Is usage-based billing the right model for your SaaS?

In the ever-changing world of software pricing, usage-based billing is becoming a key strategy. Recent analyses show that a significant 45% of companies, not just limited to SaaS, have embraced UBP (usage-based pricing) in 2021. This model, where customers pay based on actual usage, is gaining popularity, with 61% of companies actively using or trying it in 2023.

Major players like AT&T use UBP to create data plans that adjust costs with usage, charging extra for customers going beyond specified data limits. UBP's flexibility is clear, especially in cloud services like AWS, where they bill based on the exact amount of resources used.

In today's business landscape, where users have a big say in purchases, usage-based billing meets the need for value before big spending. This user-friendly model lets businesses start with a small cost and increase spending as they use more - a strategy linked to big boosts in customer lifetime value.

Notably, usage-based billing usage has risen from 27% of companies in 2018 to an impressive 61%, showing its widespread adoption and effectiveness in today's market.

What is usage based billing?

Usage-Based Billing (UBB), also known as metered billing, is a pricing strategy where customers are charged based on their actual consumption of a product or service, rather than a flat rate. In the context of the SaaS industry, this means that users pay according to the amount, level, or tier of service they utilize.

This model is particularly attractive as it aligns cost directly with value received, and it provides flexibility for customers to scale their usage - and therefore costs - up or down as their business needs change.

The prevalence of UBB in the SaaS industry is on the rise due to its adaptability and its capacity to closely match pricing with customer value. It's beneficial for companies that experience fluctuating levels of usage and for those who want to engage with a service without committing to significant upfront costs.

This model can also incentivize customers to increase their usage over time, potentially leading to greater revenue for SaaS providers.

Benefits of usage-based billing model

Here, explore the transformative benefits of usage-based billing:

• Customer empowerment: Empowering customers with control over expenses, paying only for what they use, fosters a sense of satisfaction.
• Transparency: A clear understanding of service costs builds trust between providers and customers, promoting transparency.
• Flexibility: Adjusting usage without changing plans provides customers with the flexibility to scale services as needed.
• Cost efficiency: Usage-based billing (UBB) ensures cost-effectiveness for customers with varying usage patterns, preventing overpayment for unused services.
• Enhanced customer experience: Tailored billing directly aligns costs with the value received, enhancing the overall customer experience.
• Revenue optimization: Providers optimize revenue stream by capturing more value from heavy users while accommodating smaller customers.
• Business growth: UBB facilitates business growth management by attracting a broader customer base with a lower entry barrier compared to fixed-cost models.
• Usage insights: Service providers gain valuable insights into customer usage patterns, informing product development and resource allocation strategies.

Is usage based pricing good for SaaS businesses?

While there's a significant trend in the SaaS market towards usage-based pricing, it's not a one-size-fits-all solution. Here are some nuanced perspectives:

• Market trend: There is indeed a strong movement in the SaaS industry towards adopting usage-based pricing model.
• Not universally appropriate: This model doesn't suit every business. In some cases, it can be counterproductive.

UBP is not recommended for products where simplicity is key, and especially not recommended for:

• Certain types of products/industries → collaborative tools are always priced per user (Slack, Notion, Hubspot, etc.), and if it were usage-based pricing, it would be confusing for the customer.
• Certain types of buyers → in more traditional sectors, usage-based pricing can be confusing/frightening, and customers need something basic. (in contrast: usage-based pricing is widespread in fintech industry.)
• Hybrid approaches: It's not necessary to switch to a 100% usage-based model. An increasing number of companies are adopting hybrid pricing strategies that incorporate elements of usage-based billing along with other pricing structures.

Assessing business for usage-based billing

When evaluating the suitability of a usage-based pricing (UBP) model, SaaS companies should consider the following key questions:

What is the nature of our product or service?

• Is the product's value closely tied to how much it's used?
• Do different customers use the product in significantly different volumes?

Who are our customers?

• Would our target market prefer the flexibility of a pay-as-you-go pricing model?
• How sensitive are our customers to price changes based on usage?

How predictable is the usage of our service?

• Can customers easily estimate their use and therefore their costs?
• Is there a risk that customers will experience unexpected high charges?

Is a hybrid model more appropriate for us?

• Could combining subscription fees with usage-based components offer a balance between revenue predictability and customer flexibility?
• How can we structure a hybrid model to remain straightforward for our customers to understand?

By carefully considering these questions, SaaS companies can assess whether UBP aligns with their products, customer base, and strategic goals.

The mechanics of usage-based billing

Usage-based billing (UBB) operates on a system where costs are directly tied to the consumption of services or resources. The key to this model is the accurate and reliable measurement of usage, which is where metering systems come into play.

Metering systems are essential in UBB as they track and record usage data. This data can include a wide range of metrics, such as time spent using a service, the amount of data transferred, or the number of transactions processed. The precision of these systems is critical.

3 case studies and industry examples

• AWS’ metering system:

System: AWS employs a sophisticated metering system for its services, which measures resources by the hour, storage, data transfers, and feature usage.

Why it works: The system's success is attributed to its precise tracking and flexible scaling options, allowing customers to pay for only what they use, aligning costs directly with their resource needs.

• Twilio’s metering system

System: Twilio's metering system tracks API requests and usage across its communication services, billing for the number of messages, call minutes, and other service-specific metrics.

Why it works: This model thrives due to its transparency and the direct correlation between usage metrics and costs, providing clear value to customers who pay proportionately to their consumption.

Learn more about SaaS billing here.

• LinkedIn's hybrid pricing system

System: LinkedIn uses a hybrid pricing model, combining subscription fees for premium features and usage-based pricing for advertising services, where costs are determined by clicks or impressions.

Why it works: This model caters to a wide range of users - individuals benefit from the premium features while businesses leverage the pay-per-action system for targeted advertising. The dual recurring revenues ensure consistent income while allowing scalability for advertisers, creating a win-win situation for both LinkedIn and its users.

Determining the value metric of your usage-based subscription model

Carefully select the most appropriate subscriptions and billing units to align with perceived customer value, for this focus on:

Step 1) Identifying customer value

Assess what aspect of the service customers find most beneficial.

Step 2) Electing potential metrics

Choose measurable aspects of the service that reflect customer usage.

Step 3) Evaluating metrics

Analyze each potential metric for its alignment with customer value and operational feasibility.

Step 4) Determining the value metric

Finalize the most representative metric that customers understand and value for billing purposes.

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5 examples of value metrics

1. Billing metrics: These metrics, such as revenues tracked by services like Stripe, focus on the financial aspect of usage.
2. Communication metrics: This category includes metrics related to communication volume, like the number of emails sent, which provide insights into usage patterns and trends.
3. Data and storage metrics: Services like Dropbox track metrics related to data and storage usage, offering valuable insights into user behavior and needs.
4. API and tech metrics: Metrics in this category, exemplified by services like Open AI and Gladia, focus on usage of APIs and technological resources, providing insights into technical usage patterns.
5. Operational metrics: Operational metrics, as seen with services like Zapier, track usage related to workflow automation and operational efficiency, offering insights into usage patterns for such tools.

Precision in usage tracking is crucial; consider advanced metering technology for accuracy.

Find the right usage based billing software

Our key advice : Before transitioning from simple billing to usage-based models, it's crucial to grasp the difference and select the right platform.

• Billing solutions: A basic billing solution works well for simple pricing structures. Yet, SaaS pricing model are becoming more complex, particularly with the introduction of usage-based pricing.
• Usage-based pricing: This approach requires selecting a value metric and consistently monitoring consumption - on a monthly or annual basis, known as "Metering." This tracking can be challenging with many billing systems.

Utilizing the right billing software is fundamental to the success of usage-based pricing. The software must offer robust tracking capabilities, transparent reporting for customers, and flexible integration with existing systems to manage the complexities of variable billing cycles and usage rates efficiently.

To streamline usage-based pricing, Hyperline stands out as the best recurring billing tool. It simplifies the process with its advanced tracking features, clear customer interfaces, and seamless integration, making it the go-to solution for managing sophisticated billing requirements.