Presented By: Alain Meloche, MBA, B.Sc. Managing Partner, (SPMG)

Strategic Pricing Management Group

Pricing for Services (SaaS)

647-349-2060

www.spmgpricing.com

Dec 2011 © Strategic Pricing Management Group, All rights reserved worldwide.

"Price is the most important statement you

make about your product“

November 29th 2011

2

Section 1

Review of Four Methods of Pricing

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Four Methods of Pricing

There are four methods that typically have been used to price a product

or service.

1. Cost - Based Pricing

2. Competition - Based Pricing

4. Performance - Based Pricing

3. Value - Based Pricing

4

1. Cost – Based Pricing

Cost-based pricing is perhaps the oldest form of pricing. It involves adding a

fixed mark-up to a product's cost to ensure a target margin.

Common when difficult to know the competition’s price

Relatively easy to implement and use on a day-to-day basis

Effective at ensuring the product is sold at the target margin

May not be effective at ensuring the product achieves other

important objectives

Problem when launching new products

Price = ( 1 + target margin ) x ( product cost )

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2. Competition – Based Pricing

Competition-based pricing sets a product’s price by adding a set premium –

or discount – to the price of a competing product (or basket of products).

Common in environments where the competition’s price is very visible

and/or rapidly changing

• Often called “reference” pricing

Relatively easy to implement and use on a day-to-day basis

Effective at ensuring the product is sold at the target premium or discount

May not be effective at ensuring the product achieves other important

objectives.

Price = { 1 + ( target premium or discount ) } x ( competition’s price)

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3. Value – Based Pricing

Ties price to the attributes that customers use when determining the benefits that

a product or service may provide them. For example:

• use of a product or service may provide dollar savings

• incremental price compared to competitors would then be based on some

fraction of the incremental savings relative to the best available alternative on

the market.

Common for new product pricing – especially in the case of

very innovative products

Not an approach that can be implemented rapidly; requires

careful consideration of alternatives and their pros and cons

Not always effective at ensuring the product achieves its

objectives

Incremental Price = some fraction of ( savings vs. best alternative )

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4. Performance-Based Pricing

Total cost if all savings

accrue to customer

Total product cost

Distribution

cost 5.6%

Total CURRENT

customer cost

8.25

8.00

7.75

7.50

7.25

Product

savings

New Product

Cost

Customer

efficiency

savings

Total NEW

Cost to

customer

after its

share of

savings

Other

non-

guarante

ed

savings

to

customer

Advanced Solution

Cost to

customers after

guaranteed

share of savings

$ Millions

Supplier

share of

savings

Guaranteed

savings

Total cost if all savings

accrue to customer

Total product cost

Distribution

cost 5.6%

Total CURRENT

customer cost

8.25

8.00

7.75

7.50

7.25

Product

savings

New Product

Cost

Customer

efficiency

savings

Total NEW

Cost to

customer

after its

share of

savings

Other

non-

guarante

ed

savings

to

customer

Advanced Solution

Cost to

customers after

guaranteed

share of savings

$ Millions

Supplier

share of

savings

Guaranteed

savings

Though it could be considered a subset of value-based pricing, since the price

obtained is directly proportional to the benefits that accrue to the buyer, it is

worth noting separately, as it is becoming more important.

Price = Base +some fraction of benefits( eg. savings)

• Useful when performance level is uncertain (eg. New product)

• Ensures that seller does not undercharge buyer

• Buyer receives insurance that will not be overpaying

• Buyer and seller need to agree to metrics and they must be measurable

Example

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Section 2

Basic Principle for Services Pricing

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• Is the value to the customer known?

• Has that value been communicated?

• Is value assignable to the offering?

Do conditions favor being able to deliver

against requirements on time, on budget,

and to a high degree of quality?

Co

nn

ecti

on

to

Valu

e

LOW HIGH

Risk to Supplier

Low

Hig

h

Services Price Metrics. Two key

Drivers

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• Output-based

• Gain/risk share

• Hybrid -fixed + variable

• Fixed-price

• Hybrid -fixed + variable

• Fixed -at higher margin

to capture risk premium

• Fixed-price

• Time and materials

• Time and materials

• Fixed -at higher margin

to capture risk premium

Risk to Supplier

Lo

w

Hig

h

Connection to C

usto

mer

Valu

e

Low High

Services Pricing Structures: For the 2

Drivers

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Two key questions:

1. How much?

2. What structure?

How Much?

Considerations:

• Minimize cannibalization between hosted and boxed versions of software

• May not be issue, if alternative is loosing a customer to an SaaS offering

anyway

• Keep boxed software priced competitively, compared to boxed competitors

• Keep your SaaS priced competitively, relative to ASP competitors

• Maintain a fair ratio between initial set-up/installation/customization fees and

hosting/maintenance/licensing fees

• Revenue recognition changes as upfront license agreements are recognized

upfront but SaaS revenue recognized as earned

• Many SaaS are offered at a low price point for an initial test; but conversion,

upsell and add-on rates are variable

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How Much?

• Increased number of

customers

• Increased sales/ customer

• Ease of

transactions

• Broader range of

product offerings

• etc

Current

Benefits

Level

Incrementa

l revenues

Incremental

Lower TOC

• Reduced development and

test of systems

• Lower hardware

replacement costs

• Faster problem resolution

• Lower software re-

implementation costs

Price Bandwidth:

How much of this will

you “invest” in order

to:

• Enter a market

• Compete

• Meet corporate

objectives

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How Much?

• Reduces work needed to combine data on performance with metrics

• Reduces time required to demonstrate and build buy-in to cause and effect analyses

• Minimizes response time thereby minimizing lost revenues

Key Activities Estimated $ Value

Incremental Value Added

Revenue Cost

Large Small Large Small • Collect data on performance

• Review performance relative

to metrics defined in Planning

• Trend analysis

• Analyze cause and effect

Establish Objectives

Translate into Strategy

Convert into Plans Monitor Adjust

$12.5 K

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Person-days: - - 10 5 All-in cost/day - - $375 $375 Incremental Benefit: - - $3.75 K $3.75K

Person-days: - - 10 7 All-in cost/day - - $375 $375 Incremental Benefit: - - $3.75 K $2.63K

Person-days: - - - - All-in cost/day - - - - Incremental benefit: $5K $2K - -

TOTAL: $5K $2K $7.5K $6.38K

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What Structure?

Multiple Plans (Tiered) • Need to segment market

• Small, medium, large enterprises

• Open and proprietary software vendors

• Goal:

• Charge more to customers who use your services more

• EXAMPLE: (for a project management solution)

• Segment target audience either on company size or number of projects

• (companies often experiment with the most low end plan before solution is judged

fit for entire company)

• EXAMPLE: GitHub-segments different business sizes and offers free plan only to

open source projects.

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What Structure?

Tiered plans

• May require that services that are infrequently used or on which low value is

placed, be acquired.

• May work better for larger enterprises with broad range of users.

• Smaller and medium sized enterprises may not need and place value on all

services lowering uptake and revenues.

• Pricing structure may be more appropriately based on apps model.

$0

Tier 1 Tier 2 Tier 3

Basic Services/Apps Apps: • # of users • usage

When more apps required, major jump

occurs in price

More like a pay-as-you-go

model, where only apps

that are used, are paid for 16

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• Tiered subscription

• Apps-based

• Subscription

• Apps-based

• Tiered Subscription-at

higher margin to capture

risk premium

• Pay-as-you-go

• Pay-as-you-go

• Tiered Subscription -at

higher margin to capture

risk premium

Risk to Supplier

Lo

w

Hig

h

Connection to C

usto

mer

Valu

e

Low High

SaaS Pricing Structures: For the 2 Drivers

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Take-Aways

• Service pricing should be based on the value of the

attributes of the software

• The value of the attributes depends on the user segment

• Consequently, the market needs to segmented

• The more you can break your SaaS into its component

parts, the more closely you can price to match the value

ascribed to the SaaS by your different buyers

• The structure of the Cloud permits this granularity

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Contact Us

ZOLTAN LORANTFFY

Global Director, Business Development & Corporate Training

Phone 647-349-2060

Email zlorantffy@youneedpricing.com

Strategic Pricing Management Group:

Pittsburgh / Chicago / Toronto / Mexico City

Rio De Janeiro / Paris / London / Hamburg / Budapest

Jakarta / Singapore / Moscow / Victoria

www.spmgpricing.com