately track and bill customers during each billing cycle.
Today, advances in technology have made it much easier for SaaS startups to implement usage-based billing. Cloud infrastructure, APIs, and automation tools have simplified the process, making it possible for even small startups to adopt usage-based pricing models without the need for significant investment in custom billing infrastructure.

Why You Should Not Choose a Usage-Based Pricing Model

While usage-based pricing can offer significant benefits for your SaaS company, it's essential to recognize that it may not be the right choice for every business. Here are some reasons why a usage-based pricing model may not be suitable:
Disincentivizing Product Usage
With usage-based pricing, customers pay based on the resources they consume in the billing period. This approach can sometimes discourage customers from fully utilizing your product, as they may be worried about incurring higher costs. This can ultimately limit the value customers derive from your product and negatively impact their overall satisfaction.
Resistance from Traditional Industries
If your target market includes old-fashioned industries or customers who prefer fixed-cost contracts, a usage-based pricing model may not be well-received and they might not understand how your billing works. These customers may feel uncomfortable signing a contract without knowing the exact cost upfront, making it more challenging to close deals and build trust.
Enterprise Procurement Policies
Some large enterprises have strict procurement policies that may not allow for usage-based pricing models. These policies may require fixed pricing or budget caps to ensure predictability and control over expenses. In such cases, a usage-based pricing model may limit your ability to sell to enterprise customers and hinder your growth in that segment.
Complexity in Billing and Customer Communication
Implementing a usage-based pricing model can introduce complexity in billing and customer communication. Accurately tracking usage data, generating invoices, and communicating costs to customers can be more challenging compared to fixed pricing models. This may require additional resources and effort to manage effectively.
Predictability of Revenue
One of the advantages of fixed pricing models is the predictability of revenue. With usage-based pricing, you will have unpredictable revenue, depending on customers' usage patterns and your value metric. This can make it more challenging to forecast revenue, manage cash flow, and analyze your revenue streams.

Before deciding on a usage-based pricing model, carefully consider these potential drawbacks and evaluate whether this approach aligns with your target market, product offering, and overall business strategy. It's crucial to choose a pricing model that best supports your business's growth and long-term success.

Choosing the Right Usage-Metrics for Your Usage-Based Pricing Model

Selecting the right value metric is a crucial step in implementing a usage-based pricing model. The chosen metrics should accurately reflect the value that customers derive from your SaaS product. Here are some considerations when selecting usage-metrics for your pricing model, along with examples to help illustrate these points:
Understand your customers' needs
Identify the key features and resources that your customers value the most and base your usage-metrics on those elements. For example, if your SaaS product is a project management tool, you might consider tracking the number of active projects or tasks as a usage metric. Your customers might even have some specific needs based on their location such as payment processing in a specific currency.
Monitor customer usage patterns
Analyze usage data to identify trends and patterns that can help you select the most relevant usage-metrics. For instance, if you offer a data storage service, you might find that customers with larger storage needs also require more data transfers. In this case, you could consider using both storage capacity and data transfer volume as usage metrics.
Align with your business goals
Choose usage-metrics that support your overall business objectives, such as customer acquisition, revenue growth, or customer retention. For example, if your SaaS product is a video conferencing platform, you might opt for a usage metric based on the number of meeting minutes, as it directly correlates to customer engagement and retention.
Test and iterate
Be prepared to experiment with different usage-metrics and make adjustments based on customer feedback and performance data. For example, a customer support tool might initially use the number of support tickets as a usage metric but later switch to tracking the number of resolved tickets or response time to better align with customer satisfaction and value.
Examples of usage-metrics in different industries:

API services: Number of API calls or data points processed.
Data storage: Storage capacity used and data transfer volume.
Video conferencing: Number of meeting minutes or participants.
Customer support: Number of support tickets, resolved tickets, or response time.
Email marketing: Number of emails sent or subscribers.

What to Look for in a Vendor to Automate Usage-Based Billing

When selecting a usage-based billing system, consider the following factors to ensure the solution meets your business's unique needs:
Customer Self-Serve Usage Monitoring
Opt for a billing platform that includes the capability for customers to monitor their own usage in the billing portal. While it's possible to build this feature in-house, it requires significant engineering effort for both initial development and long-term maintenance. Choosing a vendor that offers this feature out-of-the-box can save time and resources.
Multiple Usage Metrics per Plan
Many usage-based billing vendors only support monitoring one usage metric per plan and no other usage-based models. However, your business may already be using plans with multiple usage metrics. Look for a vendor that allows tracking and automatic invoicing for multiple value metrics per plan to minimize manual work and ensure accurate billing.
Minimized Engineering Effort
One of the main reasons for seeking a usage-based billing vendor is to avoid building and maintaining the billing infrastructure in-house. Integration into your existing stack and connecting to your data warehouse might be important factors to consider too.
Support for a Broad Range of Pricing Models
Choose a billing platform that supports various pricing strategies, including usage pricing, tiered, per-seat, and add on pricing to cater to make sure that you do not have to change your billing model or are not able to expand your product offering as planned just because of the billing software you selected.

Examples of Usage-Based Billing Vendors

Several vendors specialize in usage-based billing for SaaS startups, including:
A popular subscription management and billing solution that supports usage-based pricing, although with some limitations in terms of real-time usage tracking and customer self-serve monitoring. Chargebee integrates with various payment processing providers, making it a versatile option for SaaS companies with products with low complexity.
Metronome is a billing solution that is focused on usage-based models. The solution provides a broad range of integration options and aims to replace more traditional billing vendors. It specializes in providing the appropriate data infrastructure, billing logic, and real-time architecture for usage-based billing.
A billing platform designed specifically to support any complex SaaS pricing model that includes any usage-based component and their correct billing down to every line item, offering real-time usage tracking, customer self-serve usage monitoring, and customizable subscription billing logic. Wingback's billing platform integrates with your data warehouse, allowing you to collect and analyze consumption data to grow your revenues.

Keep in Mind That Your Business Model is Most Likely Not Just About Usage

While usage-based pricing is a hot topic, it's essential to remember that your business model may not solely rely on usage. In fact, many SaaS businesses that you think of as usage-based actually adopted blended models that combine usage-based pricing with other pricing structures to create more complex pricing strategies. For instance, Zapier offers subscription tiers that include consumption as one of its main variables, reflecting the trend of combining different pricing elements. SaaS pricing becomes more complex, especially when selling to enterprise companies.
More complex business models means billing models are becoming more complex too - and when different customers are on different plans you have to make sure that you support them all at once. One customer might signed up for a higher usage volume of one feature, while another has a fixed usage quantity for free and only pays for overages of the value metrics, while another has a pricing structure that pays four instead of two billable metrics but only the usage quantity of one feature went beyond a certain threshold. In fact, your plans can look complexly different from customer to customer when comparing invoice line items.
VC firm OpenView confirms that: They found that 61% of SaaS companies used usage-based pricing in some form in 2022. and that SaaS companies are increasingly turning to more complex, hybrid models that blend usage-based and subscription pricing. It captures the essence of the current trend in pricing models. As a SaaS startup, it's crucial to consider a combination of pricing structures that cater to your customers' unique needs and preferences while ensuring the long-term success and growth of your business.

Final Thoughts: Consider the Bigger Picture of Your Pricing Strategy

When adopting usage-based pricing, it's essential to consider the broader context of your pricing strategy, including other elements of your pricing plans, the flexibility to change them and run experiments, and the amount of code required to implement some legacy vendors' solutions. Remember that many legacy products were not built before the SaaS industry was even a think, which impacts their ability to support your unique needs.
Additionally, keep in mind that usage-based pricing is just one component of your overall pricing strategy. You should also consider factors such as subscription billing, pricing models, customer acquisition, revenue growth, and customer communication when evaluating your pricing approach. By looking at the bigger picture, you can better align your pricing model with the value you deliver to customers, driving customer satisfaction, revenue growth, and long-term success.
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