The market for software has evolved from the days when we purchased products from Adobe or Microsoft on discs in cardboard boxes. When we use today’s cloud-based services, we tend to see one of two pricing models: we either subscribe to the service and pay per user per month (or year) or we pay based on our actual usage.
But which model is better? Last month, Ibbaka’s Steven Forth wrote this post about the advantages of each model. In an analysis published last week, TechCrunch wrestled with that question and concluded that there is “no clear winning pricing strategy” in the business-to-business market for software-as-a-service (SaaS).
“Both consumption and subscription pricing have their advantages when it comes to growth,” the TechCrunch authors wrote. In other words, each will drive demand in its own way. But they did note that success seems to depend on a company’s size. Their analysis showed that companies with less than $1 million in annual revenue grew much faster if they used a subscription model, but those with revenues greater than $1 million grew faster if they used a consumption-based model.
In our view, that finding doesn’t settle the debate on which pricing model to use, because it mixes correlation with causation. To come closer to finding a causal link between a pricing model and a company’s financial or commercial performance, we need to look beyond the models and focus first on the pricing strategy of each company. When we do that, we will see that distinguishing between two “good” options starts with how the company creates and shares value.
A pricing model is not a pricing strategy
One reason we published Game Changer is to change the conversation around pricing. In that new conversation, the driving force is the company’s pricing strategy, which depends on the answers to these three questions:
- How do you create and share value?
- What pricing game do you want to play?
- What pricing model best fits your value creation strategy?
Amazon followed this sequence when it launched Amazon Web Services (AWS), whose pricing strategy we describe in a chapter of Game Changer. The company realized that it could deliver value by offering infrastructure access to businesses that couldn’t afford the upfront investment in their own IT. Amazon’s desire to scale the business depended on successful cost management, which made AWS a good fit for the Cost Game. The needs of their large base of potential customers were too variable and heterogeneous for a segmentation or for a uniform offer, which made a consumption-based pricing model a better fit.
But what if Amazon had a different vision for AWS? Suppose Amazon had more limited ambitions and wanted to target only selected industries with a premium service. In that case, it is easy to imagine AWS in the Choice Game as a subscription service with different tiers, not in the Cost Game with a consumption model.
Pricing strategy always drives the model choice, and strategy begins with the source of value and the business objectives.
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