SaaS Pricing Models: Recurring Payment Processing Benefits and Best Practices
The payment processing industry has become very dynamic in recent years and as an ISV providing SaaS it can be hard to keep up with the evolution of payment trends. To further complicate trying to get on top in the SaaS space, each decade, we see new technologies emerge and we are now living in a world where there is extreme competition. To stand out, ISVs need to offer real value with their pricing strategy and to their customer journey.
Gaining a better understanding of SaaS pricing models and recurring billing will help you prepare the right payment solution for your individual software product and feel confident with where it should fit within its market. Once you have the grasp of it, you will be able to utilize and integrate solutions such as CardPointe into your platform with the confidence that it is right for you and your business.
What Is SaaS Billing?
In short, SaaS billing is how you charge your customers using one of a number of SaaS Pricing Models, and it will likely be in the form of a recurring payment for most types of software.
The average startup only spends 6 hours on their pricing strategy. That figure is overall and includes testing and optimizing. One of the main reasons startups spend little time on their pricing strategy is due to how many different models, strategies and tactics there are and the lack of information there is available to help them know where to start.
You need to find the right balance between value and revenue. The key to your success will be the ability to offer the solution that your customers need while also being fairly compensated for providing your service. Undercharging could cause severe issues for your profitability and growth while overcharging will turn away potential customers.
How do I perfect my SaaS pricing strategy?
Believe it or not, many ISVs actually launch their pricing model completely randomly. According to an OpenView survey, 40% of companies have never piloted their pricing strategy, while 55% didn’t conduct research on their target customers to understand what they would be willing to pay. These numbers are high and show that plenty of companies have just guessed and plucked random figures from thin air.
You probably don’t need us to tell you that this is not the correct approach. There are four fundamentals that you must consider when creating a software pricing strategy:
1. Understand your competition
Take a look at your competitors and understand what they are doing. Are they offering recurring payments? Are they based on a ‘freemium’ model? What do they charge? Remember, you are not looking to undercut your competition. If you offer a better service and there is more value in your product, you are allowed to offer a higher/premium rate. Research, understand where you are within the current market and price accordingly.
2. Control the financing
Whoever is ‘in charge of the numbers’ at your company should set the limit on what would prevent you from generating negative margins. It is very common to start at a lower price and upsell once you truly understand your customers.
3. Sales & Marketing
Although they are different departments with seperate functions, you can combine them for this context. They will influence your pricing indirectly. You need to factor in things such as customer acquisition costs, sales cycles and market intelligence of customers.
4. Customer Value
Your customers will help you understand the true value of your product. Feedback from your users is vital for knowing if your current pricing model is correct. How valuable is it? What do your customers expect for their money? Which of your product features is getting them excited?
Once you decipher your product market fit, you know your value and you know what will help you make a profit. You will be able to have calculated the right figures for your SaaS pricing model. By doing this, you will automatically jump ahead of the 55% who don’t research to find their place within the market.
Your strategy should be taking into account the preference for consumers to have a subscription to your service. The recurring nature of ISV products is important to both the structure and the way the consumer anticipates paying for these services.
What are the 7 most common SaaS pricing models?
1. Flat Rate Pricing
This is probably the simplest way to sell your software solution. You offer one product at one price with one set of features. The most famous example of this was Microsoft’s software licensing throughout the 90’s and 00’s. You bought the license for Windows ‘95 and you kept it until Windows ‘97 was released and then you’d purchase the new license. With the implementation of cloud infrastructure, you have the benefit of billing monthly for the same product, rather than purchasing the one license forever.
Flat Rate pricing is easy to communicate to customers but also easier for you to sell. It’s clear and simple and you are able to focus all the sales and marketing on this single offer.
It is, however, difficult to extract value from individual customers. All users have different needs, priorities and budgets and you are unable to adapt to these with Flat Rate pricing. You are also unable to provide flexibility on price.
2. Usage Based Pricing
This is the formal way of saying ‘Pay As You Go’. This allows customers to pay for exactly what they use. AWS (Amazon Web Services) uses this strategy and it is more common with infrastructure and platform related software companies.
Usage Based pricing works because it scales alongside usage. The customer feels like they are genuinely getting what they pay for because they are charged based on their total usage. This model usually comes without any large ‘setup’ fees which means that if you provide this option, you are opening up your solution to all, regardless of their initial budgets.
With this SaaS pricing model, you are disconnecting the true value of your product. All you are providing is what they need so customers may not truly value what your software does overall and the enormous value that your business actually offers them. It is also hard to predict your revenue with usage based pricing as you can’t truly know how much your customers will use your solution month by month. There are several external influences that could cause ‘boom’ months and ‘slow’ months. The same applies for customer costs. Understanding that volatility is like imagining the first time you went on a vacation abroad with data roaming enabled on your mobile phone.
3. Tiered Pricing Strategy
SaaS companies are more aligned to offering a tiered pricing strategy over a flat rate or usage based system. It allows you to offer multiple packages with a different combination of features and prices. The most common practice is three different packages - a low-end, high-end and mid-end range. The mid-end option will usually be the most commonly chosen by the end user.
There are plenty of benefits to the tiered pricing model. Particularly the appeal to multiple personas, as you are able to tailor based on the potential customers need. You are also opening up the potential of maximizing different types of revenue from a variety of customers. Your sales strategy can also be defined by focusing on those who have taken the first or second tier and contacting them to upsell and provide them with more value for more money.
This is potentially a very confusing payment model for the customer as the wealth of choices can become overwhelming. They may not be aware of which option is perfect for them and they may just abandon the sale. There is also a risk with your top tier, if a user heavily overuses their service, the cost to you may be greater than what the customer actually pays.
4. Per User Pricing
According to a recent survey, this is the most popular pricing model amongst ISVs. It’s simple, you pay a set price each month and then it increases depending on the amount of users added. It’s extremely easy for customers to understand what their subscription buys them and for companies to predict their future revenue.
The simplicity and directness of the per user pricing model makes it great for users while allowing them to calculate their monthly costs. The revenue also scales with adoption, if you double the users within a company, you double your revenue from their bill. It is also very easy to predict and forecast revenue generation because you know what is coming in from where and from how many different users.
There are adoption limits. Many businesses will avoid adding new users to the tool due to the cost. They regularly try to cheat the system and will share a single login with many different users within their organization. This increases the likelihood of churn because as soon as there are too many users, they may look for a service that includes their whole team, rather than only a portion. From a customers point of view, there is no real value as your service remains the same but they are paying extra because they have more team members.
5. Per Active User Pricing
This variation on the per user pricing model is based on the users and staff members who actually are accessing the software. A company could pay for 100 users a year with per user pricing but 80 may not actually use the tool. Per active user pricing gives companies the security and the knowledge that they are only paying for the team members who actually need and are using the product. With this model, you could encourage customers to do multiple signups with the security of knowing that they will only be billed for the active users. Slack is a great example of a software that is currently implementing this pricing strategy.
Customers feel satisfied because they know that they are only paying for the users who are actually accessing the software, rather than wasting money on inactive team members. This pricing strategy also reduces risk and some customers could implement your software throughout their whole business.
This option is great for larger and corporate organizations but could become incredibly pricey for smaller businesses and startups. There is no extra incentive as usually within small teams, money is tight and most of the staff would probably be actively using your software.
6. Per Feature Pricing
Features can, of course, also be a value metric when choosing your SaaS pricing model. You can separate different pricing tiers based on functionality. You can set up three different versions of your software ‘basic, plus and premium’ to attract the users based on the features that they feel they need. New functionalities unlock when they upgrade to the higher tier.
This is one of the clearest options. You are transparent with what features are available and the customer has a clear understanding and incentive to pick a higher tier for the better functionality. If some of your higher end features require disproportionate deliverable resources, you’re able to clearly compensate yourself by putting them into your ‘premium’ package.
This is probably the pricing model that is the hardest to perfect. You need to get into the mind of the user and really analyze what that user wants and needs. You need to find the right balance depending on the packages that you are using and ensure you are not losing any money in the lower packages but making it too expensive in the higher packages. Many customers aren’t attracted to this model because they will feel that they aren’t getting the true experience of your software due to knowing that they don’t have access to all your features if they take the lower packages.
Due to the high profile success of several SaaS companies such as Evernote and Dropbox, freemium has become a popular choice for billing models. You offer a free product and then supplement it with additional paid packages. The free package is usually very limited and requires plenty of paid upgrades. How many times do you go on an app that you have downloaded and it tells you ‘to access this, please upgrade your account’? This is freemium, get the basics, lure them in, they pay to unlock the full featured package.
This is a great way to get customers into your product. When a customer has a free version of your tool, they are happy to download straight away and play around with the features that they can use. If the free version does a lot, these customers will share and refer their friends, colleagues, family and acquaintances to help make your service popular.
The Freemium pricing model can be really detrimental for generating revenue. Each free active user is costing your business money and you need to make up that difference by overcharging your paid users. Churn is higher with this payment model and you are devaluing your software by allowing it to be used for free.
Now you know the models, you have to think about the best way to implement this into a subscription based billing model.
Most common SaaS subscription billing models
The three most common subscription or recurring billing options for SaaS are “monthly only”, “yearly only” or “customer choices between monthly or yearly”. Other billing cycles tend to be variations on these common models. Some companies choose to bill every 3 months instead of monthly and others even do bi-annually. These variations should be avoided as it can cause confusion to your potential customer base.
So, which recurring billing cycle should you use?
Monthly billing is usually the most preferred option by the consumer. Even though they are paying more regularly, the amount they pay is significantly smaller and so they do not feel that they are breaking the bank by signing up to your product. Customers will also get a sense of remembering who you are, especially if they don’t use the service often, as your company will appear on their monthly bank statements. For your business, you get a sense of confidence that the revenue is constant and seasonality won’t affect this income stream too much.
Yearly billing is a very different feel for both you and your customers. Once a customer pays that larger fee, they tend to go on with their lives and can potentially forget they’ve signed up to your service. Paying for the year often comes with a discount for the consumer but it is very much like a traditional purchase. The main positive for your business is that once a customer signs up to a yearly payment option, the revenue generated immediately offsets any acquisition costs.
There is risk attached to any model. Monthly billing could see your customer cancel after one below-par experience, thus losing a customer and their revenue very quickly. With yearly only, 12 months is a very long time. Personnel changes within your customers’ organizations could see your renewal disappear and it would be completely out of your control.
Plenty of SaaS ISVs often give their customers the right to decide. Freedom of choice will keep them happy, build that relationship and bring in the revenue.
What are the benefits with SaaS subscription billing?
Subscription payment processing takes away all the errors that come with manual payments. Many companies that still manually process their payments can lose a lot of money from human error, inefficient resource allocation and defaulted payments. If you accept recurring payments, there are 5 key factors where you will see drastic improvements:
1. Time management
We all know that time is valuable. Most of us feel that there is just not enough time in the day, week or month. Inefficient billing practices take up plenty of hours that can be better used elsewhere. With subscription billing automation, this time can be utilized elsewhere and you will notice efficiency in other parts of your business. This time could be used to scale and grow your business rather than just keeping it afloat.
2. Prevention of revenue leakage
Revenue leakage is very common for those who bill manually. This means that the service they are providing isn’t compensated fully. There are several reasons that cause this, whether it be the inability to remind customers that their payment is about to be processed, delaying payments from a customer’s request or expired credit cards or insufficient funds. With a subscription based service, you can reduce these issues by automating payment reminder emails. You can also work with a payment processor that offers an Account Updater service. Essentially, this service conducts automatic audits of your stored customer credit cards and makes updates to those that have changed due to expiration or cancellation. That way you avoid invalid or missed payments, so you can maintain a consistent revenue stream with limited interruptions.
3. Develop insights
Many providers of subscription billing management services offer insights such as reporting and analysis. This allows you to understand your cash flow situation, your customer activity and where payments are failing. The ability to see this information in real time opens up opportunities to make more valuable business decisions.
4. Reduce the churn rate
It costs more for your business to acquire new customers than it would to retain current customers. Having an automated billing platform allows you to enable payment notifications, recover revenue and identify the churn risk quickly. You are also going to find that your relationship with your customer is improved as your contact is more regular.
5. Pricing flexibility
Pricing may change for a vast array of reasons. Evolution of customer demand, seasonality and market fluctuations are just some of the many occurrences that may see you evaluate your model or opportunities to offer discounts. Recurring billing allows you to track what each customer pays individually and change the discount or value immediately. This is a huge benefit if you currently have a business development or sales team that want to be flexible with the pricing that they offer.
These benefits and best practices ensure that there is more accuracy for both you and your users. Recurring payment models create a wholesome opportunity to save time, record data and improve your service. The right SaaS recurring billing platform will enable business growth and take away those struggles that manual processes create.
Recurring payment mistakes to avoid?
You should always be aware that with all these positives, there are subscription payment mistakes that you have to avoid. Even though it is always good to learn from your own mistakes, perhaps with payments, it’s better to learn from mistakes that others have made in the past. These are a few learnings that you should be aware of when implementing your recurring payment model:
1. Don’t overlook self-service opportunities
Most companies believe that self-service is just for B2C ISVs and not B2B. This is a frightening assumption as regardless of what you think you are, you have a B2A mindset (B2 Anything). By shifting to an automated subscription model, you open up your customer base more freely and you are less reliant on your sales team. More options for selling means more income, revenue and growth.
2. Don’t issue generic invoices
Although receipts and invoices are known to be mundane, take this opportunity to get to know your customer more. Brand them, be transparent and evolve that customer relationship through design and minimal additional effort. This could bring the feeling that the customer feels more valued by you and increase chances of renewal.
3. Don’t assume credit cards are always easy
Although we are automating the payments through cards and it is easier, they do eventually expire. Many companies also only load what they expect to pay on their cards and could forget about your service. This means there is potential for declines and failed payments which, in turn, could lead to you receiving fees as well as not receiving that payment. Always set customer reminders about an upcoming payment and prevent this from happening.
4. Don’t bill in arrears
Many services are “pay as you go” - receiving the service before payment. When you buy a house, when you work as an employee or when you get a mobile phone are just three of the many arrears that we all partake in. It is not always the smartest strategy for ISVs so best practice would be to expect your customers to pay “in advance” of service. Netflix is a great example of this when you ignore potential free trials. You can’t watch your favorite show until your first payment has been made and your service should act the same.
5. Don’t do it all yourself
Payment providers such as CardConnect have solutions that can be easily integrated into your SaaS service. The coding can be extremely difficult for even the most advanced software developer and it takes a lot of time to do this yourself. Systems like those provided by CardConnect are there to make setting up a subscription payment model for your service feel pain-free and easy.
Now you should have all the information that you need to make the right decision for you.
When deciding the best way forward for your ISV and how you wish to proceed with your billing options, it’s important to take in and understand all of this information. The underlying reason for you to set up recurring payments is to provide a better service for your customers while also growing your business. At CardConnect, we’ve perfected a variety of customizable and secure credit card solutions. We are ready to accommodate your evolution and work with you to help take away any payment burdens allowing you to focus on other areas to help your business grow.
Connect with us today so we can understand your needs and develop the right recurring payment solution for your business together.