Very few companies price their SaaS product(s) well.
There's lots of explanations for this, from finance experts who are used to selling commodities using a formula to determine the "ideal" price, through to founders setting a price once based on what they think feels right, and never updating it.
If you want to price your product in the most profitable way possible, you need to think about pricing primarily as a function of marketing.
If you're looking for a simple answer to this question, or want a formula for coming up with the perfect price, you've come to the wrong place, and you're going to come up with the wrong price. If after reading this post you're still thinking in those terms, I've clearly failed you.
No one knows how your SaaS product should be priced.
Your pricing needs to be continually tested and optimised, much like your landing pages, email subject lines and customer success process. It's not a set-and-forget-it exercise.
This advice is useless if you don't already have a price to work with, though, or an idea on whether you should be charging more or less. That's the reason I wrote this post. It outlines how you can come up with hypotheses for the ideal price of your solution, built around the real value your SaaS solution offers its customers, rather than hunches or what your competitors are charging.
Value-Based SaaS Pricing Explained
Value-based pricing means work. You can't use value-based pricing unless you know the true value your customers derive from using your product. Lots of different things can be viewed as value on the customer end, with measures as diverse as reduced employee churn to increased sales.
Thankfully it's possible to estimate a dollar value on almost any SaaS product with enough thought and research. To demonstrate this point I've put together 3 different examples.
The CRM Example
Imagine you are selling CRM software. Value delivered to a customer is likely to come in a number of forms, but they should all funnel into one easy to measure metric: increased revenue. Better CRM software should enable sales reps to sell more (increasing revenue) and account managers to retain more customers (increasing revenue).
If before implementing your product, a business using spreadsheets to manage their CRM has 20 sales reps each bringing in £20,000 in monthly sales, and 12 months after implementing your CRM solution successfully they're each bringing in £22,000 in monthly sales, it's possible to calculate the value you've added: 20 x £2,000 = £40,000 per month.
The HR Example
In this second example, imagine you sell HR management software. It has one primary functionality: to indicate to HR team members when an employee is likely to churn, and suggest actions which can be taken to reduce the risk of that employee churning.
For the sake of this post, imagine that replacing an employee with a new hire costs on average £10,000. Before implementing your software, a company loses 10 employees each month. After implementing your software, the same company loses 8 employees each month. Your software is generating £20,000 in value each month.
The Security Software Example
In my final example, picture selling enterprise security software. You build a specialist product which reduces the amount of time developers need to spend remediating code, by identifying bugs earlier in the software development lifecycle.
Assume a typical software developer's time is worth on average £50/hour to an organisation; a typical customer has a 1,000 strong software development team and each developer spends an average of 40 hours per month remediating code. That means the organisation currently spends £2,000,000 per month remediating their code.
6-months after doing a company-wide roll-out of your security software, a typical company reports that their developers now spend 36 hours per month remediating code. Each developer has gained 4 productive hours per month, worth £200. Multiplied across the entire software development team, you're driving £200,000 in monthly value.
The 10x Rule
After working out the value your solution provides to customers, there's a simple rule you can use to determine how much your solution should cost.
The 10x rule.
It's a general rule applied in business. If you can convince someone that investing in a new product, process, or way of doing things will generate at least a 10x return on investment, you should be able to overcome the barriers to change.
Applying this to SaaS product pricing is simple. Just make sure that the value your solution delivers is at least 10x what you charge for it. If you can save a company £100,000 per month, you should probably initially think about charging them ~£10,000 per month. If you can save a company £10,000 per month, you should probably be charging them ~£1,000 per month.
Caveats and Things to Remember
- When calculating value, don't compare your value with your competitors' value. Instead, compare your value with the current entrenched solution within the industry you're disrupting. If you were HubSpot, selling marketing automation software, you wouldn't calculate your value based on determining what value a company would get from switching over from Marketo (another marketing automation vendor).
Instead, you calculate your value (and therefore set your pricing) based on what a company would gain from adopting marketing automation for the first time. Marketing automation software isn't yet entrenched within organisations, and instead many are using whole suites of marketing tools which don't work well together. Many are not using any software at all.
This starts to change in industries already saturated with SaaS products, like CRM, where you'd have to consider an existing typical SaaS product as the "entrenched solution" in value calculations. For example, if you were developing a CRM system for web development agencies, you'd have to compare the revenues of a company using their existing CRM initially to the revenue they generate using your specialised software.
This is why it's so difficult to displace large SaaS companies when they're entrenched in a market. Someone else needs to come along and build something that delivers 10x more value to sideline the existing player. This is much easier when there's no system in place yet. No large enterprise is going to disrupt their entire sales organisation for a small gain in value.
- Segment your customers. Different customer groups are going to extract different value from using your software. This is the primary reasons SaaS companies have different pricing tiers. A large corporation rolling out your software across 20,000 people is going to generate a lot more value than a SMB rolling out across 200 employees. Price accordingly.
- Value is only ever going to be an estimation. You're never going to know exactly how much value you deliver to a customer, you can only ever estimate it. Over time, you'll get better at estimating, and have accurate metrics to use to form pricing hypotheses. But never use these as hard and fast rules.
Once you've estimated the value your customers are getting from your solution, go out and ask them. There may be factors you never considered, and it's no good using a value estimation your customers disagree with.
The steps I outline in this post would provide a good estimate for what you should be charging a specific target segment of customers, and from there you can test different prices both above and below to hone in on the most profitable pricing strategy for your unique company, and the market forces at play.