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Creating Cost-Certainty: Predictability that Pays Off

Posted by PriceBeam on April 26, 2017
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In many cases, it can be a good idea to include a component of your service pricing that varies with usage: e.g. pay-as-you-use pricing or a variable fee for additional usage on top of the monthly base fee, such as when Salesforce charge extra for sales teams bigger than 5 people -- you pay a base fee, and then an additional fee that reflects how many salespeople use the service.

This model has many advantages, especially that it enables you to charge more from those that get significant value from your service (for instance, a sales team of 200 salespeople get much more value from a Salesforce CRM system than a team of 4). And for a company like Salesforce, it makes perfect sense. Why? Because the variable cost is predictable. 

The predictability is key. The number of people in your sales team will not see major changes from month to month, and thus, despite the fact that the price is variable with the number of salespeople, you will be able to make a reasonable prediction of your annual costs. However, in some cases, you are not -- and then, a fixed fee may be preferable.

If your variable pricing component creates too much unpredictability, customers may turn to a competitor who can offer more predictable, albeit higher, prices. First, it has to do with risk aversion; most people don't like uncertainty, and will gladly pay extra to avoid it. And secondly, it is just very impractical, especially for larger companies with limited flexibility.

There is certainly a trade-off: as mentioned, the variable pricing component enables you to generate additional profits from those who benefits greatly from using your service -- at the same time, if the variable pricing becomes too unpredictable, the uncertainty will wipe out the additional profits from the variable pricing component. 

Take the example of Box that sells content management systems. Until recently, their pricing would include a range of variable components, mainly third-party consumption of content stored with Box. As you can tell, this creates great uncertainty for customers as it is dependent on the actions of a third-party, and consequently, Box has now changed its pricing completely, offering 3 standard monthly subscriptions at a fixed price.

Written by PriceBeam

PriceBeam
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