Rob Litterst, Pricing Strategist, ProfitWell.
Setting the scene:
Pricing and monetisation is a critical topic for any company at any stage but particularly for SaaS, because as recurring revenue businesses the decisions they make on pricing strategy have far reaching consequences. When companies really think about how to maximise growth and net revenue retention, pricing and monetisation is one of the strongest levers they can pull, but very few companies exercise that muscle.
ProfitWell are one of the world’s leading SaaS pricing specialists and we have heard from them on this podcast over the years – in fact this is their 4th episode. Our guest for this episode is Rob Litterest, Pricing Strategist at ProfitWell. Rob has worked on hundreds of pricing strategies for SaaS companies – large and small – and writes a really interesting weekly newsletter called “good, better, best”, which packages up case studies of SaaS companies and other subscription businesses, using real world examples from B2B and B2C to give some really interesting insights. In this episode we dig into innovative and transformational pricing strategies, as well as some of the biggest successes in tech and in SaaS. We’re going to be talking about value metrics, strategies to drive network effects and referrals, freemium strategies to drive acquisition and much, much more.
So let’s start with some pricing fundamentals.
When we’re thinking about pricing and packaging strategies, we’re typically talking about differentiating packages based on two things:
Capabilities would be things like features, in which you see traditional packaging strategies, with advanced features and various differentiators within each package.
Value metrics underpin consumption-based pricing and packaging strategies. Probably the most popular and most well known value metric is users – so if you think about Salesforce, they charge per user, as do many others.
HubSpot has done a great job on value-based pricing drivers. Their primary value metric was initially contacts, which was essentially the size of a clients email database in their marketing suite. They put together a methodology around why contacts are important, how contacts become leads, how leads become opportunities, opportunities become customers and customers can become promoters.
So they tied contacts into this much bigger value equation which ultimately resulted in more revenue and growth and I think that really helped customers understand that contacts are a suitable proxy for the revenue growth that you can achieve with HubSpot. During the sales process, they really sold customers on how many contacts they could generate and what that might mean for downstream revenue and growth.
Three rules for defining value metrics.
At ProfitWell we have a simple three-step rule for value drivers:
Simple steps to define your value metric.
The first thing to do is to study how customers use your product, what capabilities they value and lastly what they are willing to be charged for.
Anytime we’re working with a company on developing a value metric at ProfitWell, we think about two things: What do people actually want to be charged by and then which value metric possibilities actually scale with willingness to pay.
Many companies consider storage as a value metric. A lot of SaaS companies are storing customer data and storing a lot of data in different ways and I think storage can be a successful value metric for a company like Dropbox that is specialising in storage. But I think it’s really important as a SaaS company to understand what your customers are trying to get from your solution and align the value metric with that outcome. So a company like HubSpot, with a metric like storage (and while they might be storing customer data and customer information) doesn’t align super well with their solution and what they’re trying to do and it’d be the same thing for something like Salesforce. You want to align your value metric with the value that your customers are actually getting out of your solution. And make it really intuitive to understand as well.
Talk to your customers and pore over the customer data
Two things that companies can do right away are customer interviews to gauge which value metric people find most appropriate and what customer preferences actually tend to be around that. Then also just pore over customer data, look for the usage metrics and get a better understanding of which metrics are really scaling as customers are growing.
I think a lot of the time, that scaling with growth is much more important than customer preference.
It’s important people understand the various freemium strategies
There are three key ways to consider freemium:
The way that we think about it is that freemium, in all its guises, is an acquisition strategy, not a monetisation strategy. It’s a long game, so you have to be comfortable with delayed monetisation.
You need to have some drivers internally to get people to upgrade eventually. We think a free trial is really useful when you have a solution that is super sticky. After a certain amount of time, people really aren’t going to want to let go of that information and I hate to keep coming back to HubSpot, but they had a great free trial while I was there, they would get these marketers to use the tool and contact database and start tracking what their customers were doing. After 30 days, these marketers were getting visibility to things that they had absolutely never seen before and they just didn’t want to give it up. It was just a great way for us to prove value within a certain time frame and accelerate the sales cycle and I think it ended up being a great reason why HubSpot grew so quickly.
Zoom is one of the biggest successes of 2020 and their freemium strategy was genius.
Zoom made a genius decision in how to differentiate their free plan. Video conferencing is largely a commodity: We have FaceTime on our phones for free and there are a bunch of different video conferencing tools. It’s not really a solution like Hubspot which is so sticky. A video conferencing tool doesn’t really have that loss aversion associated with it. If you lose your video conferencing tool, you’ll just move on to the next solution, so I think freemium was the right choice for them.
The next big decision was “do we go perpetual free, or do we go faux free?” And if they had gone perpetual free, they probably would have gone with a really limited edition of the product. But what they ended up doing is this “faux free” approach where they made all the capabilities of Zoom available for up to 50 people (I think) but limited it to only 40 minutes.
They basically looked out at the market and saw what other video companies were doing and looked for an area they could exploit. When they released their freemium plan, the main competitors were mainly doing freemium. GoToMeeting was doing a free trial, but Cisco WebEx, join.me and Skype were all doing freemium. All of them were limiting their free plans based on numbers of participants, and in a lot of cases, limiting the participants so much that the solution was almost unusable.
WebEx particularly had a limit of three participants per meeting which, unless you’re doing a one-on-one, is not very helpful.
So Zoom looked at the market and understood all of their competitors here are gating users to the extent that nobody can get a real sense for their solution. A lot of their company came from WebEx and they really understood the market, they understood the pain points and they do have a great product, which obviously helps.
But they said, “Listen, let’s give people this holistic experience of really how you might use Zoom at scale. They gave a limit of 50, so for the most part, you could use their free tool for any meeting except for say, a company all hands or something like that, and they allowed people to use it as much as they wanted within 40 minutes. I think what they did was so smart, as eventually a customer is going to need a minute more than 40 minutes, so they knew that that constraint would eventually be too limiting, and that people would upgrade. They didn’t really risk cannibalisation there because they knew, when they got customers to use the free version, they would eventually purchase the paid version of the platform, so they can break through that 40 minute limit. If you look at how much they grew, they just absolutely skyrocketed and I think a ton of that is due to that monetisation strategy.
Notion’s pricing page is ‘empathetic’
I got the word “empathetic” from Paul Graham’s book ‘Hackers and Painters’. He talks about how engineers need to be empathetic in designing products and when you start to think about it, it makes a ton of sense. If you’re thinking with the user in mind and with the user’s experience, and you’re thinking with empathy, then you’re going to build a product that’s easier to use and that people like to use more. I think that’s a problem with so many software solutions in which the developers believe that they have these incredible capabilities and are building this tool that’s amazing to them. But it might not necessarily be great for the actual users.
I was thinking about that in the context of a pricing page. We see pricing pages all the time and there are so many intangibles of pricing pages that are really important, for example:
That’s really what I meant by empathetic when I described Notion’s pricing page, you can go to that page and understand which package is right for you in about 10 seconds. It’s a beautiful pricing page and super easy.
Notion is playing a big game, delaying monetisation for long term success.
Notion (the all-in-one workspace) recently made a big move on their pricing, by making their first entry level product entirely free. I think it’s all related to delayed monetisation and it’s clear Notion is playing the long game here.
I was thinking about it in the context of Evernote; in Evernote you think about ‘Notes’, in Notion you think about ‘Blocks’ which are essentially these little units that you can build and it’s very Notion-centric. Now a new customer might not know what a block is, it’s not that understandable, even if you’ve been using the tool for a while
Notion was getting really hot and people were complaining about this block limit and a lot of Evernote customers were talking about how they really wanted to try Notion, but they had thousands and thousands of Notes within Evernote and they knew that if they ported their Notes over they would hit the 1,000 block limit, and wouldn’t be able to use the free plan.
Those Evernote users didn’t want to start paying right off the bat and wanted an easy way to try Notion without paying, so I think what Notion did was get rid of that and just said, “Listen, we’re just going to commoditise personal usage of our platform.”
Their strategy is clear, to get as many people in the product and grow market share as much as possible. And most of those personal users work in companies, so their strategy is to get people using Notion and then monetise in the enterprise, through the collaboration tools, the aspects where people are sharing work and working on documents with the Notion together.
They are heaping the pressure on the competition, giving away the personal version of the platform. I was paying $4 a month to use Notion and then when they ended up changing the price and giving it away for free I automatically got upgraded to Personal Pro, but I didn’t need any of those features, so I ended up downgrading. But at the end of the day, I use Notion at work as well and I think what they’re relying on is that people are just going to get so familiar with Notion in their personal life and just get so used to it that, when their conversations at the office turn to the best tool for knowledge management and organisation, enough Notion users are going to come to the forefront and say, “this tool is amazing.” It’s that consumer-driven approach to growing in the enterprise – Slack and Dropbox have both done a great job on this.
It’s a bold move for Notion, but I think in the long run, it’s going to work out really well for them.
Referrals are critical for growth and should form part of your monetisation strategy.
I think within B2B, the best way to drive referrals is probably to give value to your current customers, whether it’s a free month or free amount of usage or whatever it might be. For example, Dropbox had an amazing referral program where if you refer new users, you would get free storage.
I also think that integrations are almost like productising referrals and I think back to HubSpot again. We had this integration with Salesforce that was a massive growth vehicle for HubSpot, and it was a way for Salesforce customers to learn about HubSpot. Before HubSpot had a CRM and became a direct competitor for Salesforce, the Salesforce team was very open to referring customers to HubSpot, if they had marketing needs, so that’s another way to productise referrals.
One of my favorite referral programs is the Morning Brew newsletter, which I think they just crossed 2 million subscribers recently. It’s a consumer referral programme but I think companies can really steal from B2C especially as the lines blur between software and media companies and B2B and B2C companies. Morning Brew has seven or eight stages to their referral program.
The first stage if you refer to three people, you end up getting this exclusive Sunday newsletter that’s their premium newsletter, and then up from there, it’s all different types of swag, so you can get stickers, t-shirts, a coffee mug, you can get a crewneck if you refer 100 people. It’s a really cool way for people to drive traction among their network and among their friends and it’s propelled their growth to just a crazy level, 2 million subscribers is wild. That’s one of my absolute favorites.
Net revenue retention is another metric that can be massively impacted by your monetisation strategy.
I think the next example, one that has been in the news a lot lately, and who’s stock seems to double every week, is Shopify.
If you look at Shopify’s revenue mix over the last five years they break it out into two categories: subscription revenue and merchant solutions revenue. The merchant solution revenue has grown to be such a bigger part of the puzzle than their subscription revenue and I think that’s a huge testament to what they’ve been able to develop outside of just giving their customers a way to create a pretty online store. They have Shopify shipping that people can use and they have Shopify capital, which are essentially small business loans. They have all of these services that people can use with Shopify that allow them to grow. The proof is in the pudding and how much merchant solutions revenue they’ve generated recently. I think in 2015, it was 50:50 subscription to merchant solutions. But in this past earnings report, I think it was almost 75:25 Merchant solutions to subscription, soo it just tells you how much value they’re ultimately driving for their merchants.
Another example would be Datadog which went public last year, and they just have a ton of different products under their umbrella, and so many cross selling and upselling opportunities. It’s insane.
Those are two companies that I think do a really, really good job and allow you to expand and grow your usage with them. And it shows up in the net dollar attention that they’re ultimately producing.
“Skin in the game” pricing is on the rise
One of the most interesting things that I’ve been seeing a lot of lately is what I’ve been referring to as “skin in the game” pricing – essentially, companies who directly tie all their revenue to their customers revenue. A great example would be Lambda School, which doesn’t charge their students anything unless they get a desired job after they finish up with the Lambda School classes. Another example is Substack, the newsletter platform. It’s completely free until your customers start paying and then you pay substack 10%.
Patreon does a skin in the game approach as well. They have varying plans where you can pay a certain percentage of revenue that you’re generating. This is essentially taking the level of ambiguity out of the value metric equation. We were talking about HubSpot earlier and how contacts were a proxy for revenue, but there are definitely a few kinks in the chain before you get from contacts to revenue. At the end of the day, if you can shorten that cognitive gap for your customers and just make it super clear that you’re only making money, if they’re making money, I think you have a really interesting value proposition. And that’s something a lot of companies are adopting, it’s only growing more popular and it’s really going to be interesting to see how that evolves over time.
“Good, better, best”, is my weekly newsletter on pricing and packaging
I love writing and I love researching. This newsletter is a way to both explore pricing and packaging strategies that are outside the realm of the current clients I work with and also a good way to take different examples and apply them to the work that we do at Profitwell.
I started off writing case studies exploring a wide range of software companies and b2c companies and exploring the market. I wrote about NBA League Pass recently and then last week I wrote about HubSpot. I’ve written about MailChimp too, so really jumping all around and looking at different pricing and packaging strategies and the impact that it has on the company. The response has been great and I’ll be diving into some of these innovative packaging strategies we’ve talked about today.
If people want to learn more they can find me on Linkedin, Twitter and of course can subscribe for my newsletter!