How to Price your SaaS Application – The Definitive Guide

[Guest article by Shalin Jain, Founder & CEO of Tenmiles Corporation, a software product company with a SaaS app]

SaaS: Software As A Service has become widely accepted and is a popular choice among businesses. Businesses consuming SaaS applications favour the low upfront cost and zero infrastructure headaches. Also, SaaS applications being deployed online have the advantage of being available anywhere, anytime and even on any platform. Businesses developing software have embraced the SaaS model with open hands. The emergence of Cloud computing, subscription ready payment gateways and success stories of the likes of SalesForce and Google Apps makes it an easy model to follow.

Clearly SaaS applications have adopted a different pricing model than the traditional one-time license fee based desktop or web applications. There is a definite recurring cost per user in the hosted model that warrants the need for a different pricing approach. You not only provide an app but also manage users data.

Let’s dive into a few of the popular pricing strategies to understand the available models and what could fit your next SaaS application.

FREE

There is actually no free model when it comes to SaaS applications, unlike desktop or deployable web based apps. The Free model is actually an Ad-Supported model or something that helps a business leverage/popularize another brand or product. YouTube is a good example that falls into this model. No user ever pays to upload or consume the videos. The revenue generated for the business is using Ads. Other services that follow similar models are popular Networking Sites like Facebook, Twitter & Orkut.

Facebook - Free Social Networking Service

The free model can scale quickly and you need to achieve critical mass to make sense of running on an Ad driven model. You would need to have a lot of cash in your pocket to scale up the infrastructure to support a large user base before ad-revenue starts pouring in. The free model works well for business-to-consumer (B2C) rather than business-to-business (B2B). While businesses do leverage these applications quite well they have no control, support & one-to-one relationships with the service providers.

Ads shown on youtube.com homepage

The most successful Free SaaS applications have their own Ad Networks. Think Facebook, Twitter & YouTube (Google). Other apps that don’t have their own ad networks end up sharing their profits with their advertising network partner (such as google adsense) making it even more difficult for the business to survive purely on ads. Recently, Ning the popular Social Network provider decided to close their Free offering and price their service instead.

There are startups that use the Free model while offering their service in beta. They are likely to move to other pricing models.

Freemium

This is probably the most popular pricing model for SaaS applications. There are plenty of B2C and B2B apps that use this model effectively. The idea of Freemium is to offer a Free plan along with paid plans. Paid plans usually offer some benefits over the free plans. Free plans become a great starting point for users.

CodeBaseHQ's Free Plan - With the limits clearly stated

Flickr is a great and the simplest of example that follow this model. You can upload pictures and share with a free plan but with a limit of 200MB uploads per month ,unlimited viewing of your images but would have ads on the page. If your usage is going to go above that limit you can consider upgrading to their PRO plan (for an annual fee you can upload up to as much as 100 times more content).

Fremium FlickR offers PRO plan at $24.95/year

Premium plans are usually selling more usage, features, priority support or sometimes even additional data security and back up. To arrive at what could be premium in your SaaS application could depend on the market segment you are addressing to and/or the costs to enable you to provide the additional services. Free plans help the business generate more word of mouth and attract small businesses early on.

Free Trial, Paid Only

Try before you buy. A more serious, built-for-business pricing model. Applications are usually available for anywhere between 7-60 day trial but are full featured. Apple’s MobileMe andHubspot are good examples that use this model effectively.

Apple's Mobile Me Service at $99.95 per year with 60-days trial. No Free Plans.

You probably need to have a product that stands out, has limited competition or is perceived as an extremely useful app. Many services indeed require you to submit your credit card information when you sign up for the trial period and start charging you as soon as the trial is complete. While this could prove an entry barrier for users it surely helps you minimize non-serious trial users.

Arriving at your pricing model

Having discovered and determined various segmentation that can help you price your service (what to charge for) the next big question is how much to ask and how often. How much quite often determines the entry barrier while how often determines retention ability. IMHO, How much is of course the bigger challenge. The real number could be arrived by studying competition, market size, target audience, perceived value of your service and many other factors. However, there is a clear choice you can make, between having a Single Plan or Multiple Plan.

Single Plan

Evernote, Flickr, MobileMe use a single plan strategy; Premium/Pro plan.

Single Plan offered by Evernote

They are essentially selling more storage space and bandwidth, targeted towards individuals rather than businesses. Their product does not involve multiple users within a single account and can be categorized in to B2C. Hence, the rationale behind a single price point.

Multiple Plans

It is important to evaluate if your market could be segmented. For instance – Small, Medium and Large Enterprises, Open Source and Proprietary software vendors, Freelancers starting out and well established freelancers. The goal of multiple pricing plans is to charge more to customers who use your service more and vice-versa. For instance, if you are selling a project management solution, you can easily segment your target audience on either the company size or number of projects. Businesses often may experiment with the most low end plan before they think the solution is fit for the entire company.

From Free Plans to $99/mo plan. Key segmenting factor is number of projects and storage space.

LinkedIn offers separate pricing for Job Posters (Companies) and Job Seekers.

LinkedIn - Pricing for Job Posters (Companies)

LinkedIn - Pricing for Job Seekers

Another excellent example of segmenting is GitHub. It segments different business sizes and offers free plan to only open source projects. Making it a popular choice among the large opensource development community.

GITHUB - Keeping it FREE for Open Source Projects

No Plans – Pay as you go

If your end users don’t have a definite usage pattern and are unlikely to commit for a specific time period it might be a good idea to have a pay as you go plan. DoAttend and Campaign Monitor are good examples of pay-as-you-go pricing models.

DoAttend works on a transaction model charging customers a very small fee when transactions happen. The customers are invoiced monthly based on their actual usage. Ideally, an Event Organizer who does one event a year will never want to pay monthly or yearly when he/she only uses the system for a maximum of 3-4 months.

DoAttend - Transaction based pricing - Pay As You Go

In a similar way, Campaign Monitor charges 1 cent per email sent out along with a fixed fee of $5 per campaign. Customers are charged 100% in advance everytime they choose to send out a mail campaign. Their pay-as-you-go pricing model appeals to customers who send out mailers once in a while with a varied number of subscription lists, which makes monthly plans a lot more expensive.

SlideShare uses Pay As You Go model for lead generation. Their latest LeadShare Program basically charges their customers only when a lead is generated from the presentation hosted on slideshare.

Leadshare by Slideshare - Pay per lead program

How often to charge

Monthly, Yearly and Pay-As-You-Go pricing models are what most applications adopt. Applications billing on Quarterly or Half-Yearly basis are quite rare. It is not uncommon to use more than one of these payment intervals. Evernote uses both Monthly and Yearly option. Mail Chimp uses both Pay-As-You-Go and Monthly plans.

MailChimp has both Monthly & Pay As You Go plans

Canceling subscriptions and upgrading/downgrading plans are assumed available by most consumers and you should be very clear about it to ensure better conversions. The best way to judge if your payment interval is ideal for your app is by keeping a track on customer retention ratio. Another handy number to have is average value and retention period of your customer. If you are offering a service for $5/mo and realize that average retention period is only 7 months it might be a good idea to offer a discounted yearly plan (besides improving your application to increase your numbers) and see how your new customers choose. If you are offering a yearly plan that is priced high, it would be a good idea to introduce a monthly plan to see if that reduces the barrier to entry.

Setup fees are very rare too, Hubspot charges a fee during sign up referred to as Mandatory Quick Start Program Fee. If every account on the system has a fixed cost to get started or if you think the value provided in your service is the maximum during the first few months rather than an long on-going usage, you can consider a setup fee.

Hubspot Charges a Compulsory Fee on Joining - referred to as Quick Start Program

Popular infrastructure

The SaaS ecosystem has grown really quickly, solidly and cost effectively. Cloud hosting, modern billing systems and availability of excellent frameworks have made this possible.

Cloud Hosting

Amazon Web Services: Amazon offers a large variety of cloud solutions. The most popular being Amazon Elastic Compute Cloud (EC2) and Amazon Simple Storage Service (S3). There are no major upfront costs and their pricing is hourly or by space consumed (in GB). It’s fairly easy to setup and a highly scalable solution.

Rackspace Cloud: Rackspace the leader in Dedicated hosting bought a cloud hosting service called Mosso and are aggressively marketing their cloud service as Rackspace Cloud. They offer cloud Servers (self-managed, starts at $10.95/mo), Cloud Sites ($149/mo) and Cloud files ($0.15/GB/month).

Slicehost and Linode are popular VPS hosting companies. These services are popular among ruby on rails (ror) and Python django developers. Pricing starts at $20/month.

EngineYard focuses on Rails hosting. One-click code deploys, application cloning, data automation and gem management.

Heroku is another ruby-rails hosting company. They have a free plan (great playing field for your 1 week old app on the cloud) along with paid plans starting at $15/mo.

Other hosting companies worth a mention are MediaTemple, Joyent and Aptana.

Billing Systems

Authorize.net (US only), Paypal, Amazon Flexible Payments Service, BrainTree (US only),Beansteam (US & Canada only) and 2checkout are some of the popular payment gateway that offer subscription services. You don’t have to store any credit card information on your servers and in most cases don’t even require PCI compliance. Spreedly and Chargify offer services on-top of the payment gateways to make upgrade/drowngrade/renewals available without you having to code anything to enable these features.

Frameworks

If you are building apps you might already be well aware of the popular frameworks available. These frameworks significantly reduce development time and make maintaining code easy. Server Code: Python Django, Ruby On Rails and CodeIgniter for PHP. For Client End Javascript – Prototype and jQuery are the most popular choices with many other awesome Javascript libaries around. Blueprint for CSS is very handy too. It is a good idea to compress your Javascripts and CSS for better performance. You can even consider using Google APIs to off load the JS load from your server.

The bottom line

Pricing is no rocket science if you rationally arrive at it. Experimenting early on, staying flexible and listening to your customers can really help you nail down the ideal pricing model that works for your business. Allow customers to upgrade/downgrade and even exit without any penalties. Don’t simply underprice for the sake of looking more affordable than your competitor. Keep your conversion and retention ratio in check to back your pricing decision.

[Reproduced from TenMiles's blog]