Optimising pricing for revenue expansion
As B2B SaaS startups achieve scale, they can achieve massive revenue growth by better monetising existing customers. In the early days, startup leaders are often too focused on building their product and selling it to new customers; expansion revenue is an afterthought. Fortunately, through strategic pricing, you can make this revenue growth easy before you’ve had the chance to invest in customer success.
Expansion ARR/MRR is additional recurring revenue gained from existing customers (e.g., plan upgrades, purchasing additional products).
The best way to foster expansion revenue is to lay solid foundations in your pricing and product strategy. There are several ways you can encourage revenue from existing customers to expand without any manual handling or 1:1 interaction with your customers. You need to find ways to align the price of your product with the value it delivers. The bigger a customer is, the more value they get from your product, and the more they should pay for it. If you charge this way, you can ensure that customers who cost you more to support also pay you more. More importantly, this ensures that as your existing customers grow, they will naturally pay you more.
First, consider usage/volume-based, or transactional pricing. Price your product based on how actively your customers use it. This can serve as a proxy for the size of each customer because bigger businesses will likely engage more with your product. As existing customers grow, they will naturally pay you more. This is most commonly achieved by charging an additional fee (e.g., $5 per month) for each user, though this often fails because, for many products, it is trivial to share user accounts.
When usage is consistent month-to-month and grows gradually, it makes sense to charge your customers with an ongoing subscription, with multiple plan levels influenced by how much each customer utilises your product. For example:
- Many analytics platforms charge by the volume of data (or visitors in the case of web analytics) stored in the system. Larger companies will have more data, thus, will pay more.
- Ecommerce platforms commonly offer different subscription plans for different orders or revenue volumes. For example, the more orders processed by a warehouse management system, the more it will cost.
- Tax compliance products like TaxJar charge by the number of tax calculations.
Alternatively, a real-time transactional model may make sense for products or features where usage varies drastically month-to-month or where marginal costs are tied to each transaction:
- Products built around payments, like Shopify, charge transaction fees. This is because these companies incur marginal costs for each transaction. Even Shopify is paying someone else for each payment (Stripe, who also has fees to pay), so by charging for each transaction, they can ensure they always turn a profit no matter how much each customer utilises the product.
- API-as-a-service products charge by API calls because this is a simple way to align the cost-to-service of each customer with the amount they pay. If these companies charged a simple subscription, they would likely lose money on customers who demand a lot from their APIs.
- Marketplace products like Uber or AirBnB charge for transactions for similar purposes. Additionally, a mandatory subscription for these products doesn’t make sense as it would serve as a barrier to entry for users.
Subscription and transactional models both have downsides. Subscriptions provide consistent and reliable revenue, even when usage temporarily drops (due to seasonality or even during recessions), while they make it difficult for low-usage customers to give the product a try and can make it more challenging to monetise the most active customers maximally. Transactional models can better monetise the value being delivered and align revenue with costs, but revenue can suddenly plummet during slowdowns. This is why it is a good idea to try to offer both. Even Uber, which has traditionally had a transactional model, now offers a subscription service for power users.
Second, it may make sense to charge additional fees for power user features. B2B SaaS products tend to target a market of businesses that vary wildly in size. Naturally, as your product matures and your individual customers grow, you will start to build features that are well-suited to large customers, but small customers don’t need them. It might make sense to charge additional subscription fees for these products. This is another way to grow recurring revenue as your customers increase their utilisation of the product. This can be a risky strategy, though. If you monetise the growth of individual customers through usage-based pricing, additional fees for features that help your customers to grow could limit your own growth. One rule of thumb that has worked for startups I’ve worked with is to charge for features that reduce operational costs and give away any feature that increases customer revenue (or utilisation).
Whether you are charging usage-based subscriptions, transactions or charging for individual features, it is critical to align the success of your customers with your pricing. By only charging more when customers receive greater value, you align the incentives of your startup with customer success. It is much easier to ask for more compensation from your customers when you are providing more value. These aligned incentives also make it easier to prioritise your product roadmap. If, for example, you make more money only when the businesses who use your product grow, you will be naturally incentivised to improve your product in ways that will encourage this growth.
4 December, 2022
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