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SaaS companies have a variety of pricing strategies to consider when determining product pricing. Each one seemingly has its own pros and cons, so choosing the right one can be a real conundrum.
Here, we'll explain why value-based pricing is a great pricing option for many SaaS companies. This pricing approach involves setting the final price based on what the customer values the most. It focuses on customer value, which can lead to higher sales and potentially higher profit margins.
In this article, we'll be diving into different pricing approaches and how they compare to value-based pricing. You'll learn all the information you need to understand why this strategy is popular and why it just might be the best choice for your SaaS company.
Value-based pricing is a strategic approach that involves businesses determine the pricing of their products based on the perceived value of their customers. This type of approach goes beyond solely considering production costs or standard competitive profit margins.
The value-based pricing strategy is not simple to execute. It relies on skillfully shaping the brand and effectively framing the value proposition of the product to influence the price customers are willing to pay. This pricing strategy focuses on the impact of brand building and value framing, rather than the quantity of features or even the product quality.
As an example, think about fine art. Imagine you have paint and a canvas, and you create a remarkable painting.
Even if your masterpiece rivals the works of Picasso, it inherently lacks the value associated with the renowned artist.
Therefore, it is unlikely that customers would be willing to pay millions of dollars solely for the artwork's aesthetic appearance.
In essence, value is intricately tied to the creator and their story, or the narrative they have built, rather than the creation itself.
Why do SaaS companies love value-based pricing?
First, by aligning your pricing with customers' perceived value, you have the opportunity to set higher prices compared to your competitors. This means more revenue for your business if customers are willing to pay more for your offerings than what your competitors charge.
Additionally, adopting value-based pricing fosters an ongoing improvement process for your product. Pricing extends beyond a mere monetary value; it encompasses the product packaging and how features are presented. Having a deep understanding of what your customers value will enable you to continuously evolve and enhance your product and its features.
Lastly, given that your customers play a central role in determining the value of your product, effective communication becomes paramount. Regular and meaningful interaction with customers allows you to build a strong connection, foster trust, and cultivate long-term relationships. This trust can ultimately result in higher customer retention rates and lower churn, benefiting both our customers and our business.
Advantages of value-based pricing for SaaS businesses
We've already explained why value-based pricing can be a highly rewarding strategy. But why exactly is it the preferred pricing model for SaaS?
Let's dive in.
👍 Covers every revenue opportunity
Value-based pricing allows for the creation of price points tailored to each segment or target market, taking into account their perceived value. This comprehensive approach ensures that all revenue opportunities are effectively addressed, allowing for a wider reach and unlocking previously untapped revenue potential.
👍 Fosters a deep understanding of your market
The research required to implement the value-based pricing model serves not only to determine your price point but also to enhance your understanding of the industry and market. This will only be a great thing in the long run.
👍 Helps you offer a superior quality product
In the process of optimizing your product, implementing a value-based pricing model allows you to create a product of superior quality by solely considering the thoughts, needs, and desires of your customers.
👍 Promotes great customer relationships
The fourth advantage of value based pricing is that it promotes excellent customer support. By prioritizing active listening to your customers, you can guarantee exceptional customer service reviews.
👍 Paves the way for future growth
Focusing on the perceived value for your specific target audiences will ensure persistent and long-term revenue growth, leading to future success and expansion opportunities.
👍 Expands customer base at no cost
Value-based pricing, when implemented correctly through deep research, ensures increased profitability by selling your product with additional value. This strategy is effective because it minimizes costs associated with expanding your customer base, both on an individual level and within a company.
Drawbacks of value-based pricing for SaaS businesses
Like anything in life, value-based pricing has its share of imperfections. Let's delve into some compelling reasons why you might want to reconsider adopting value-based pricing at the moment.
👎 You'll need to invest time and resources
Implementing a value-based pricing strategy demands significant dedication of both time and resources. Building a solid foundation for quantifying buyer personas is a time-consuming task, and determining customer valuations proves to be more challenging than it might initially appear. This difficulty explains why many companies choose to rely on cost-plus and competitor-based pricing.
Additionally, customer research is an ongoing process, requiring continuous attention and effort. Once a pricing strategy is adopted, the gathered information serves as a catalyst for refinement and expansion, meaning the work is never truly completed. Not all companies have the resources or bandwidth for these efforts.
👎 Value-based pricing is not black and white
Value-based pricing is not an exact science. It is not a rigid figure, but rather an approximation. Its reliability is not absolute as it relies on price sensitivity measurements and feature analysis to provide you with approximate guidance on the appropriate pricing, packaging, and positioning for your product.
Which SaaS should use value-based pricing?
Value-based pricing is a strategy used in different industries, but it works best in niche markets that meet one or more of the following criteria:
Low production costs
With software as a service, ongoing production costs are limited. Unlike traditional manufacturing, you don't have to worry about materials and manufacturing expenses for each new SaaS subscriber. Therefore, cost-plus pricing is not suitable in this case.
Very niche product
If you and your competitors offer very similar products, chances are they will have similar value to customers. Consequently, it becomes difficult to avoid pricing based on what competitors are offering.
But maybe you have a unique product can has high value for customers. If it's the sole solution to a specific problem, value-based pricing is a great option. Even if your product doesn't cost more to produce, if it addresses a unique need that no other product fulfills, consumers will be willing to pay a higher price for it.
Plans to develop add-ons and product upgrades
When implementing a value-based pricing strategy, incorporating add-ons and new features can effectively enhance the perceived value of your product. By identifying the desired upgrades from your customers, you can develop them and adjust the product price accordingly.
Examples of SaaS using value-based pricing
Now, let's get into the strategies employed by two exemplary companies that have successfully implemented a value-based pricing approach.
Trello exemplifies a successful business model by employing the "freemium" approach to entice users and subsequently upsell them with an array of integrations and enhanced features.
With its free version, Trello already provides users with an abundance of exceptional features. Nonetheless, the paid versions offer a wealth of additional benefits.
By skillfully adding value to their product, Trello has mastered the art of attracting users at the foundational level while also captivating them with the allure of integrations, advanced features, and expanded user capacity.
In 2012, Adobe made a significant shift in its business model by adopting a value-based subscription approach. Previously, customers had to make costly one-time purchases for Adobe products and would have to repurchase the software whenever updates were released.
Recognizing the unsustainable nature of this model, Adobe introduced a monthly subscription model for its entire creative cloud suite.
This new pricing structure, although it may be more expensive in the long run, allows customers to access all of Adobe's latest features and updates on a regular basis. Users appreciate the convenience of quick access and the assurance that they will always have the most current version available. As a result, Adobe has amassed a substantial customer base, comprising hundreds of thousands of individual users and companies.
This success reflects Adobe's understanding of its own value and the corresponding pricing strategy it employs.
How to implement value-based pricing for your SaaS in 3 steps
1/ Market Research
Once you have grasped the essentials of value-based pricing, the next step is to apply these insights when defining your value proposition.
How, you ask?
Well, it comes down to careful research and analysis of your market. But don't worry, we're here to walk you through step-by-step.
1) Customer analysis
Your first focus should be your customer. Their perception and appraisal of your product is the most important, after all. Underscoring this pricing strategy is the customer's standpoint and the perceived value it carries, making the actual product a secondary consideration.
You'll be able to unveil invaluable insights as your existing customer base serves as a reliable source to understanding the true value of your service. Extend the scope by involving potential customers as well. Schedule meetings or phone calls to gain a comprehensive understanding or do an email survey for a more detailed account.
To effectively analyze factors influencing your customers' willingness to pay, it is important to delve beyond simple yes or no answers.
Consider questions such as: - What are the determinants that impact the customers' readiness to pay? - At what price range are customers willing to invest in your product or its specific features? - When does your product reach the delicate balance of being perceived as both too inexpensive and too costly?
Your product featured can be classified into four distinct categories:
- Essential features: These features are prioritized highly by customers as they are considered the core elements of the product. Although customers do not express a willingness to pay extra for them, they are crucial for the overall functionality.
- Differentiator features: These features help you distinguish your product from competitors. By identifying which features have high value and customer willingness to pay, you can justify a higher price tag for your product.
- Add-on features: These are niche features that your customers are willing to pay for. You can package these features separately and price them as add-ons. This approach not only allows for additional revenue but also creates an initial perception of affordability for your product.
- Fruitless features: These features provide no value and are typically disregarded by customers when asked about paying extra for them. Identifying and eliminating these features can lead to significant cost savings in your development or marketing budget.
By using this information, you will gain a deeper comprehension of areas where you can leverage higher pricing for specific features, as well as devise a marketing strategy to maximize profitability. It is possible that your data may indicate the need to increase the overall pricing of your product or explore the creation of a pro version at a premium cost. However, the only way to ascertain these insights is through diligent research and analysis.
2) Total addressable market analysis
This is the part where you delve deeper into your total addressable market, analyzing the customers you have yet to acquire or the new target markets you have yet to explore. Imagine how these potential customers will perceive your product if it is entirely new to them. What will make them say, "Wow, I need that!"?
When segmenting your entire audience, consider each stage of the buying process. Utilize tiered pricing to generate maximum interest across the tiers, emulating Avast's successful pricing plan.
Additionally, incorporating reviews from industry players who praise your company can further emphasize the value that businesses have gained since partnering with you.
3) Competitor analysis
When it comes to analyzing your competition, consider delving into the specifics of who and what exactly you are up against. In today's fast-paced software industry, finding a direct competitor isn't always straightforward. SaaS businesses typically carve out their own niche, but there are often overlapping or similar elements across all businesses.
If you find yourself without a direct competitor, it's important to conduct a comprehensive competitor analysis through examining every feature of your product. Take a closer look at competitive prices, customer reviews for insights on what they appreciate (or don't), their marketing strategies, and how they foster brand loyalty.
You can conduct your research using various resources such as Google, LinkedIn, Crunchbase, and G2. Additionally, don't forget to leverage your existing customers for valuable insights.
Include questions in your surveys or questionnaires about other similar products or brands they may be familiar with, have considered, or even switched from. Based on this feedback, you can identify your own unique value proposition that sets your product apart from the competition. Strive to make your product excel in performing its intended job better than any other.
Don't neglect staying up to date with the latest market trends. By taking these steps, you'll gain a comprehensive understanding of the overall market landscape, enabling you to set a competitive price point.
2/ Calculation of your perceived value
After conducting thorough research and analysis, it is important to get to the bottom of the following questions:
- What do your customers truly value? What factors influence their willingness to pay for your software? - How can you effectively communicate the value of your software to new or uninformed customers? - What strategies have your competitors previously employed, and what are their current practices?
If you were unable to answer any of these questions, you'll have to return to the first section and begin again. You need more thorough research and analysis.
If you successfully responded to these questions, here is the formula for determining value-based pricing:
Your value is determined by the combination of your brand advantage, which is what sets your product apart from others or your unique selling point (USP), and the final value your product provides to customers. It is crucial to comprehend how customers perceive your product, regardless of whether they have already purchased it or not.
This understanding is not only essential for the aforementioned calculation, but also for future pricing strategies. By mastering your pricing strategy from the start, you can significantly enhance the perceived value of your business, fostering brand loyalty that will grow over time. It's like magic!
If you've completed your research and analysis, it means you have the groundwork is mostly complete. Now you are ready to move on to implementation and experimentation.
1) Establish packages as part of the pricing plan
First, it's important to develop distinct packages within your pricing plan to address the diverse needs and preferences of your customer segments. This approach considers the perceived value your product has for each segment as well as their corresponding price sensitivity.
By offering a range of package options, you can attract a wider audience and potentially upsell to customers in the future.
Take Framer's pricing plan as a notable example. This design software features a Freemium option, a Standard package, and a Teams pricing offering. Additionally, Framer implements a comprehensive tiered pricing structure specifically tailored for different team sizes.
2) Decide on your price point
Determining your price point is a crucial step in the experiment. After carefully identifying and analyzing each buyer persona to define your segments, you must apply the appropriate price for each.
The research and analysis phase will undoubtedly contribute to this process, but it's important to acknowledge that creating an optimal pricing plan can be time-consuming. It may require some adjustments along the way, but staying updated with your customers will ultimately aid you in reaching your goal.
This leads us seamlessly to our next point...
3) Communicate with your customers
Maintaining regular communication with your customers is the key to success in a value-based pricing model. It is through effective communication that you can gain insights into what is working and what is not for your client base.
Excellent customer service plays a vital role in listening to your customers, while effective marketing helps in clearly articulating the value you provide.
4) Implement your new pricing gradually
To introduce your value-based pricing gradually, it is recommended for established SaaS businesses to proceed with caution and implement the new strategy first on a small group of clients. It is ideal to choose new clients who have little or no experience with your previous pricing plans.
This approach allows you to identify and address any initial challenges without overwhelming your support team with a high volume of inquiries. Furthermore, it provides an opportunity to gather valuable and unbiased feedback to inform future decision-making.
5) Be consistent with your efforts
Maintaining a consistent level of performance is crucial in implementing a value-based pricing strategy. By continuously delivering value to your customers, you not only increase their willingness to spend but also pique the interest of potential customers who seek to experience your brand firsthand.
The correlation is clear: the more dedicated and diligent you are, the greater reward you'll reap.
Demand-based pricing is a strategic approach that involves setting the price of a product or service based on consumer demand. The objective is to maximize sales and profits by charging customers an amount they are willing to pay.
Skimming is a pricing strategy where you initially set your SaaS prices higher than usual, then gradually lower them over time. The idea is to attract a smaller target market first and generate initial revenue.
Captive pricing, also known as captive product pricing, is a pricing strategy where a "core" product is offered at a lower price, but additional products required to fully use the core product are charged separately.