Navigating the rise of consumption-based pricing in a subscription-driven economy

JJ Xia,VP Product Marketing, Zuora; Kyle Kolich; VP & GM of Product, Zuora

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When running a business, how you charge your customers for services is just as important as the product or service you’re providing. The “Subscription Economy” has brought about a wave of changes for companies across a wide selection of industries, from media and telecommunications to software as a service (SaaS) and manufacturing. A proliferation of new products and services have sprung up across these industries, from new streaming providers to new tractor subscriptions. And they all shared one thing in common – business models rooted in recurring relationships.

 

But this rapid evolution and success of subscription offerings has now landed us in the middle of a market shakeout. As the market became saturated and the Subscription Economy became the new normal, customers have become savvier and expect even more from the brands and vendors they have recurring relationships with. Companies that do poorly will face churning customers and heavy competition. Companies that do well will have staying power.

 

To do that, modern businesses are adopting new strategies that drive recurring growth – letting customers start where they want, understanding their usage behaviors, and growing with them as needs and preferences change. Customers are demanding flexibility and ever more value for their money. Enter the consumption-based business model, which goes beyond subscription and pay-as-you-go, balancing flexibility for customers with predictability for business.

 

So, what is consumption-based pricing and how does it work? “Put simply, consumption-based pricing is where customers are charged based on their actual usage of a product or service, no more, no less,” says Kyle Augustus Kolich, VP & GM of Product at Zuora, a leading monetisation suite for consumption and subscription businesses. “Among the benefits of consumption-based pricing for the business are agility and flexibility to respond to changing business and customers’ needs. It enables businesses to grow more rapidly with price points and attract a larger customer base. It can improve customer retention by enabling customers to upscale or downgrade based on their needs and budgets. And, of course, [there is a] huge amount of customer data collection which provides that all-important information on how customers use your products and services, so you can grow with them over time.”

 

Zuora and Boston Consulting Group (BCG) research shows that 46 per cent of companies have already implemented some form of consumption pricing. That number is even higher (61 per cent) across SaaS. It’s popular with customers because it lowers barriers to entry so they can try new offerings with less upfront initial investment. Pricing is transparent, so that they can pay more when they use more, and vice versa.

 

But some companies are daunted by the prospect of adopting a pure usage or pay-as-you go consumption model, because it can be unpredictable. That’s why so many are now adopting hybrid models, which combine usage pricing with some form of commitment.

 

So what do these hybrid consumption models look like, and how do you know if it’s the right choice for your business and customers? There are multiple criteria you should consider. “There are certain industries, such as software-as-a-service, where it’s much more prevalent,” says JJ Xia, Zuora’s VP Product Marketing. “At Zuora we’re seeing more and more companies opting for a hybrid model where they’re really getting the best of both worlds. A pre-commitment upfront offers predictable, recurring revenue for a business, while they’re still offering that consumption flexibility afterwards so that customers can fluctuate what they use. Our studies show that companies with a hybrid model are seeing faster growth and lower churn compared to peers with no consumption at all.”

 

But what about the key challenges companies face with consumption-based pricing? “There are four major challenges: pricing flexibility, metering, revenue recognition and informing customers,” says Kolich. “Most companies are able to get started with an initial consumption pricing idea, but operationalising consumption is an org-wide effort across your IT team, your accounting team and your customer experience. We also find that companies need to iterate on their consumption strategy several times before tuning into the right model, and all of that requires the org to continuously adapt.”

 

Another challenge is the potential for customer resistance or backlash. Some customers may perceive consumption-based pricing as unfair or punitive, especially when they are hit with unexpected overages. “To mitigate this, businesses need to effectively communicate how much usage has been processed, in near real-time, and address any concerns or misconceptions upfront,” explains Kyle. “Consumption-based pricing promotes transparency and trust, as customers have a clear understanding of what they’re paying for and can easily track their usage. What we find is increased customer engagement and loyalty, as customers feel that they are getting value for their money.”

 

One critical element of success for a consumption-based pricing model is the ability to track the exact amount of usage metered and how much to charge for every unit, whether that’s API calls, logins per day, number of miles driven or some other unit your business measures. For many SaaS companies, usage can be complex and based on multiple attributes. The objective is to improve customer satisfaction and retention since the end-user can easily equate value to price. Our execs from Zuora agree a successful meter should be scalable, predictable, flexible, feasible and value-based.

 

Taking time to understand different pricing models and strategising pricing that best suits your business can go a long way, and it’s worth deep discussion before deciding which is the right path for your business. Even more importantly, you need the right technology that enables you to iterate as you adapt your pricing strategy over time.

 

Choosing who to partner with to implement your business’s pricing strategy is the key to success.  After all, in today’s competitive landscape it’s important to work with a company prepared to work closely with you, one that has experience working with industry leaders and is ready to learn your business’s specific requirements.

 

“Zuora prides itself on being the leading provider of subscription and consumption-based management,” says Kolich. “Companies worldwide rely on Zuora to build, run and grow modern businesses, whether their business models are based on subscription, consumption, or a hybrid approach. Our expertise and flexible monetisation technology will help companies unlock recurring growth.”

 

When asked what gives Zuora the edge in the consumption-based arena, Xia responds: “Zuora for Consumption is the only product in the market that enables companies with a holistic solution towards consumption pricing, from metering to customer visibility to revenue recognition. Most vendors solve one of these areas, but that leaves the burden of truly operationalising consumption up to other parts of your business. Zuora for Consumption also offers incredible pricing flexibility, letting customers quickly change and update pricing strategies through a UI designer, and new pricing models are added over time as we continue working with some of the most cutting-edge companies in the world adopting consumption.”

 

Consumption-based pricing is a model that charges customers based on their actual usage or consumption. It offers several advantages, including lower barriers to entry, pricing transparency and the agility to grow and scale to meet customer needs. However, implementing it can be challenging, requiring accurate measurement and tracking of consumption and addressing customer resistance. Despite these challenges, consumption-based pricing has the potential to revolutionise pricing strategies and create a more equitable and efficient marketplace.

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