I have a lot of conversations about how to price products in startups. It took a long time to realize that before any meaningful conversation about pricing can be had, we first need to understand currency.
Currency is a term generally used to describe a system of money for a given country. Companies, like governments, end up establishing a currency - usually based on the industry we are working in. The bottom line is revenue, but it’s easier to talk downstream about the units we bill in that aggregate into that revenue.
Per Item
This is the original unit of commerce. Dating back past the ancient Romans we as humans have been bartering and buying for tens of thousands of years. When we go to the grocery store, we buy a dozen eggs or a pound of sausage. The currency of those commodity traders is how much money they make per unit they sell. As various business models have emerged, we continue to innovate those models.
Hours
Most consulting firms start by selling hours. We might then move into a Per Event model in the form of charging by the project - but our calculus used in bidding goes right back to trying to determine how long a project will take, add in materials, and then margin. The net result is that our mental model still revolves around hours as a currency. This is common with pivoting into a Managed Service Provider as well. How many hours did we spend managing each device on average and how can that time improve? We’re still having conversations about hours even though customers are thinking more about device-based pricing.
Per Event
Certain organizations have always billed based on an event. Businesses that clean homes, provide wedding services, and other event-driven packages often charge in this way. The currency is the event. This then translates to the other types of events as well. This might be those same types of companies who have gone online, such as online conferences or webinar services. And a number of vendors have emerged as back-end technology used to help build other products faster. Think Stripe, Amazon Lambda, IFTTT, Avalara, and Zapier. Here, we pay per transaction or a percentage of a transaction, every time we call their service.
Per-Device
Software can be installed on computers. In fact, that was once the most common way of distributing software. We went to a brick and mortar store and came home with a box. The box began with media that would run on a computer and evolved into media that contained software that was installed on a computer to run without the original media in the device. Most software companies that pre-date the advent of the SaaS model of software companies still have this concept of per-device. Over time, certain licenses allowed for installing software on “up to three” computers but the calculus we used to derive pricing was all about the number of devices and in meetings we talked about “devices” and how we want to grow those. This freed product and technical teams from talking about revenue and obfuscated that a bit. It was on the sales teams to convert the number of devices into revenue. But the common currency we all used was devices.
Note: The OEM (or Original Equipment Manufacturer) licensing model is also based on this Per-Device concept, but the license is usually not transferable from the equipment that a license came bundled with.
Per User
People don’t just use one device any longer. That’s why the number of companies where a user is the dominant currency. This didn’t begin with Google Apps or Salesforce, but their emergence and the subsequent validation of the SaaS model led to looking at revenue through the lens of users. Terms like Average Revenue Per User, or ARPU, began to arise and the DNA of many an organization evolved to a user-centric worldview. These Per User licenses are typically sold as subscriptions and any organization that began with a per-device currency typically still does the mental model to convert a user into a device provided there is also a Per-Device pricing model still in existence.
Freemium
Many a Per User model has realized that the cost to provide a limited, free version of a product is negligible and allows for great marketing. To give customers a “trial” means a longer sales process in many cases and to put a product in their hands to use means a more comprehensive understanding of what the product does. Services like Skype (now a part of Microsoft) gave certain features for free and charged for freemium options. This has now become common-place with a percentage of customers “converting” into higher tiers of services. Because conversions tie into revenue goals either paying customers or conversions become the currency.
In-App Purchasing
In addition to freemium, another currency that has emerged is the In-App purchase. I wrote an article called “The Immutable Laws of Game Mechanics In A Microtransaction-Based Economy” back in 2017 and since then have watched most apps go from a Per User model to a Freemium and then to where each feature of the app can be just another In-App purchase. Most investors want to see predictable Monthly Recurring Revenue (MRR) and so we then see many who are truly looking to scale more back into a Per User model, often leveraging the In-App Subscription options from the Google and Apple app stores.
Bundles
Bundles are usually an extension of one of the previous models. When a company expands the products and services they sell, we want to offer an incentive to buy multiple items we sell and that usually comes in the form of tightly coupled integrations as well as a pricing discount. These bundles are then unpacked by our finance teams and revenue is recognized to each so we can track the profitability of each product (and often where we want to invest our resources). Here we might see multiple currencies obfuscated and products, subscriptions, and service hours bundled into one line item.
Credits
Credits are one of the more challenging to teach sales teams. Here, rather than (or in addition to) bundles, we attempt to develop a baseline lowest common denominator and sell items on a credit system. Customers can buy credits and then apply them to different products in our portfolio. This can ease budgeting and allow our internal finance teams to more easily accrue revenue; however, credits can put up a wall where customers have to understand our credit system in order to be able to do business with us - and often become frustrated when credits expire because too many were purchased or when they have to buy additional credits. However, when done properly, credits allow customers to pick and choose with buying bundles of items they’ll never use.
Every organization has a KPI, or Key Performance Indicator, that is the most directly connected to revenue. That currency establishes a common term that everyone in an organization can use to describe what the organization sees as its top goal. Many an organization will have a number of metrics they look at to gauge performance over the years: things like employee retention, bugs fixed, features implemented, top line revenue, EBITDA, market share. But there is always a single KPI that validates that organization is growing and is constant across time.
One form of innovation is to change the currency for an entire industry. For every company that does something truly unique, there’s a potential innovation to the status quo of the currency for that industry. If there are no organizations in an industry that are trying to disrupt the monetization model then there will be. Before they became a streaming platform, Netflix changed the currency from per rental (or per event) to a monthly Per User subscription model.
The list of companies who streamline operations and layer on a different pricing model is endless. Every company should routinely look to innovate workflows and delivery but also look at the model being used. And think about whether another model (or a hybrid of models) might improve the experience of the customer, the go-to-market strategies, or profitability, or any other aspect of a business. If we don’t, it’s guaranteed that eventually someone will.
Finally, one of the hardest changes to manage in an organization is currency. Our meetings become infused with how to sell more users, more devices, more conversions, more credits. We want to provide more value to customers and customers need to understand our currency and any changes happening there. But before that can happen, our own teams must first. That’s true in the beginning, when we’re just starting to develop a billing model and it becomes even more true as we grow - especially as we establish a portfolio of products that sometimes have their own currencies.
