Make no mistake. The fastest path for a company to create recurring revenue is by offering their product to an army of customers via subscription.
But the thing about an army: If you don’t keep it fed and happy, it’s not going to fight for you.
6 Guidelines for Subscription Pricing
Make sure you know how these factors affect the customer:
- Supply versus demand
- Unit economics
- Use cases
- Repeat use dynamics
- Need for tiering
- Usage cadence
I’ve been developing subscription products for more than two decades. I’ve built subscription models around everything from content to consulting to car washes. If your product or service lends itself to a subscription model, I say, by all means, go for it. But you have to settle on pricing that keeps your army growing and marching forward.
It’s not as easy as breaking down your costs into 12 easy-to-afford monthly payments and sprinkling on a little profit. Or is it?
TL;DR: No. It’s never that easy. But here are some questions you’ll want to answer to get you in the ballpark.
What’s the Offer?
The first rule of the subscription model is that it works completely differently depending on what’s being offered and how.
Physical goods move under a vastly different supply-and-demand model than services. Information-as-a-service has wildly different unit economics than software-as-a-service. Even differences in use cases can create a meaningful distinction in whether your customers are subscribers or members.
And those are the three axes you’ll be making your pricing decision along.
Supply and demand: One subscriber’s not enough is often another subscriber’s way too much. The amount of flexibility you’ll need to accommodate in your subscription model will create a need for a median that may produce variable profit. Variable profit, as you may guess, is not good.
For example, subscription programs for physical goods work much better as a membership that includes access to discounts, and should be priced based on the amount of discount, not the cost of the product.
Unit economics: Information, despite a conventional romantic yearning, is not free. Content of any value includes costs to produce, aggregate and distribute. And software, even with all the advances in cloud technology and automation, is not cheap until you’re talking incremental costs. It’s still quite expensive to get a first version into the hands of its first user.
Use cases: An easy way to make a distinction between subscribers and members: Subscribers expect consistency, members expect benefit. Subscriptions are commodities that are designed to end. Memberships are custom and expensive but can last forever.
Figure out how your offering is impacted by each of these concepts, and determine your first price range based on the mechanics of supply versus demand, unit costs, and incremental costs.
Are You Subsidizing Repeat Business?
When is a subscription not really a subscription? The answer is when it’s a bulk purchase masked as a recurring bulk purchase. For example, instead of a customer buying a 12-month supply of the product or service, they’re offered 12 one-month supplies paid for and fulfilled each month, perpetually.
In this case, the incremental economics work against the company because while the company is essentially giving the customer all the customer benefits of a bulk purchase, it’s giving up all the company benefits.
The company still has to discount the product as if it is being bought in bulk, but loses all the internal savings of bulk fulfillment. Furthermore, the customer can usually cancel the subscription at any time, making it difficult to calculate the lifetime value of that customer against the cost to acquire them (CAC-to-LTV).
Even concepts like fraud, insufficient funds and logistical issues all increase in risk as opposed to a single bulk sale.
If you’re subsidizing repeat business with a subscription, these losses must be taken into account in the pricing.
Do You Need to Tier?
An ideal subscription model has one price for one subscription. In other words, you’re offering a customer unlimited usage for $100 a month.
So let’s talk about how limits and bloat interfere with that simple math.
Limits are established by the company to ensure that the subscription is profitable across all, or at least most, customers. For example, this is where throttling limits usage on data plans. The problem with limits is that they cause unhappy and lost customers when those limits are breached.
Bloat is the amount of slack in a subscription plan when it’s priced high enough to cover the usage patterns of almost every type of customer. For example, if I join a golf club, to make my annual membership worthwhile, I need to play 40 rounds of golf a year. As you might imagine, the problem with bloat is that it makes a subscription attractive to only the most costly customers.
Obviously, your pricing has to balance limits and bloat. And when that balance can’t be achieved, the most common solution is to create tiers. For example, a starter tier at $10 per month for five uses, and a pro tier at $100 per month for unlimited usage.
This is fine, to a point. In many cases, one tier isn’t enough to keep limits and bloat from being impediments for the customer and losses for the company. But too many tiers force the customer to predict their own usage and do their own math. You can guess how many customers want to do that. So choose your tiering carefully.
What’s the Cadence?
The dollar figure is just one end of the subscription equation. The other end is the cadence, which is just as important, if not more so. $10 per how long?
Almost all startups, in fact almost all companies, offer their subscription plans on a monthly or annual basis. This is because it’s easier on the customer, who usually finds a subscription attractive because it’s a known spend that can be slid into a budget.
But that doesn’t mean they need the product on a monthly or annual cadence. How often the use cases determine usage patterns is another factor to consider when pricing. On top of that, cadence is going to affect everything I’ve talked about beforehand, including supply and demand, repeat business timeline and tiering.
Here’s a subscription pricing model secret: Cadence is something that can be influenced by the product, in everything from its design to its positioning and packaging to its marketing materials. If you can adjust any of those product aspects to encourage a regular, and ideally more frequent, usage pattern, build those aspects into the product offering itself and let the pricing follow.
Concepts Within Cadence
Finally, other concepts within cadence play a greater overall role in subscription pricing.
Knowing when the customer realizes a quantifiable value from the product that meets or exceeds the subscription price is helpful when determining what that price should be. It’s the “Yes, I’d pay more than $10 per month for this” moment. Often, that moment doesn’t happen right away or even within the first few months.
Related to value, a subscription model works best when the product itself produces additional incremental value the longer the subscription is held. For example, a gym membership becomes more valuable to the member as they start enjoying the benefits of getting healthier.
Once you take all these factors into account, you can apply them to the cost of the product, sprinkle on some profit, and call that your subscription price. Note that I left out the 12 easy payments part, because when you come at the subscription pricing process with facts, that part may become immaterial.