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Pricing Strategies: Software as a Service

An Introduction
One critical decision for any software company is product pricing. For startups this is particularly the case as they are working with emerging technologies. One of the hardest decisions for a company can be pricing of the product. There are several models which follow (SaaS) or software-as-a-service. This article looks at how companies can use these pricing models and make the right pricing decisions. To put the information into real work practice interviews with real companies are provided for analysis.

The Key Pricing Models
There are four main pricing models which are Consumption, Freemium, Tiered, and Perpetual License. Each of these has strengths as well as weaknesses. Decisions makers have several decisions that they need to make before deciding upon a pricing model.

Consumption Model
One popular pricing model is the consumption model. This allows users to tie the usage to the cost. This is also called “pay-as-you-go.” A customer is able to manage their use of a product or a service and the expenses related to it. This type of flexibility is valuable to a company are in the early stages of ramping up need for a particular product and have an anticipation for more usage in the future. A locked-in contract makes sense for the customer at a higher usage level, but pay-as-you-go might be preferred during the scale-up period.

Limited commitment into the future for customers is another important aspect of the consumption model. Traditional license models don’t allow customers to sever ties to a product immediately or allow them to scale back usage without some sort of negative penalty which can be significant. Customers must have an understanding of the value per use, but don’t have a clear view of the future use or how their usage patterns may change in the future. A pay-as-you-go model makes more sense for this sort of customer.

The vendor has a downside when working with the consumption model because they can’t predict revenues. The customer has more flexibility on their usage of a product or service which can vary month-to-month so this impacts the stability of the vendor’s income. As a company scales up and gets familiar with the value proposition of their product, the usage should go up. With a strong understanding of their user base and user needs for a product, it makes decisions about revenues easier. This revenue model has key metrics which include user growth rates, active users, and the average revenue per user.

The Freemium Model
The software-as-a-service companies soften use the freemium model. In the enterprise space and the consumer space, freemium if used. Freemium is a model that offers features or core services for free, but then changes a premium for components which are more sophisticated. The idea behind it is instead of expensive marketing and sales efforts, the company wants to create a low barrier for interested customers to get their product. The key is to get a lot of interest in the product and provide a minimum barrier such as a simple signup or a low cost (Free for a basic style offering) for users to try the product being offered. The intent of this is that the product will meet the needs of the users and entice them to pay for a premium offering. In 1983 Carl Shapirio released a paper and the freemium model comes from that paper. The paper was on the optimal pricing of experience goods and it argued that customers tend to underestimate the value of an experience good. He defined this as product value a customer learns after experiencing the product. The optimal price is one that is low as an introduction to the product which leads the customer to understand the true value of the product as they use it.

There are three freemium model methods which are commonly used to separate the premium offering from the free offering:
• Capacity Based Freemium -In this model a customer is given a free version up to usage, capacity, or threshold of number of users. This model is one of the most common in use today. One example of this is Dropbox. You get 2GB for free and then an additional 10GB of storage priced at $10 per month for the “pro” plan. For those that need 1TB or more there’s enterprise sales which are negotiated.
• Time Based Freemium – In this model there’s a free trail which will expire after a specified period. This allows the user to experience the product and learn the value of that product for free. There’s usually a higher conversion rate before and after the free trail if the engagement with the customer is there. There’s a 30-day free trial with Salesforce.com for its CRM platform. The trial gives a lot of the functionality of the product so that the user can see the value that the product provides for them.
• User-Case Freemium – This model is less common. Customers can use the offering for free if they fall under certain categories such as non-profit, educational, or non-commercial use. Example of this freemium model would be Adobe or Autodesk which address the student market.
Considerations for the Freemium Model:
• Customer Targeting – The freemium model is popular because you can quickly establish adoption and market share. A business that wants to scale up quickly will benefit from the freemium model, but it’s likely to attract Pro-sumers as well as SMB which might not be the ideal thing for your business.
• Value for free Users – The free aspect of it only makes sense if they get the “premium.” You have to be careful about the value the free customers are adding. This might be leveraging viral marketing, saving on marketing costs for some companies while others might be selling data or trying to save money through advertising.
• Learning from the Free Users – Companies need to keep tangible numbers related to their free users. They may also want to use cohort analysis to understand their conversion rates and to track viral referrals so they understand the return on investment for the free users.
• Cost to Serve the Free Users – It’s important to understand the continued cost of serving free users and the acquisition costs of the free users. A good comprehension of this cost and the estimated conversion rate will help to make quick determinations as to the market required to make viable business decisions as well as the premium members required which support the free members. These costs can include storage, bandwidth, as well as service and customer support.
• The Size of the Market ¬– Freemium adds and other step, so a large market is critical for this model to succeed.
• Does the Product have Network Effects – Does a user benefit more if there are more users of the service or product? This relates to switching costs as well as referral rates. An example would be GitHub or WebEx which are more valuable when more people are using it.

Optimizing Conversion Rates
When a freemium model is constructed there has to be a balance between offering too much (little incentive for a customer to upgrade) or too little (not enough interest for the customer to update to premium). There are several questions to ask in regards to what freemium model to use and what metrics the version should be based upon:
• Get Customer Insights by Giving Enough Away – You want to offer the free version as a means to attract customers to the top of the funnel and for understanding more about customer behavior. Before a paid option is offered, you have to have a good sense of how often the customers are using the free offering and how they are using it. This allows you to offer opportunities for payment and to drive further usage of the product.
• Conversions Are Aligned Around Product Features that Drive Repeat Usage – With a strong understanding of what’s driving repeat usage will create more understanding of both the customer needs and use case that the offering is currently meeting. You want to build your revenue model around the repeat usage and customer needs which is harder for the free customer to avoid.
• Conversion Takes Time – Phil Libin, CEO discussed a strategy for his company which in the first 30 days the initial conversion rate was 0.5%. There was a focus on getting as many users as possible and then after two years, the conversion rate was 5.5%. This was done by adding more features over time. Some users drop off at a pay/don’t pay point when the freemium no longer meets their needs.

The Tiered Model
The most common model of SaaS is the tiered model. This has a long history and is effective means of price discrimination which dates back to the software created in the 1980s. The idea is to tie pricing to a driver of usage and value which may be modules, seats, servers, and other scale factors. This is similar to cellphone packages which offer minutes. The tiered bundles encourage a customer to upgrade to the next highest level.

This is used to create a long relationship with the customer. As the customers needs grow so does the model. The future needs and the current needs of the customer can be met with a tiered model. A customer can “graduate” into the higher tiers over time when it’s warranted.

A tiered model finds success when it’s segmented appropriately using metrics and intangibles such as the customer’s expectation of service level. They are not changed more for “a service they barely need”, they are charged more when they need more services from a company. They may upgrade when they see that the higher level offers more “value,” even before they reach a required need for the new level.

A tiered model offers advantage for a company that includes lower average cost of acquisition which is relative to lifetime value since they have more upsells and renewals, predictable recurring revenues, and an average selling price that is more stable. In addition, they don’t need as many sales or discount to keep their customers. The company strikes a balance between providing for a customer’s needs over a long-term relationship, and a steady revenue stream, versus a longer difficult sales process as the customer is asked to make a longer commitment.

The key metrics that are used this model include customer churn and rate, net new growth in subscribers, and the conversion rate between the tiers.

The Perpetual License Model
The subscription model has largely replaced the perpetual model, but it’s still worth discussing this model. In some cases, this model may be ideal. The traditional perpetual license models are structured with an upfront payment with about 18-25% for support and maintenance as well as professional services. The long-term buy-in and high upfront cost made it difficult for CFOs to adopted subscription packages as they had already committed to other software packages and had paid the perpetual fees. The rule of thumb was that annual subscriptions were priced with a 3-5 year payback on fees for a perpetual license in most cases.

In some cases, it’s more sense for a customer to consider a perpetual license and not a subscription. When there’s an investment of greater than 3 years or when the capital costs are very low, it’s prudent for a customer to use a cost analysis to see if perpetual licensing makes more sense financially. There’s also tax implications for capitalizing this type of license and not using an annual expense.

A Step-By-Step Guide to Discovering Products

One aspect of product development that is overlooked is product discovery. In many cases, there is an emphasis on usability and not utility. Usability is critical, but without utility it’s really quite empty. By using product discovery you’ll ensure your making products that are not only usable, but are useful too.

There are four main areas of usability and utility that must be addressed:
• Problem Definition
• Exploring
• Solutioning
• Prototyping

There are various areas of these four that must be looked at. Product discovery will vary from company to company, but these four areas will product the results required.

The Product Definition

Define the Goal
You have to know why you’re building the actual product so the goal must be defined. The long-term goal should be identified and then written down. You should look at obstacles as well as assumptions to reaching the goal. Look at things that might cause you don’t reach the goal and what about the goal has to be true.

Map The Process
Identify and then map the journey for the user. The actions or jobs that the user must take should be addressed. List your users on the left and then your story ending which is your goal on the right. The actions will be between this.

Ask Experts
Once the process in mapped, then you can talk to any experts. Any experts that you use will be determined by the user journey maps. This is usually the employees who use the product or are a part of the service you have now. The experts understand the process and what is working and where improvements need to be made.

The Problems Need to be Written Down as Opportunities
For the problems that you find in the product or process, make sure you write this down as an opportunity. For example, if you have a problem where it’s taking several hours to process a request by a customer, your opportunity might be How can we reduce our processing wait times?

Exploring
Explore Your Solutions
You should have the opportunities laid out now. Have a session where you hash out various ideas and solutions related to the opportunities. You’re figuring out ways that your product and it’s features could potentially solve the pain points of users.

Sketch the Possible Solutions
Take your ideas from the previous step. You want to sketch these solutions out so you can see what the solutions would appear like in the created product.

Solutioning
Pick a Solution
From the solutions that you have identified you want to pick the best one for each of your problems that you mapped out during your Problem Definition Phase. This will more than likely by multiple solutions to each problem. You’re going to figure out which one will be best.

Storyboarding
You need to map out how your solution will look once it’s in the hands of the end user. You’ll need guidance on the user flow for the app prototyping. The next part is going to be the product discovery process.

Prototyping
Create the Prototype
In the app prototyping phase, you’ll create a visualization of your app. You can use your storyboard as the basis for this. You’ll build a clickable and interactive sample of a product experience which demonstrates how it works. You can also create a mockup if you wish so there’s a branded and polished representation of the composition of your product.

Validate
Once you have a working prototype, user testing will help you validate the product. A focus group can be used to collect feedback. This group can contain internal team members or people that you have found through a service or testing tool. You collect data on how people interact with the product and any issues you’re having with it as well as user’s experiences and other data. This stands as a guide to what direction the product is going in.

By using this method to product discovery you’ll focus on both the usability of your app (is it adding value and solving problems?) and the usability of the app (what are users experiencing with the app?). This gives you the foundation that you need to develop a product that will add value to users which increases your chances for success in the marketplace.

Four Key Product Validation Strategies

You have worked hard on your app, know who you’re building it for, and have done your research. What you may now know is what the audience you’re trying to target actually wants. You might not be building a product for the right audience. In app development, you need product validation because this is an essential step. It avoids the various common problems such as undesired products, incomplete products, and faulty ones.

You need to validate a product, look at market demand, and understand the pain points of customers before you launch an app. If you don’t do this, the app will likely fail. Here are four strategies that you can use so you avoid the mistake of improper product validation before you launch your app.

Reviewing the App Against Formal Acceptance Criteria
The desires, needs, and wants of the user must guide the whole design process. The user guidelines are the basis on which an app finds success after it’s built. If you have an app that doesn’t match these guidelines or doesn’t have a critical feature the user wants, then it won’t do well in the market. If your competitor has a feature of importance and you do not, then you’re going to lose customers. You need to review the product against acceptance criteria to avoid this problem as it has to meet certain standards the user has. You can get formal acceptance criteria by looking at past experience, user research, and platform guidelines.

User Acceptance Test
Another strategy that you can use is a user acceptance test. This helps you validate the product before you build it. You can do this with a prototype, imitation product, mockup, or an MVP. This is out through a beta or alpha user test. During the iterative process, the user provides feedback where you can iron out kinks or problems during the early development phase.

Have Focus Groups
Another common strategy that’s used are focus groups for product validation. This helps to analyze a user’s behavior as they use an app. You can gather a cross-section of users that match up the target audience you have. The mockup or prototype is released to the focus group so you can examine behaviors as users interact with the app. If they don’t understand or misuse the app, it can then be sent to the design phase for further work.

Putting the App into the Market
You can test the app by releasing the app into the market. This is the most realistic and highly effective test to validate your product. You’re actually testing the product tin the market. You can do the research, create your app, and then launch this into the marketplace to gather user feedback. The common measurable are the feedback and user reviews of your app that you can use to tell the success of your app. You have to consider the timeline in which you release your app into the market. You don’t want to release your app too early because the product may be unfinished and this can hurt your brand considerably. If there’s a lot of competition and better products on the market, you could tarnish your brand quickly. You also don’t want to wait too long if you have a lot of money invested in your product as it might not succeed. You have to release the app at the right time and then modify the app so you meet the needs of those using the app.

By using these four strategies will help you refine your app and gain an understanding of your users. Poor market research, competition, and a faulty product are some of the reasons apps fail in the marketplace. By using some or all of these validation tests you’ll illustrate how your product is going to perform in the marketplace which will increase user retention and get you more downloads.

VR and Daydream: How This Industry is Growing Rapidly

There’s been plenty of talk about what’s next for VR or virtual reality. At the 2016 Google I/O conference Daydream was showcased. This suggests that VR might be more accessible to users sooner than predicted. There’s many types of VR now on the market such as high-end (Oculus Rift, Vive, HTC), basic (Google Cardboard, and there will soon be middle market VR (Daydream-enabled devices). Companies now have to take VR under consideration. The various applications of virtual reality are still under scrutiny, but when you take gaming aside. entertainment and media have the best chance to adopt this in near future.

Media Companies Are Getting Involved in VR
Companies like Samsung, Facebook, Microsoft, Google, and Sony have realized that VR is significant as it’s immersive and brings experiences to life as the user feels immersed in VR. When you use virtual reality, it goes beyond what we know as reality and it’s a new world to experience and explore. It creates experiences and memories for users as if it was happening in their own life. VR gives the users a deeper understanding of the content. This is why its having success in the gaming field, especially popular RPG or role-playing games that used 3D.

While VR has been used for gaming to a great extent, it’s now being looked at for other applications, too. The New York Times partnered with Google Cardboard early and created a 360 VR app (NYT VR). This app lets users explore the news stories in more detail. There have been other companies that have embraced VR such as education, healthcare, sports, and for military purposes. This type of entertainment is in demand and customers when a compelling experience with TV, movies, music, news, and so on. VR is an opportunity for media companies as it engages users more than basic viewing does.

Should a Media Company Just Jump into VR Now?
It’s too early in the game to determine how well VR will do. There’s been questions about its appeal to large groups of people. There’s also the fact that it needs to be more mature before VR is widely adopted by the vast majority. In 2016, Deloitte predicts that VR will be an industry worth 1 billion or more. With the Google Daydream announcement, adoption and accessibility aren’t going to be the problem that they were predicted to be.

Daydream offers high-quality VR which will be available in the Fall of 2016 which will be a part of Android N the newest Android system. Google Daydream will be more accessible for developers and users. Google hopes that Daydream will be a product for the masses and anticipates Daydream users in the millions. There are higher-end systems such as Oculus Rift and HTC, but these aren’t as accessible for the average user. These require expensive equipment and appeal more to early adopters or techies.

Google’s hardware partners, Huawei, Samsung, Xiaomi, and HTC among others are going to be launching smartphones which have a Daydream VR mode. Users are going to have VR right there to use. Creators will have a platform to build VR experiences for users. Since there will be greater accessibility, there will be a wider market for media companies.

Starting with VR: What to Consider
In Virtual Reality (VR): a billion dollar niche, Deloitte states that they don’t expect VR to be used to a great degree in movies or television in 2016. They say that there are constraints to technology currently to using VR when it’s made specifically for that medium. This was the case when 3D was still getting started for television. The challenges for media companies include the following:
• Price of equipment for cameras and limited options
• More difficulty to create VR content
• Devices, content guidelines, and operating system versions means standardization has been an issue.

With the release of Daydream, these issues will likely be addressed. Fully immersive VR probably won’t rise quickly in 2016. In the Fall when Daydream launches, media companies will be able to build for the platform and will have a new medium for an extension of their current offerings. There’s also an opportunity to offer traditional content with VR-specific content. This hybrid model will lower costs and will allow the content providers to iterate, learn, and perfect VR content for users as virtual reality technology begins to mature. This medium could be promising for the entertainment and media industries with companies like Hulu, NBA, HBO, and Netflix entering this market already.

The issue of standardization won’t be completely resolved, but the Daydream platform has hardware and software that’s standardized. Android N can accommodate VR and there will be Daydream ready devices manufactured. These will have performance, extra, sensors, and special designed screens as part of their specifications.

The future of VR looing promising, although it’s still in the early stages. When Daydream hits the market, there will be more developer and consumer options. In 2016, it’s predicted that VR will become a billion-dollar industry. Companies that adopt VR early on have a change to make a big impact. VR engages your users, adds value, and provides immersive experiences. Since more content will be available, it has a chance to evolve. It’s now more accessible and affordable to users. Many of the big payers are recognizing the value of VR and are working with it so they don’t get left behind when VR becomes more popular.

How Rolling Wave Planning Is a Key Component in Product Development

Just-in-time planning is also called rolling wave planning. This is a process in where you delay your product decisions until you’re in a good position to make those decisions. This doesn’t mean that you’re not planning in advance, it just means you’re making better informed decisions that allow you to take action as your product evolves when you have more knowledge available to you. Here are some reasons why rolling wave planning has importance to you.

You’ll Make Better Decisions About Your Product
By using rolling wave planning, you’ll have a good understanding of the direction your product is heading in. You will be in a position where you can understand, analyze, and then act upon knowledge that you didn’t have when you first started your project.

As you develop the product, you’ll have a tangible version which you can demonstrate and not a high-level requirements document. You can make better product decisions this way because you’ll have a clear picture of how th product will work and act.

When you plan you’ll take what you have learned, the progress you have made as well as any knowledge that wasn’t there during the initial concept phase and put this all into consideration. This helps you drive the next phase of the product development.

Less Risk
When you have detailed upfront planning which is time-sensitive, you’re often faced with a product that changes as it’s developed. When you first create the product, you’ll make assumptions which are often disproved as you get more information. You’ll have objectives which will shift, features that may not be right for the product, you’ll have new goals, and you may have to change a lot of things.

When this happens, you will have risks to your budget. You’ll spend resources and time try to come up with your detailed plan and may need to rework this which makes it harder for your team to adapt to changes that must be done. When you use rolling wave planning, you can adjust the deliverables as the product evolves and this doesn’t require costly changes. You have a team that’s flexible as you develop the product.

There’s Less Downtime
When you have downtime, you’re essentially wasting product development. By using rolling wave planning, your teams will minimize waste such as overproduction, excess processing, waiting, and non-utilized talent.

While you’re delaying product decisions, you’re going to be making them when you’re in a good position to actually make them. You’re not going to build functionality or features that aren’t necessary, you’ll reduce waiting and talent that’s not being used since you have a better understanding of what you need to achieve the desired outcome.

The Ability to Pivot
When using rolling wave planning, you have the ability to pivot when required. If you have to adjust your criteria for minimal marketable features or a minimum viable product, this can be done as your project progresses without wasting resources and time on new re-planning. You can view and then asses each increment to determine if you need to change your product direction or not. If a pivot is deemed necessary, you can plan the steps for this to occur for the next sprint. This avoids costly changes as well as resources and time that would be required if you had to plan again from the start.

Rolling wave planning is a critical part of product development because it provides you with less risk, flexibility and more efficiency. In the end, you simply create better products. You should add it into your development process and if your team uses agile principles. They need to practice it.