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Frameworks, core principles and top case studies for SaaS pricing, learnt and refined over 28+ years of SaaS-monetization experience.
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Are you confused by all the SaaS pricing jargon? You're not alone. Usage-based pricing has become increasingly popular, but many executives still struggle to understand how it works and whether it's right for their business.
This beginner tutorial breaks down usage-based SaaS pricing into simple terms so you can decide if this consumption model is the right fit for your company.
What Is Usage-Based Pricing, Anyway?
Usage-based pricing (sometimes called consumption pricing) is exactly what it sounds like: you pay for what you use. Instead of a flat monthly subscription, your bill fluctuates based on your actual usage of the service.
Think of it like your electricity bill. You don't pay a fixed fee regardless of how many lights you leave on; you pay based on how much electricity you actually consume.
Examples you might recognize:
- Twilio: Charges per message sent or call made
- AWS: Charges for computing power, storage, and data transfer used
- Snowflake: Bills based on actual data storage and computation time
Why Is Usage-Based Pricing Suddenly Everywhere?
According to OpenView Partners' 2022 SaaS Benchmarks Report, companies with usage-based pricing grow faster than their counterparts. The report shows that usage-based companies experienced 38% higher revenue growth rates compared to companies with purely subscription-based models.
Why? Because consumption-based pricing aligns with customer value. When customers get more value, they use more of your product, and you earn more revenue.
The 4 Core Benefits of Usage-Based Pricing
1. Lower Barrier to Entry
New customers can start using your product with minimal upfront commitment. This makes customer acquisition much easier.
2. Natural Growth With Customer Success
As your customers grow and get more value from your product, your revenue automatically increases. Their success becomes your success.
3. Pricing Fairness
Small customers pay small bills. Large customers pay large bills. Everyone pays proportionally to the value they extract.
4. Better User Data
Usage-based models give you detailed insights into how customers actually use your product, which informs product development decisions.
The Hidden Challenges Most People Don't Talk About
Before jumping on the usage-based bandwagon, consider these potential downsides:
Revenue Unpredictability
When customers can dial usage up or down, your monthly recurring revenue becomes less predictable.
More Complex Billing Systems
You'll need robust systems to track usage accurately. According to a survey by Chargify, 42% of companies reported billing complexity as their biggest challenge when implementing usage-based pricing.
Customer Education
Explaining your pricing structure becomes more complicated. Customers need to understand what metrics you're charging for and how to predict their costs.
3 Simple Steps to Implement Usage-Based Pricing
Ready to explore usage-based pricing for your SaaS product? Start here:
Step 1: Identify Your Value Metric
What aspect of your product delivers measurable value to customers? This could be API calls, storage used, users served, transactions processed, etc. The best value metrics grow with customer success.
Step 2: Design Your Pricing Tiers
Most successful usage-based models incorporate some tiered elements:
- Free tier (limited usage)
- Pay-as-you-go option
- Volume discounts for higher usage
- Enterprise plans with custom pricing
Step 3: Build Transparent Billing Infrastructure
Customers need to trust your usage measurements. Implement systems that:
- Track usage in real-time
- Provide usage dashboards for customers
- Send alerts when usage approaches thresholds
- Offer detailed usage reports
Hybrid Approaches: Getting the Best of Both Worlds
Many SaaS companies are finding success with hybrid models that combine subscription and usage elements:
- Base subscription fee + usage charges above certain thresholds
- Tiered subscriptions based on expected usage ranges
- Core features as subscription, premium features as pay-per-use
According to Paddle's SaaS Pricing Report, 45% of SaaS companies now employ some form of hybrid pricing model.
Is Usage-Based Pricing Right for Your SaaS Business?
Usage-based pricing works particularly well when:
- Your product has clearly measurable usage metrics
- Different customers use your product at significantly different volumes
- Your costs scale with customer usage
- You want to compete against established subscription players
However, it may not be ideal if:
- Your product has mostly fixed costs regardless of usage
- Your target customers strongly prefer predictable budgeting
- You lack the technical infrastructure to track and bill based on usage
Final Thoughts: Simple Steps to Get Started
If usage-based pricing seems like a fit, consider these next steps:
- Identify 1-3 potential value metrics in your product
- Analyze how these metrics correlate with customer value and your costs
- Talk to customers about their preferences regarding pricing structure
- Run financial models comparing your current pricing with usage-based alternatives
- Consider testing a usage-based option alongside your current pricing
Remember, there's no one-size-fits-all approach to SaaS pricing. The best pricing strategy is one that aligns with how your customers derive value from your product while supporting your business growth.