How Saas Providers Can Use Pricing to Achieve Their Ambitions
Total Page：16
File Type：pdf, Size：1020Kb
How SaaS providers can use pricing to achieve their ambitions By Tim Cochrane, Sachin Shah, Justin Murphy and Jonny Holliday Tim Cochrane is a partner with Bain & Company’s Private Equity practice, based in London. Sachin Shah is a partner with Bain’s Technology practice, also based in London. Justin Murphy is a Bain partner with the Technology practice and is based in San Francisco. Jonny Holliday is a principal with the Private Equity practice, based in London. Copyright © 2014 Bain & Company, Inc. All rights reserved. How SaaS providers can use pricing to achieve their ambitions Fast-growing adoption of cloud software by many custom- ers is forcing providers to tear up their old pricing models. The most effective new pricing model will depend Pricing based on internal cost metrics typi- on what a provider hopes to achieve—whether that’s gen- cally leaves a huge amount of value erating strong short-term revenue growth or ongoing prof- itability, developing a huge user base, maximizing value on the table. Instead, companies need for an exit event in three years or achieving some other goal. to set a clear pricing strategy that is Software as a service (SaaS) has rapidly penetrated many informed by a deep understanding of categories, including payroll, bookkeeping and customer customers’ needs. relationship management. It will account for an estimated 22% of all enterprise software applications by 2017, based on a compilation from multiple sources. Price is one of the most important factors when customers For customers, SaaS removes the barriers of high upfront consider whether to use a SaaS product. This is especially license and service fees, reduces implementation risks and true for SMEs. In more than 80% of the markets Bain & makes it easier for employees to access software. For pro- Company examined, price emerges as the key purchase viders, SaaS delivers stable subscription revenue flows and criterion. And for many categories, on-premise software easier access to some customers, particularly small and still has a lower total cost of ownership over 5 or 10 years medium-sized enterprises (SMEs). than the SaaS version. For example, Intuit’s launch of TurboTax on the cloud Pricing set casually or based on internal cost metrics typi- quickly displaced its desktop offering, despite the sensi- cally fails to generate the anticipated growth, or leaves a tivity of putting personal tax information on the Web. huge amount of value on the table. Instead, companies Within two years of launch, revenues from online need to set a clear pricing strategy that is informed by a TurboTax users were nearly double the revenues from deep understanding of customers’ needs. While most cus- desktop users. In addition, by building a substantial mar- tomers value ease of integration, some customers put a ket share with a strong cloud product, Intuit thwarted high value on ease of maintenance and upgrades, while Microsoft’s attempts to build out its Money software, others value around-the-clock support. Some small firms which Microsoft killed in 2009. will pay a premium for a trusted brand; others are willing to go with a lesser-known provider if the product is a great Like Intuit, many software providers have put SaaS at the fit. Understanding what features customers value most heart of their plans for large-scale growth. Battle lines are allows a provider to select the right pricing strategy for its being drawn between incumbents and new entrants, and strategic goals. between new entrants themselves. Attracted by SaaS pro- viders’ high growth rates, venture capitalists and private Six ways to price equity funds have been making aggressive investments, fueling the competition. Valuations for SaaS providers Bain has identified six broad pricing strategies that cover have risen accordingly, based on the premise that these virtually the entire SaaS landscape (see Figure 1): companies will be able to monetize their growing user base into healthy revenue streams sooner rather than later. • Play the averages. This one-size-fits-all strategy offers a competitive package at a competitive But the shift to a SaaS model can be challenging. It usu- price. The goal is to win based on the product’s ally takes three to four years to break even. And companies quality and on strong go-to-market execution. face tricky trade-offs between generating revenues and New entrants and small SaaS firms typically use growing the user base. this strategy. 1 How SaaS providers can use pricing to achieve their ambitions • Something for everyone. Tiered price packages, with career networking website, and Dropbox, a file- no free package, target different customer segments sharing site, both give away ample functionality and aim to cover the majority of the market’s profit to build up their base. LinkedIn then charges pool. Salesforce.com and Adobe Creative Cloud have active job seekers and recruiters for advanced fea- both adhered to this model. Providers have to know tures, while Dropbox charges heavy users. which product features to turn on and off to appeal to different segments and convince certain customers to • Premium. In this strategy, a provider takes the pay a premium. high road by investing to have the best software package, then charges a premium accordingly. A • Free disrupter. Full functionality for free aims to gain good example is the SuccessFactors human capital clear leadership of the user base. Revenues come management package, now part of SAP. from cross-selling or from monetizing the customer base in other ways. Wave, for example, offers free • Integrator. Offering an integrated proposition at a integrated invoicing, payroll and other software to competitive price allows a provider to win by solv- small firms, and provides aggregate customer data to ing customers’ needs with the broadest or most other parties, such as advertisers. complete offer, thereby saving customers time and effort. Intuit has taken this approach with its • Freemium. Offering most functionality for free QuickBooks bookkeeping suite. will likely speed up growth of the user base. The provider can then upsell more advanced function- Each of these strategies leads to very different growth pat- ality or cross-sell other products. LinkedIn, the terns in the number and type of customers, in the average revenue per customer and in the rate of customer churn. Figure 1: SaaS providers can choose from among six major pricing strategies 1. Play the averages 3. Free disrupter 5. Premium • Offer a competitive package at a • Full functionality for free to gain clear • Take the high road—invest to have the competitive price market leadership best product • Win on product and go-to-market • Revenue to come from cross-selling and • Charge more than competitors and execution; do not disrupt profit pool upselling establish a premium brand Examples: Example: Example: New entrants, very small firms Wave SuccessFactors 2. Something for everyone 4. Freemium 6. Integrator • Tiered packages targeted at different • Offer most functionality for free to grow • Offer an integrated proposition at a customer segments base competitive price • No free offer; aim to win profit pool, not • Upsell advanced functionality (e.g., • Maintain profit pool but win through disrupt it multi-user) and cross-sell other services broadest and most complete offer Examples: Examples: Example: Salesforce.com, Adobe Creative Cloud LinkedIn, Dropbox Intuit QuickBooks Source: Bain & Company 2 How SaaS providers can use pricing to achieve their ambitions A free disrupter, for instance, will maximize growth in the Survey respondents rank the variables to define which user base and allow the company to rapidly take share, but combination they find most attractive. This output can revenues will stay low until the company devises a clear then be translated to determine a customer’s price sensi- path to monetization. A something-for-everyone model tivity, or the effect on revenues of a price increase or from tends to balance user and revenue growth but risks having adding an additional element to the value proposition. some customers choose a lower-priced product, which Analysis might show, for instance, that a $5/$20 monthly leaves money on the table. tier may be leaving money on the table, because many cus- tomers who pay $5 would be more willing to pay $10 than To be executed effectively, each strategy requires different leave after a price increase. capabilities. Free disrupter, for example, relies on the ability to run low-cost distribution and support, whereas some- Conjoint analysis, combined with competitor analysis, can thing for everyone requires that the provider offer many highlight how effective a company’s go-to-market execu- more products and be able to seamlessly turn on and off tion is relative to its competitors and whether a company certain product features. has its fair share of the market, which signals how well it is executing on the current pricing strategy. Discovering what customers will really pay for With these analyses in hand, a company can determine Given the inherent trade-offs with each pricing strategy, the best pricing strategy for its particular circumstances. It software providers should first clarify their overarching will still need to respond to future changes in market strategic goals: Increase market share? Maximize profit? behavior and customer needs with ongoing tactical inter- Go public, or get acquired in four years? Roll up other soft- ventions. And real-time analysis of current and potential ware vendors? Maintain independence? buyer behaviors can serve to refine pricing positions. Set- ting the right pricing strategy at the start, however, will be Because of the intense M&A activity in software mar- the decisive factor in creating long-term value. kets, an overriding goal for some companies is to max- imize the enterprise value at the time of acquisition.