Big Customers Have Big Demands: 3 Tips for Building Discounts into Your SaaS Pricing Model
March 1, 2013
At the enterprise level, discounting SaaS contracts is expected, not optional. If you don’t price your product right, it could severely impact your bottom line.
In many industries, developing a pricing model is relatively straightforward. You might take your product, compare it to its closest competition, consider the unique value your version adds above and beyond that competition, and factor in potential demand. From there, you can often set your list price and stick to it.
When it comes to establishing SaaS pricing models, however, things are rarely that simple.
After all, there are numerous variables and levels of deviation involved with every SaaS offering, and no two SaaS solutions — along with the economics that drive them — are ever exactly the same. As SaaS expert Jason Lemkin explains, what complicates things further is the fact that many SaaS customers expect some level of discount when they sign a long-term contract, or opt for packages with more product features or functionality.
“Naturally, most SaaS founders want their pricing structures to be transparent,” says Lemkin, who co-founded electronic signature company EchoSign and served as its CEO until the business was acquired by Adobe in 2011. “They want everyone to pay the same fair price, and they want their customers to enjoy the product. Unfortunately, it’s just not that simple.”
Why Transparency Isn’t Always an Option
Lemkin says that while transparent, rigid pricing structures tend to work early in a company’s development (or with smaller SaaS deal sizes), they often become unrealistic as annual contract value (ACV) goes up and discounting becomes expected, not a bonus.
At that point, Lemkin explains, SaaS pricing becomes a bit muddied.
Thankfully, there are some basic rules that should help companies step away from the negotiating table without losing their shirts. In a recent conversation with OpenView, Lemkin provided three tips for SaaS entrepreneurs who are looking for help with their SaaS pricing models and strategies.
1) If a SaaS purchase can go on a credit card, you don’t need to discount.
At the bottom of most SaaS markets, there’s no need to discount, Lemkin says. The reason? Transparency is the preferred model for both the customer and the vendor.
“For example, apps like Dropbox and Evernote didn’t have to worry about discounting early in their development,” Lemkin explains. “They couldn’t discount free, and even for their paying customers, the ACV of each user was so small that it wasn’t worth the time or friction for either party to haggle over price.”
2) Build a double discount into your SaaS pricing structures for larger enterprise deals.
In larger enterprise deals, Lemkin says that discounting often isn’t an option — it’s required. In fact, with those deals, SaaS vendors typically have to provide discounts to two different parties:
- The champion that’s driving the purchase
- The procurement agencies that receive a bonus based on the discount rate they negotiate
“As much as entrepreneurs don’t like to hear this, the simple fact is that you have to build a double mark-up into your pricing when you’re selling into large enterprises,” Lemkin says. “You have to give yourself enough cushion so that those discounts don’t end up eating into your economics in both the short- and long-term.”
3) Understand when — and when not — to try to beat competing offers.
Are You Ready for the Challenges of Scaling Your Company?
If SaaS salespeople are smart, they’ll go into every negotiation with a high pricing estimate. That way, if competition creeps in, they have room to discount the price to match (or come close to) alternative offers.
But what about when salespeople feel like they’re losing a deal and they have nothing else to offer to close it? If you allow them room to keep discounting, they’ll do it, Lemkin says. And that’s not often very good for SaaS companies in the long run.
“When you’re a smaller SaaS company, it might make sense to capitulate and close any customer that makes you a dollar,” Lemkin explains. “But as your company scales, that capitulation can wreak havoc on your economics. Larger enterprise customers can cost you more to manage, service, and retain, and the small amount of money you thought you’d make on them can go away in a hurry.”
Bottom Line: Discounting is Inevitable as SaaS Companies Scale
While every SaaS founder would love to have five-second sales conversations that center on cut-and-dry product pricing options, that’s not how most SaaS deals work — particularly as companies begin to scale.
“When you’re smaller and your focus is on smaller customers and ACV, it’s a little bit easier to set firm pricing tiers and not budge,” Lemkin says. “As you grow and you begin to deal with larger enterprises, procurement agencies, and competition, however, discounting becomes part and parcel of doing business.”
Enterprise Pricing Strategy Series by Tien Anh Nguyen
10 Steps to a Better Pricing Model by Jim Geisman
How to Use Multi-Axis Pricing to Attract More SaaS Customers by David Skok
Key Considerations for Your SaaS Channel Strategy by Justin Pirie
Ultimate Guide to SaaS Pricing by KISSmetrics:
Has your SaaS business had experience factoring discounts into your SaaS pricing models? What questions do you have for Jason regarding SaaS pricing strategies?