Kyle Evans is a passionate product leader, writer, and thinker. I sat down with Kyle on the Product by Design podcast to talk about how SaaS companies can create effective pricing and packaging.
We also covered:
- The importance of customer segmentation
- How to get product packaging right
- Pricing as an ongoing process
- The freemium ‘illusion’
You can listen to the full episode at the link below. Or, read on for a recap of our discussion.
Why Do Companies Get SaaS Pricing Wrong?
When I first sit down with my clients, their initial concern is always around setting a price for their product. CEOs and Product Managers ask me questions such as, “Should the price be $15 per seat or $25?” But this should be the least of their concerns early in the process.
Changing price level is the easiest part of a pricing strategy and should only come up at the final stages of the process. What SaaS companies should focus on, instead, is understanding their customers. In the B2B SaaS world, if you go into the pricing exercise without thinking about your customer segments beforehand, things will go off the rails quickly.
If you don’t understand who you’re targeting—your different customer segments or the ideal customer profile—it’s impossible to set the optimal pricing for your product. However, spending time and resources to gain a deeper understanding of their customers is not a priority for most SaaS companies.
Price level is one of the last things you should think about. First, focus on who you want to target.Dan Balcauski
A comprehensive market perspective is key to creating the correct pricing and packaging for your product. Understand what differentiates buyer groups in your market. Identifying these differentiating features will help you understand where your business is best suited to play and win. Once you know your customer, you can start looking at how you charge.
Understanding the Nuances of SaaS Packaging
The packaging discussion is an essential part of growing a SaaS business. Understanding the different nuances of packaging is key to effectively capturing value.
There are four different components of packaging a B2B SaaS product:
- Price metric: The unit of value that you charge customers for. For example, you could set your price per API call, database transaction, or seat.
- Pricing or monetization model: Are you charging people on a one-time transaction for a perpetual license? Are you charging them on a subscription basis? Is it pay as you go or utility billing?
- Offer configurations or bundles: Splitting your offer into different tiers. For instance, are you offering your users a choice between the good, better, and best versions of your product?
- Price fence: Charging different customers at different prices for the same product. You can create price fences in three ways:
- Time-based: If you go to a Friday movie at noon, you’ll pay a different amount than the 8 p.m. show.
- Identity-based: If you get on a bus, you pay full fare, but a senior citizen or student receives a discount.
- Volume-based: this is the most common approach by B2B SaaS companies. If a customer buys a software license for ten seats, they will pay differently than someone who comes in and buys 1000 seats.
Suitable packaging should be simple. LinkedIn broke down its offer configurations by customer segment. By presenting customers with four different options (Career, Business, Sales Navigator, and Recruiter), the company ensures its offering reflects its various customer segments and meets the unique needs of each customer group.
Building a specific offering for each customer segment can help sales spend less time on a deal, thus reducing your customer acquisition costs.Dan Balcauski
Segment-specific offers also increase customers’ ability to self-select into an offering, thus increasing the speed of every sales opportunity.
SaaS Pricing as a Process
You can describe almost every aspect of a business as a process. Yet, most companies think of pricing and packaging as simply an output rather than an ongoing process.
Generally, CEOs feel comfortable that the price they set five years ago reflects the latest product’s value. However, companies are constantly improving their products and thus, changing their value proposition. Despite these changes, pricing often remains static.
Companies are constantly improving their product, yet pricing doesn’t get touched.Dan Balcauski
How do companies know when they should revisit their pricing strategy?
It makes sense to revisit pricing at least once a year. Different milestones in a company’s growth journey will also offer opportunities for you to reconsider its pricing strategy. Mostly, though, it will depend upon the dynamics of your market. A few examples include:
- When you are releasing a significant new functionality that could potentially lead to a new product;
- When you are trying to serve a different target customer segment;
- When you have acquired another company and now must rationalize your pricing across an entire product portfolio.
Getting Everyone on the Same Page
As you consider changes to pricing, it’s essential to make sure all of your stakeholders are on the same page.
If you go around the executive table, each stakeholder will have a different goal. Some might be more concerned with increasing revenue, while others are more focused on strengthening market share. Each will also have different ideas about what pricing should look like moving forward.
Because they all have different concerns and goals that they’re trying to achieve, price owners must work to get everyone pushing in the same direction. A helpful solution could be setting up a pricing committee involving all the right stakeholders to ensure accountability and move the pricing process forward.
If everybody is trying to optimize pricing to a different goal, nobody is going to hit their target.Dan Balcauski
Why Freemium Is No Panacea
Freemium is not always the best pricing strategy for SaaS companies. Offering a product to consumers at no cost poses a series of challenges.
First, it’s tough to move customers from free. You run into what is called the “penny gap.” Essentially, you will have a more challenging time getting your customer to pay one cent for something they were getting for free than you would have to get them to pay an extra $10 on a $100 monthly subscription.
Second, freemium opportunities pose a signaling problem. Buyers use price as an indicator of quality. When potential customers use something for free, subconsciously, they won’t value the product as much as if they had paid for something. This mindset poses a marketing challenge as you don’t want your prospects to devalue your product.
The other problem is that freemium products create an internal momentum tax on every product update. Every time your engineering team builds a new feature, Product Managers need to decide if it goes on the premium side or the free one. Questions like, “Should we allow people to use it for an hour a day for free? Or for 30 hours a month?” will arise. In the end, you might lose weeks in executive meetings just trying to come to a resolution on something as simple as the differences between the free and premium versions.
For most B2B SaaS companies out there, freemium won’t deliver a lot of benefits.Dan Balcauski
SaaS companies find it increasingly hard to get new customers. Marketing, Growth, and Demand Acquisition teams are often tempted to adopt the freemium model, despite its challenges. They look at the pool of free users as a desirable target. So instead of running Facebook or Google ads, SEO, and trade shows to attract new customers, they spend time and resources trying to convert this pool of free users into paid customers.
The reality is that companies that opt for freemium convert only one to three percent of those free users into customers. There’s a high risk of spending considerable energy and resources on what is likely a mirage.
SaaS pricing is complex. Rather than looking at pricing as a one-and-done exercise, revisit it at the same pace as your company’s growth.
As you work on your pricing strategy, focus on understanding and segmenting your customers. This perspective will help you develop a price level aligned with the value of your product and set up the optimal packaging configuration.