Subscription-based pricing is dead: Smart SaaS companies are shifting to usage-based models

Software purchases have evolved. Gone are the days of executives choosing software for their employees based on IT compatibility or KPI. Employees now tell their boss what to buy. That’s why we’re looking for a number of other SaaS companies – Datadog, Twilio, AWS, Snowflake and Strip – to name a few.

The usage-based model allows the customer to start at a lower cost, although over time it saves the customer the ability to monetize. The usage-based model allows the customer to start at a lower price, saving the customer the ability to monetize over time as well as reducing the friction because the price directly tied to the quality a customer receives. Customers are able to search for new uses without limiting the number of users who can access the software – leading to greater long-term success and higher quality of life.

We are not going to be 100% user-oriented overnight, software – seeing a few megatrends in automation, AI and API – usually does not scale the quality of a product with more logins. Use-based pricing is the key to successful monetization in the future. Here are four top tips to help companies scale $100 + million ARR with this model.

1. Land-and-expand is real

Usage-based pricing technology is present at all levels of the stack. Although it has played a leading role at the infrastructural level (remember: AWS and Azure), it is becoming increasingly popular across API-based products and application software – infrastructure, middleware and applications.

Some fear that investors will hate use-based pricing because customers locked into subscriptions. However, investors actually see this as a sign that consumers are seeing value from a product and there is no shelf.

In fact, investors are increasingly rewarding use-based companies in the market. Usage-based companies are trading at multiple premiums of 50% of their income compared to their peers.

Investors especially like how to combine use-based pricing models with land-based and expanded business models. In addition, among the IPOs of the last three years, seven of the nine that hold the best net dollars have use-based models. Snowflake in particular is out of the chart with 158% net dollar holdings.