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11 november 2021, Marc Westeneng

Designing the optimal pricing strategy for ‘as a service’-propositions

Subscription is everywhere
Underwear, music, movies, meal boxes, razorblades, cars, bikes, software, you name it … it seems that the whole world is available on subscription. Not only in B2C. The same is happening in B2B, think about ‘lighting as a service’, ‘equipment on subscription’ and obviously the majority of software is priced as a service. The big question: how to price your ‘as a service’-proposition in a way that captures the most value?

Good / Better / Best wins popularity contest
A benchmarking study (2016) covered 104 of the largest and fastest growing SaaS companies in the US that publish their packaging and pricing online. The ‘Good Better Best’- assortment turned out to be very popular.

In their search for growth of customer base, revenue, customer retention and/or profit, companies develop various packing strategies, ranging from ‘category bundles’ to ‘build your own’. Some examples from the software industry are included in the visual below.

What is the best option for your company? How to decide what product features to include in the various packages? And how to determine price levels that maximize profit? Can you answer these questions fact based for your company? If not, keep reading. We will share 5 valuable lessons from our consultancy practice that can be helpful:

1. Identify customer segments based on differences in customer needs
2. Know your leaders, fillers and killers to structure the best assortment
3. Use the right price metric
4. Understand price perception of customers
5. Structure a discounting system

1. Identify customer segments based on differences in customer needs
Customers most likely have different needs and willingness to pay. So a “one-size-fits-all” approach will not be optimal. Offering more is not always better and will sometimes even hurt conversion. Instead, look for customer segments based on their needs.

Example: LinkedIn offers four premium packages, each with a very distinct target group: Career, Business, Sales and Hiring. Each package has a different price point and distinct features: Career users can see how they stack up versus other applicants, while recruiters get more advanced search options and reach out limits.

2. Know your leaders, fillers and killers to structure the best assortment
It is essential to know what products/features/services drive your customer’s willingness to pay. In designing the optimal assortment structure, we distinguish leaders, fillers and killers. “Leaders’ are features that represent much value for the customer and are widely adopted. ‘Fillers’ are what most people find ‘nice to have’, which offers medium value. These nice-to-haves can sweeten the buying decision but will not drive it. ‘Killers’ are features that most customers don’t want, including these in a package might decrease the value of the package. Add-ons are only adopted by specific target groups while they represent much value for these groups.

The model is often illustrated using the example of a fast food restaurant, in which the burger is the leader and the fries and soft drink are fillers. You order a burger and fries, not fries and a burger. A dessert would be a killer, because most people don’t want one; hence, Burger King does not bundle desserts in any of their meals.

We combine customer segmentation and Leader/Filler/Killer insights to create distinct value-adding packages for different target groups.

3. Use the right price metric
A price metrics is a scalable measure which is used to calculate the price. Think about the number of users, clicks, downloads, kilometers, weight, time, place … whatever.

When defining your price metric(s), take these criteria into account:

Link to Value – The best way to make sure that a customer feels okay with your pricing is to align the price they pay with the value they derive from your product. If customers agree that as the metric increases, they get more value, they will accept the metric as a basis for pricing. Too often, software companies simply price on users/seats. But is it really the number of seats that is driving the value for the customer? Consider a product used by 50 users at an company, but with only 2 power users accounting for 90% of the usage. Beyond the initial 2 licenses, the value to the company would not increase consistently as more users are added. That does not feel right for your (potential) clients.

Scalability – Ideally, a price metric provides a pathway to future growth, it is expected to grow following the initial sale. Tying it to growth will help increase revenue over time.

Predictability – Customers want to be able to budget. Choose a metric that allows them to predict their future expenses. If they feel uncertain about this, it can be a barrier to adoption.

Auditability – Customers can be very creative in finding ways to lower their costs. It is often easy to share an account with a colleague, to save costs. To prevent abuse of the system a metric should be able to be objectively measured, without relying primarily on the customer to provide the relevant information.

4. Understand price perception of customers
We frequently find situations in which alternative price structure models result in the same price for each item, but nevertheless customer research shows a clear winner in terms of perceived price. Although the expected revenue is the same for the company, the pricing alternatives just do not feel the same for the customer.

In pricing, all kind of psychological mechanisms and misperceptions come into play, especially when fixed and variable rates are mixed. knowledge about the difference between customer perception and the reality gives an edge in the pricing strategy process.

Perception is what counts. Although the expected revenue of alternative pricing models is the same, the pricing models just don’t feel the same for the customer.

5. Structure a discounting system
Empower the sales team with a structured approach to discounts, providing clarity on how much discount can be given. E.g. provide a matrix with discount drivers (e.g. data sharing, deal volume, partnership) and discount levels. Giving salespeople tools for structured discounting will strengthen negotiations.

If customers ask for a discount, ask for something in return. For example, ask for a longer-term commitment, or favorable payment conditions. Or look for possibilities to take value out to create space for discount, e.g. by lowering a service level.

Next
Our experience is that pricing projects have a payback period of weeks, a few months at the most. If you have never conducted solid customer research to base your pricing strategy upon, we are almost certain that you leave money at the table. Take the next step, contact one of our specialists.

Further reading about methodology (in Dutch): https://www.flowresulting.nl/pricing/methodieken-tooling/methodieken/

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