Historically, usage-based billing was commonly used by companies with well-defined units of measure for the usage of their products. Think metered services such as electricity, gas, and water. However, this monetization strategy is now seeing an uptick among software-as-a-service (SaaS) organizations as they move beyond subscription or one-time pricing models which means that usage-based billing software is changing too.
Gaining Flexibility With Usage-Based Pricing and Billing
Why is this pricing model becoming popular among SaaS companies, what are its benefits, and what challenges can you expect? Before taking a deep dive into this pricing strategy, let’s agree on the definition of usage-based billing. It’s a consumption-based pricing model in which customers are only charged when they use a product or service. While it’s not a one-size-fits-all pricing model, usage-based pricing offers many variations, giving you the flexibility to bill and rate the usage of your products based on virtually any metric. Additionally, it presents customers with exceptional transparency and SaaS companies with the agility needed to improve monetization and increase revenue.
Sending timely and accurate invoices is essential for the financial health of your business. Your billing platform needs to provide more across all aspects of your quote-to-cash (Q2C) processes. From mediation, payments, revenue recognition, collections, refunds, reporting and more. It’s essential that the usage-based billing software solution you choose provides all the capabilities needed for usage-based billing success.
Types of Usage-Based Pricing Models
Pay-as-you-go pricing model
Also referred to as per-unit pricing, it is a simple pricing scheme that is based on the number of units consumed. To illustrate, let’s use an application programming interface (API) example.
If two calls are made during a given billing cycle, you would charge $39.98 ($19.99 x 2 = $39.98). While a simple pricing model example, you may want to offer discounts when customers purchase higher numbers of units.
Tiered pricing model
Considered to be the best usage-based pricing model for SaaS companies, customers pay in increments depending on usage. This pricing strategy allows you to offer multiple packages with fixed sets of features for a specific price. Here’s an example of a tiered pricing scheme.
Since you’re able to offer a variety of packages that contain different features and functionality, this pricing model can be tailored to capture new market segments. Additionally, once a customer outgrows the current tier, you have a natural upgrade path that can improve upsell conversion rates and provide higher revenue.
Volume pricing models
Similar to tiered pricing, charges are based on the total usage at the end of the billing cycle. The difference between tiered pricing and volume pricing is all customers receive the same features and functionality regardless of volume usage. This example is based on a cloud storage provider.
Let’s assume that during the billing period a customer used 198 GB of storage. Their invoice for that billing cycle would be $39.60 (198 GB x $0.20 = $39.60).
Considering Usage-Based Pricing?
Traditionally, price-per-seat (sometimes referred to as price-per-user) was the most popular billing model for SaaS businesses. Today, however, usage-based pricing is nearly as common as seat-based pricing, with 39% of companies saying they offer usage-based pricing. Closely aligned with providing exceptional customer service, usage-based billing allows customers to start small or trial a product at little-to-no cost.
SaaS companies using usage-based billing software enjoy a nearly seamless path for customers to upgrade and expand usage. This enables the company to grow revenue from its current customer base and reduce costs associated with marketing and sales. Since this billing model empowers customers by allowing them to only pay for what they use, SaaS companies can increase customer satisfaction, grow customer loyalty, and improve customer lifetime value (CLV).
If you’re considering usage-based billing software, look at the following questions to see if this pricing model is right for your SaaS organization.
- Can you break usage down into easily explained and understood units?
- Can you determine usage metrics that align to the value of your products (e.g., value metrics – the measurable value that your products provide to customers)?
- Can you easily track and measure usage?
- Do your costs increase or decrease based on the usage of your products?
- Can you track and recognize fluctuating revenue?
If you answered yes to some or all of these questions, usage-based pricing and billing may be right for you.
Implementing Usage-Based Billing Software
Now that you’re convinced that usage-based pricing and billing is appropriate for your SaaS organization, let’s cover what it takes to implement a usage-based pricing scheme.
Determine your usage metric
As the basis for which your billing system will be developed, careful consideration is needed to ensure the usage metric closely aligns to the value your product provides to customers. For example, web storage companies charge based on GB, CRM software companies use number of users, sales software companies typically charge on a per user / per sales rep basis, email marketing companies charge on a per email basis, etc.
Track and measure usage
When it comes to usage or metered rating, the challenge is having the flexibility to map and monetize any kind of data – regardless of the source or format. You need a way to define the details to support service usage on the fly, then route the usage data into the platform to determine 1) who the usage events belong to, 2) what products were used, 3) how much or the quantity of the service used, 4) when the service was used. The process of automating the collection of data, metering the data, and rating the data is known as mediation.
Provide customers with real-time access to usage
Like the point above, your customers want and need transparency to usage information. A customer portal empowers your customers to view usage, download statements, view past payments, pay bills, manage payment methods, and more.
You need to deliver accurate, timely, and easily understood invoices. Even with simple pricing models, billing can be challenging. Add usage-based pricing into the mix and your invoices can become convoluted quickly. With usage-based billing you need to be able to clearly illustrate how you determined their total cost. Some things to keep in mind when it comes to invoicing is the total amount due, the billing time period, detailed unit information, and even customer notifications.
Additionally, usage-based pricing provides the opportunity to offer incentives such as bundles, discounts, special offers, coupons, promotion, free trials, etc. – making it easy and less risky for customers to try your products.
Advantages and Disadvantages of Usage-Based Pricing and Billing
As with any pricing and billing scheme, there are advantages and disadvantages. Read on to learn the highlights and lowlights of usage-based pricing and billing.
- SaaS companies that adopt a usage-based pricing model grow revenue 38% faster than their peers; have 50% higher revenue multiples than the broader SaaS companies; and have stronger net dollar retention rates.
- Given the transparency of usage-based pricing, customers feel more empowered, enabling you to improve customer satisfaction, loyalty, and CLV.
- Helps to grow customer base by enabling potential customers to try the product before committing.
- Reduces churn by allowing customers to increase and decrease usage based on their needs.
- Since usage varies, revenue can be unpredictable, adding complexity to your ability to accurately determine monthly recurring revenue (MRR) and annual recurring revenue (ARR).
- Products may be too complex, hindering your ability to determine the right value metric and the associated price.
- With no contractual lock-in, customers can easily switch vendors.
There is one other potential disadvantage – the billing process itself. As discussed earlier, you need the ability to collect and convert raw usage data from multiple sources. Doing that quickly and accurately requires an intelligent usage-based billing software solution.
6 Things Usage-Based Billing Software Should Have
- Although billing automation sounds like a given for any usage-based billing software solution, there are three criteria it must meet. This includes workflow engine, notifications, and document generation. Being able to automate any process allows you to streamline bill cycle processing, reduce manual errors, minimize revenue leakage, and maximize efficiencies.
- Your billing ecosystem consists of much more than the billing platform. To unlock the intelligence held in your data, you need to connect and integrate all of the applications that make up your ecosystem. Thankfully, application programming interfaces (APIs) enable you to create a completely integrated ecosystem. Though it isn’t complete without a payment gateway framework. The usage-based billing software should also allow customers to monitor the entire payment journey. This goes from payment initialization and tokenization, through payment processing and settlement to chargeback notifications.
- To protect your customers’ data and minimize regulatory risk, usage-based billing software needs the ability to adapt to any market regulation or standard. It also must provide secure architecture, global compliance, role-based permissions and audit history.
- As your business grows and/or customer requirements change you need the ability to effortlessly add new capabilities and functionality. Doing this requires a usage-based billing software solution that gives you total control through open architecture and a fully configurable/extensible data model.
- Today’s customers want to be engaged and empowered. Nothing enhances customer relationships quite like providing the ability to access account information when they want. This requires a usage-based billing software solution that provides a customer portal solution.
- Expanding globally requires a usage-based billing software solution ready for a diverse and complex portfolio of products in any language, currency, and industry.
Set Yourself Up for Success With the Right Usage-Based Billing Software
There are three requisites that an intelligent usage-based billing software solution should deliver. First, a complete solution that supports any product, any service, and any business model. Second, the agility to extend the platform to support changing business needs. Finally, total financial control that enables you to run the business with greater efficiency and accuracy.
With BillingPlatform you get an automated billing platform with built-in mediation that gives you the ability to automate any process, including billing, invoicing, payments, collections, provisioning, dunning, approvals, notifications, and more. When you partner with us you get an industry-leading usage-based billing software solution that enables you to bring any usage-based billing model to life, support and monetize innovative pricing models such as the internet of things (IoT), and set yourself apart from the competition. Learn more about what sets us apart today!