Five Modern Pricing Frameworks That Embed Product Metrics
As the founder of Paigo, I frequently engage with SaaS companies to discuss their billing requirements. Throughout these interactions, I have observed a wide range of successful and unsuccessful implementations of different pricing models and billing practices. To ensure that we capture and retain this valuable information, we maintain an internal living wiki that documents all the common, unusual, innovative, and exceptional pricing strategies we encounter during customer calls. In this post, I will be sharing the five most prevalent pricing frameworks. Now let's dive in!
Framework #1: Plans with Product Usage Entitlement
Who uses this: Retool (YC W17), Zapier (YC S12), ClickUp, Clay Labs
How It Works:
There are typically a limited number of pricing plans, usually ranging from 3 to 5.
Each pricing plan has a fixed payment amount per billing cycle.
Each plan includes one or more product metrics that have usage limits as entitlements.
Billing takes place at the start of the billing cycle as a pre-commitment.
Example Pricing Schema:
Zapier is well-known for its perfectly planned pricing strategies, which set a standard in the industry. The company offers four self-service pricing plans, catering to a wide range of customer needs and budgets, with prices ranging from $0/month to $3999/month. These plans effectively regulate customers' usage across various product metrics, including Tasks/month, Zaps, and Premium Apps. As an illustration, the Zapier Starter plan presents an enticing option at $19.99 USD/month, encompassing 750 Tasks per month, 20 Zaps, and access to 3 premium apps.
Variations:
Multiple sub-tiers are available within each plan. Such as Zapier task runs or Clay credits
Offer time-based free trial or credit-based free trial
Overage charges apply for exceeding the limits of each pricing plan
Add-on feature flags
Offer annual discounts
Pros:
Relatively simple pricing hierarchy to understand
Price discrimination (bundling of multiple metrics as one package)
More predictability in revenue for the seller, as well as the cost of the buyer
Cons:
Leaving money on the table is a common pitfall. This pricing strategy is usually not granular, leaving ample room for improving revenue, growth, and net revenue retention. Some customers will try to stay within a pricing category to avoid overspending. There are companies that continuously add more pricing plans, add-ons, etc. in order to minimize the revenue left behind. However, this eventually makes the pricing more difficult for buyers to understand and for sellers to manage internally. For instance, ClickUp is a major proponent of this pricing model. To avoid this pitfall, they currently offer 5 pricing plans that encompass approximately 50 product metrics entitlements, as well as 2 add-on feature pricings. Additionally, the add-on features also have up to 4 pricing tiers.
Framework #2: Pay-as-you-Go
Who Uses This: OpenAI (YC W16), InfluxDB Serverless (YC W13), Supabase (S20), Replit (YC W18)
How It Works:
The amount to be paid is not fixed, as it depends on the usage of the product during each billing cycle.
Product metrics are usually assigned a unit price.
Billing takes place at the conclusion of the billing cycle.
Example Pricing Schema:
The OpenAI API offers a transparent pricing structure that is solely determined by token usage. For instance, the cost for utilizing the 8K context in GPT-4 is $0.03 per 1K tokens input and $0.06 per 1K tokens output.
Variations:
Offer time-based free trial, usage-based free trial, or credit-based free trial
Require a fixed platform fee before pay-as-you-go kicks in
Enforce a minimum charge
Usage increment: the minimum bundle of product units to be charged. For example, compute resource related billing metrics, the usage increment is usually an hour. So any additional usage beyond an hour is rounded up to an hour. AWS EC2 employs this increment pricing policy.
Volume discounts. (See framework #3)
Pros:
Lowest barrier to entry: Begin with no commitment or subscription fees.
Billing occurs after the end of each billing cycle.
Revenue increases in proportion to the value customers derive from our products, also known as product usage.
An excellent strategy for enhancing Monthly Recurring Revenue (MRR), Annual Recurring Revenue (ARR), and Net Revenue Retention (NRR).
Naturally aligns with product-led growth and self-service approaches.
Cons:
It is crucial to select the most effective combinations of pricing metrics.
Buyers struggle to accurately estimate the upfront cost of purchasing. Therefore, enterprise sales for upper market and pay-as-you-go don't go hand in hand because buyers would be concerned about huge bills coming from pay-as-you-go as surprises.
This necessitates the implementation of a product metric metering infrastructure and aggregation.
The complexity of pricing is hard to model and develop into billing systems. (Refer to possible variations above)
Framework #3: Usage Volume Bucket
Who Uses This: AWS Lambda, Azure AI Service
How It Works:
This pricing schema operates similarly to a pay-as-you-go model.
Pricing is determined by one or more basic product units.
The unit price for usage is not a flat or fixed rate. Instead, it is calculated based on the total aggregated amount of usage per billing cycle.
Generally, the unit price becomes cheaper as the amount of usage increases.
Example Pricing Schema:
Azure AI Services charges customers based on the number of transactions they make. The pricing structure is as follows:
The first million transactions cost $1 per 1,000 transactions.
The next nine million transactions are charged at $0.65 per 1,000 transactions.
Subsequent transactions follow a similar pattern.
Variations:
Usage increment: the minimum bundle of product units to be charged. In the case of Azure Cognitive Services, the usage increment is per 1,000 transactions.
Free volume bucket. AWS Lambda has a free tier that includes 1M requests per month and a few other product metrics in the pricing.
Requires a fixed platform fee before usage price kicks in.
Enforce a minimum charge
Pros:
Strikes a balance between pay-as-you-go and usage-limited pricing plans, harnessing the advantages of both approaches.
Stimulate increased product usage by offering enticing discounts.
Cons:
Requires a pricing calculator for buyers to estimate the potential cost of purchasing.
Uncertainties regarding the long-term expenses for buyers.
Demands substantial engineering effort to compute the monthly bill correctly.
Framework #4: Unified Credit System
Who Uses This: Snowflake, Confluent
How It Works:
A unique currency system is defined by a SaaS seller.
Each billable product metric correlates to the credit unit with a specific ratio.
The credit unit is then associated with fiat currency using another distinct ratio.
Example Pricing Schema:
Confluent has implemented a comprehensive pricing strategy that encompasses various unified credit systems. These credit systems include CKU, which stands for Confluent Unit for Kafka, and E-CKU, which represents Elastic Confluent Unit for Kafka. Each credit unit is associated with up to eight product metrics, such as ingress, egress, storage, partition, connectors, and more. For instance, the mapping of storage with CKU is determined by the number of CKU per GB stored per hour. This approach allows for a flexible and tailored pricing structure based on specific usage metrics.
Variations:
Multiple credit systems are available for different product lines/segments, as demonstrated by Confluent.
Customers have the option to either pre-purchase credits or pay the bill after usage is calculated, depending on the amount of credit consumed.
Volume purchases are eligible for discounts.
Pros:
Communicating with buyers becomes easier when using a unified currency.
Introducing new product lines, pricing structures, and feature add-ons is simplified because the billing and sales protocol remains consistent with the same credit unit.
Sellers may have more control over pricings. The algorithm used to calculate credit usage can have subtle nuances. Since it is not open-sourced, SaaS sellers potentially have significant control over minor adjustments, bug fixes, and improvements for major or corner cases.
Cons:
A well-thought design of credit system must be carefully designed in advance.
Buyers need detailed explanations or documentation to understand the complex cost structure and credit system implications. For instance, Confluent provides a comprehensive document that explains their credit system, offers comparisons, and outlines the associated implications.
Implementing a metering infrastructure and aggregating product metrics into credit units requires substantial engineering effort. Additionally, converting these credit units into billing currency is also a significant task.
Buyers may experience less transparency of the exact pricing algorithm behind the credit system, which is the exact opposite of "Sellers have more control" mentioned above.
Estimating long-term costs can be challenging for buyers.
Framework #5: Percentage of Transaction Value
Who Uses This: Stripe (S09), Upwork, FinTech Companies, E-commerce, Marketplace
How It Works:
The products primarily handle transactions involving fiat currency, such as payments, marketplace activities, and other financial technologies.
The main performance indicator for the product is the total value of transactions processed.
Sellers earn a commission based on the value of each transaction they handle.
Example Pricing Schema:
Upwork charges freelancers a 10% fee on transactions between clients and themselves.
Variations:
Fee waived for initial transactions
Tiered transaction fees with lower fees for high volume/value
Blended with other pricing schemes
Pros:
Simple and easy-to-understand structure.
Buyers can easily estimate their costs as they have anticipated revenue.
Sellers always directly benefit from the buyer's business growth.
Cons:
Some buyers hate revenue sharing and transaction fees.
It requires engineering effort to accurately track transaction volumes in real time.
Narrower use cases because this pricing scheme requires transaction processing as part of products
Future Blogs (Coming soon):
Five Kinds of Free Trial Pricing and How You Choose for Your Business
Design a Usage-based Pricing Model that Your Customers Love: A Primer
If you're curious about how Paigo enables businesses to bill customers effortlessly with any pricing strategy, book a time with us to see a demo tailored to you.