Pricing and Planning: Will usage-based pricing continue to drive growth?
Steven Forth is a Managing Partner at Ibbaka. See his Skill Profile on Ibbaka Talio.
Usage or consumption pricing has been widely recommended by SaaS pricing experts over the past few years. Pricing experts like usage pricing for three reasons. Usage-based pricing can …
Lower the entry price making it easier for buyers to commit.
Make it possible to grow in package (this is the secret to Snowflake’s eye-popping NRR numbers)
Better connect price to value
Given these advantages, why aren’t more companies adopting hybrid pricing models? Based on conversations we have with SaaS business leaders, we think there are 4 main reasons.
Inertia, pricing is not a priority
Complexity, let’s keep pricing as simple as possible
Uncertainty, not sure how to do this
Fear, that hybrid pricing will drive revenue down in a slowing economy.
How well has usage-based pricing been performing? How resilient will it be in a more challenging economy?
Maxio data on B2B subscription growth rates
The billing and subscription management company Maxio recently released its January 2024 Report The Growth Stat for B2B Subscription Businesses. There are many interesting things to be found in this report, but for this post the comparison of Consumption invoicing (which is usage-based pricing) and Subscription invoicing (this could be per user, per site, per model, per business process supported - business processes executed would be a consumption metric).
How are these 2 pricing approaches performing?
Consumption models struggled in 2022 relative to subscription models, but in 2023 they have outperformed subscription models. The companies that have performed best have combined consumption and subscription models. Will this performance hold up?
Even in a tough economic environment, there are arguments in favor of consumption or usage-based pricing.
De-risk the initial buy and maintain sales momentum even if the initial Average Contract Value is lower
Allow customers to reduce spend instead of churning
Position for growth as use goes up
Snowflake NRR trend
Snowflake is the flag bearer for the consumption model and it has delivered outstanding Net Revenue Retention numbers over the years. Back in 2021, Snowflake was the clear outlier on NRR and this was driving a lot of enterprise value, as Nick Mehta and Jake Wirfel show in this post.
How has Snowflake’s NRR held up? Pretty well, though it has been trending down for the past year, and in Q32024 (using Snowflake’s accounting year) it was only (only!) 135%. That is still above the 130% boundary that Ibbaka has seen driving high valuations and is impressive for a company with almost US$700 million in product revenue per quarter.
For Snowflake, only part of the decline can be attributed to economic conditions. One cannot keep on growing forever inside a company. One eventually reaches a natural limit. Snowflake is approaching that limit with some of its customers. There are even companies like Acceldata that help you manage your Snowflake spending.
We expect Snowflake NRR to stabilize between 115% and 125%, This is below the 130% threshold but still impressive for a company of this scale.
Implications for SaaS Pricing in 2024
What should SaaS companies do?
Have a hybrid pricing model that includes subscription and usage-based pricing.
Adjust the balance between these two pricing metrics so that subscriptions contribute about 70% and usage about 30% (the greater the growth the higher you should weight usage-based pricing, if growth is flat or even negative you may want to dial usage-based pricing even lower).
Make sure that both pricing factors track value. Both subscription and usage-based pricing metrics should be tracked with the economic value your solution delivers.
Pricing is not once and done. Your pricing model needs to adapt to changes in the market and to how buyers are getting value from your solution.