One of the keys to building a successful subscription business is knowing how to price your offering in a way that covers the costs incurred in developing a product or service and also reflects the perceived value of the offering.
Should you offer a free trial? Go Freemium? These are all relevant questions for first-time entrepreneurs who must balance the need to drive conversions, increase revenue and, at the same time, retain members by continually providing high-value benefits.
In her book The Membership Economy, online business guru Robbie Baxter provides some helpful pointers for defining the ideal pricing model for your subscription business. We cover some of her most salient points and complement her insights with additional tips for building a successful pricing strategy.
Why Pricing Is So Crucial
Choosing the right pricing model is especially crucial when it comes to a membership program or subscription business. Not only is the ideal strategy the basis of a recurring revenue model–which is what all subscription businesses aspire to–it is also the way to provide clear and predictable expectations for the most price-sensitive consumers.
While a product for one-off purchase may simply display a price that is 40 or 50% more than what it cost to make, a subscription offering is much more difficult to price. There are three things, though, that are for certain:
- Your product or service must differentiate itself from the competition and provide clear value to the user.
- Once the product or service’s benefits are clear to the user, the pricing model must be clear and simple.
- To retain customers, the products or services offered must be constantly improved upon in order to provide members with continual value.
Baxter explains that besides these aspects, there are several other crucial questions that must be taken into account. For example, she notes that most organizations prefer to have tiered pricing options that cater to users with different preferences and levels of usage. According to research, a majority of users prefer three options and the middle option is usually the most popular.
While a pricing model based on consumer types (such as executives, students, corporate teams, etc.) may not be possible to upsell to, pricing strategies based on levels of usage require a good amount of analysis to identify what drives conversions and upgrades. In these cases, it is critical to make the benefits of upgrading crystal clear to customers so that they see the worth in leveling up.
Another main difference between pricing in the product world and the subscription world is that instead of pricing your offering based on what it cost to product, you should price it based on the value provided to the customer and what they’re willing to pay for it. Here is where extensive research and experimentation come into play.
How to Structure Tiers for Your Subscription Offering
When structuring the different tiers of your subscription business, you should take several levers into consideration to help you determine the kinds of benefits you will offer in higher tiers. While some of these may entail extra costs, such as assigning account managers, others may not but are still perceived to be worth paying for.
According to Baxter, there are four different levers you should take into account:
- Volume: Many members are willing to pay more to access either more storage, more time, more interactions or more licenses for a greater number of users within their organization.
- Duration: With some subscription models, usage is limited by the amount of time subscribers can access a service during the month. For example, with a subscription service like Pandora, there is a maximum number of hours subscribers can listen to within a month.
- Features: Members will also upgrade to get access to more features, products and tools. For example, with a service like LinkedIn, you can access account options for sales professionals and job seekers.
- Service: Other benefits that will require additional investments to be made by the organization include providing customer support or a designated account manager.
4 Different Pricing Strategies
According to Zuora, a thought leader in the so-called Membership Economy, there are four different pricing strategies you can implement:
- Beacon Offering: As its name implies, this type of pricing strategy is based on catching people’s attention with a package that is extremely low-priced in comparison with the competition or other packages offered by the same company.
For example, DISH Network’s beacon offering is an affordable package that starts at $19.99 per month, which provides access to basic content but leaves out attractive features, such as access to popular channels like Disney, ESPN and USA.
- Landing Point: As mentioned above, research shows that most members prefer the middle option when presented with three different packages. The reason for this is simple: most people are looking for a price that is just right; neither too high nor too low.
Xero, an online accounting software subscription service, implements this strategy by highlighting the middle option and labeling it as the most popular option of the three.
- Showcase Offering: While there will always be price-conscious consumers who are looking for the most affordable plan, you will also find potential customers who have a “high willingness to pay”–sometimes as much as needed to get the best possible service.
In these cases, the smartest strategy is what’s called a “showcase offering.” This refers to offerings that are relatively high-priced in comparison to the rest of the packages on display. This not only gives the potential member a sense of exclusivity (some even title these “Elite” or “Deluxe” plans), it also creates the illusion that the other lower-priced options are great deals they can’t miss out on.
- Keep It Simple: Finally, Zuora recommends keeping your pricing options as simple as possible. This will not only ensure increased clarity and transparency, which always helps to build greater trust in the potential consumer, it also allows them to evaluate all the options in a shorter amount of time.
Free Trial VS. Freemium
Two of the most popular subscription pricing strategies are Freemium plans and free trials. Most subscription-based businesses will experiment with both but eventually stick with one of these.
Free trials refer to a limited offering (typically 30 days) in which a user can use your product for free and access all the features, functions and services available. After trying out your product and seeing for themselves how great it is, a good percentage of users will decide to sign up for one of the packages offered. According to Zuora, this type of pricing strategy has the best conversion rates, up to 20% in some cases.
Freemium, on the other hand, refers to a basic, stripped-down version of your product which users can access for free for as long as they want. Since the consumer never has to make any commitment to buy anything from you, this usually drives large numbers of users but conversion rates tend to be much lower than the free trial strategy–around 3 to 5%.
The problem with Freemium, however, is that you have to focus your efforts on convincing the user to upgrade by constantly highlighting the value of premium products and making sure they’re aware of them.
The question is now, how do you go about deciding which one is for you?
According to Baxter, free trials are ideal when it’s necessary to educate potential customers about the value of a product or service. A common mistake, however, is to offer a free trial that does not allow the user to have the full experience and does not provide access to all the features and benefits available with paid plans. In these cases, potential customers will be left with an incomplete or negative experience, making it unlikely that they will ultimately commit to the product.
Freemium is great for situations in which you’re trying to create a viral effect. For this to occur, the offering has to involve a product that can be shared with others. Also, there has to be a clear incentive to upgrade; if not, non-paying members will never see the need to commit, a trend which will “cannibalize paying members” in the long run.
What pricing strategy has worked for your subscription-based business? We would love to hear about your experiences and thoughts. Or if you have any questions on what pricing model would work best for you, feel free to drop us a line in the comments section below.