PwC advises that pricing strategy development begin with a hard look at your specific circumstances. Are you entering a new market? Are you trying to carve into a competitor's market share? Are you paving new ground in which you can set your own prices, based on whatever levels will be tolerated by the customer? This information, backed by solid data, can help determine breakeven points that can then be extended to determine acceptable profit margins.
McCaffrey believes that two years is an effective payback benchmark, given the cost of acquisition will remain high at the same time that revenues become annuitized.
One tactic in popular use involves the "freemium" strategy, in which a scaled-down version of a product is offered free of charge, but popular add-ons are provided for a fee aimed at restoring the provider to profitability in the particular transaction.
"The freemium model is going to become more prevalent," McCaffrey said. "The base service offered for free is used to enter a market, or open up a new customer. You can add new features for a fee, or perhaps you might limit the initial offer to just a few seats while the customer is getting acquainted with the product. But this needs to be done with great caution. If you give away too little, the scaled down version might undermine the sale. If you give away too much, the free version might be adequate to the customers' need, in which case the sale is also undermined."
The report states that bundling is also an important aspect of software-as-a-service. Customers are often resistant to paying higher fees for the same service at renewal time, so providers are challenged to be creative in bundling new features into the mix, which can be used to further open the purse strings. This adds to the pressure of establishing accurate prices from the outset, given that mistakes can either lose the deal or lock the provider into disadvantageous pricing levels.
"You also have to take the contract term into consideration," McCaffrey added. "When you bring in a contract for three years or five years, you're also looking at a very long time before you can adjust price. In addition, the initial price also sets expectations moving forward."
Conversely, setting the term of the contract for a short horizon can be equally problematic. "Ultimately, you are gauging the value of the contract based on the value of the relationship," he said. "So elongating that relationship is imperative."
PUBLISHED MARCH 22, 2013