FinanceSep 22, 2022

How Usage-Based Pricing Affects Billing Operations

We examine the opportunities and pitfalls of usage-based pricing as well as how finance teams can mitigate the challenges involved.

Renaldo Galipo, m3ter
Renaldo GalipoDirector of Product, m3ter
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For SaaS businesses, product profitability is an increasingly urgent question. 

In the face of strong headwinds for the technology sector, Finance teams are under pressure to refine their unit economics and maximize returns for every single customer. Usage-based pricing (UBP) can be one of the most effective ways to achieve this, as the consumption model aligns what the customer pays with the value they derive from the product, making revenues more resilient.

However, one of the challenges in implementing usage-based pricing is the significant pressure it puts on Financial and Billing teams from an operational perspective. For businesses aiming for scalability, managing the complex workflows to measure usage and create a bill requires a high degree of data sophistication. 

Here we examine the opportunities and pitfalls of usage-based SaaS pricing as well as how finance teams can mitigate the challenges involved.

Traditional SaaS billing: Subscription pricing

What has powered the growth of recurring revenue models is the traditional subscription pricing model, which continues to be one of the most common pricing practices in SaaS. For my part, I spent over eight years developing solutions at one of the early leaders in the field – Zuora – which allowed businesses to manage subscriptions, plans, customers, and payment objects and combine them as needed.

These subscription pricing models have been successful for a number of reasons: Customers like them; they’re simple to understand and reassuringly predictable; and all that is required from a billing perspective is a recurring payment with associated entitlements, running on a monthly basis. Operationally, this can be run with a simple finance stack and minimal manual intervention. 

More sophisticated processes – including UBP and hybrid pricing models – add complexity which may go beyond the capabilities of your existing systems. This leaves Finance teams balancing competing incentives between what will generate the best return from customers vs. what can be implemented practically, particularly for fast-growing, sales-led organizations. 

By examining the challenges involved in usage-based pricing vs. subscription models, however, we can also set criteria for solving these issues.

The challenges of billing for UBP

UBP requires incorporating three worlds of data:
1) product usage data, based in your platform;
2) account data, or the core customer record hosted in your CRM; and
3) pricing and order data, stored in a Sales CRM, CPQ, a subscription management system, a separate price book, or some combination of these.

For billing, these data sets need to be combined and the outputs delivered into your finance stack, from which you generate invoices, manage collections, recognize revenue, and generate key metrics. 

The practical challenge for UBP is that you need to calculate what goes on the bill for every customer, every month. (The better version would be the ability to calculate and show a running total of the bill at any time.) This involves manual work: recording usage data for every customer, bringing it together with their pricing to calculate the amount, and delivering those calculations to billing and other downstream systems.

Risks of half measures

Businesses who lack a specialized system to manage these workflows often attempt workarounds.

Some use a spreadsheet. This involves engaging the Engineering team to set up delivery of key data to an analytics database from which you can export data, then combining that data with pricing in a spreadsheet.

As a business attempts to scale, this manual approach gets more difficult:

  • Customer volumes: While manual workarounds via spreadsheets and calculations can work when you have 10 customers, they become unwieldy when you have 100 or 1000.
  • Pricing complexity: Building an in-house system can be a possibility if your usage pricing is simple, totally standard, and not likely to change. If you’re applying the same numbers in the same way for every customer, then you can build a single system and run it on repeat. But if you plan to drive growth by increasing pricing sophistication and making pricing changes over time, you’re likely to be introducing elements such as different tiers, different prices for different territories, volume-based discounts, or conditional elements. Not to mention the likelihood that your Sales team will want to use specific pricing or structures for individual customers. 

This leads to serious challenges for your business:

  • Lost time: Working manually, it can take days (or even weeks) to finalize billing and send invoices to customers, extending time to cash and harming your customer experience.
  • Wasted resources: Your Finance team loses time to billing every month, raising costs and distracting them from other priorities.
  • Human errors: Human systems produce errors, even with the best of intentions. This hurts you either way; under-billing creates revenue leakage, while over-billing undermines customer trust.  
  • Inflexibility: Brittle systems are unable to accommodate broad pricing innovations proposed by Product teams, or respond to Sales’ reasonable requests for variations and private pricing deals that they believe will drive customer acquisition and revenue growth.

Practical transformation guidance for UBP

So, manual usage-based pricing is a non-starter. Some may try to build a more involved custom solution, but this takes away valuable development resources from your core product and requires regular updates every time you make pricing changes. For most businesses, building a custom solution is not a practical option. Aside from the fact that these projects are slow, expensive, and risky; in the case of usage-based SaaS pricing, it’s just unnecessary. 

What’s needed is a solution that can fill the gap between customer, platform and pricing systems, and the finance stack – removing undifferentiated heavy lifting from your Finance team and making billing operations automated, scalable, and efficient. For practical guidance on overcoming the challenges of implementing usage-based pricing, be sure to read the next two articles in this series:

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