Monday, October 10, 2016

That's too Expensive, the Pricing Battle

Pricing is a tricky beast. I've seen a lot of models out there, and each has pros and cons. Firstly it depends on who are your target customers. My experience is in Enterprise software, which typically has a larger transaction price and volume, yet the number of deals is smaller. When focusing on SMBs as a target, the models change along with the selling motion. For good reasons most software companies want to have both models, but I haven't seen many companies able to execute this strategy. You end up with vendors adopting one model and causing fractures in the way tooling is licensed, many times the economics don't equate to good business decisions for the end user or the vendor. Here are the various licensing models I've seen in the IT Operations Management space:
  • Application footprint or infrastructure footprint based pricing
    • Per node, per CPU, per application server, per JVM, per CLR, per runtime
  • User-based pricing
    • Per concurrent user, per named user, per monthly active user, per page view
This model can track the users being monitored (in the case of end-user experience), or the users using a tool. For example, in Service Desk it could be the number of help desk agents.
  • Storage based pricing
    • Per gigabyte consumed, per event consumed
The measurements become more challenging in highly dynamic or microservices environments which cause additional issues regarding usage of specific technologies. Most apps consist of both legacy and modern technologies; hence the value is different from a solution to manage them.
Then there are the terms of the license which can be anywhere from monthly billing to 5-year commitments. These commitments can be for a minimum and/or a burst model. I've had some great discussions with analysts around value-based pricing. Although this is a very loosely defined term, building a pricing model based on the value someone gets from the software sounds perfect, in theory. How many problems are you detecting? Solving? Although this makes sense, calculating the "value" is a guess in most cases. With APM you can determine the amount of time/money/revenue saved, but it's still a challenge to build and measure clear ROI. Measuring ROI becomes even harder with other less customer-centric technologies.

In my career I’ve now seen pricing from three distinct angles, I’m going to summarize what I’ve found in each of my roles. These are personal experiences, and your mileage may vary.

End User

As an end user, I bought tens of millions of dollars’ worth of software over my 17 years as a practitioner. I always tried various tricks to ensure I was getting the best deal possible for my employer. Licensing and pricing is a challenge. How do I pay as little as possible for the best solution for my needs? When can I afford to buy an inferior product to meet my budgetary needs? When should I request more budget to select a technology that will differentiate us as a business? Regardless, the net is that everything is overpriced, and I could never get the pricing low enough to remain satisfied. It doesn't matter if I were paying based on application, infrastructure, consumption, or on-demand pricing. Although my technology providers were my partners, I also felt I needed to extract the most value for the least amount of capital from them to serve our shareholders.

Analyst

As I transitioned over to an analyst role, I learned yet more tricks around pricing and deal negotiation. Most technologies go through a cycle of immaturity to mainstream, and finally into obsolesce. Gartner uses two models to describe this; one is the Hype Cycle which shows the technology trigger through it being a productive technology. Additionally when coupled with a Market Clock the lifecycle is visible. Market Clocks address the lifecycle of a market and how technology becomes standardized, commoditized, and eventually replaced. These constructs are useful to both end users and vendors to understand how technologies mature, and the related pricing and competition to be expected within a particular technology market. I often gave advice to vendors due to the number of licensing and pricing models I had seen, and what end users were asking. Clearly, there was always complaints by end users about any pricing model aside from open source. Everyone loves the idea of free software, yet there are many hidden costs to take into account. Which technology providers can deliver results is often more important than the licensing model.

Vendor

I was fortunate enough to run the AppDynamics pricing committee for about six months, and I learned a lot about how to license and price. During this experience was the first time I had studied margins. AppDynamics software is available both on-premises and via SaaS delivery which makes the model especially interesting. Each delivery model has different margins and costs to consider. These have to be taken into account when we determine a pricing model and our discounting. I also learned, first hand, the struggles customers had with our pricing model. The net result is that regardless of how you price a solution the users complain about the pricing. There is no way to solve this problem that I have found, and it was rather depressing. The opinions are strategies across sales, product management, and marketing are all different, and each group has a differing perspective which is very challenging to rationalize. I am not sad to have moved along from that responsibility :)

My Take

Every model is flawed; pricing models are inflexible and software costs too much. If you don't bundle products, then quoting and licensing become complex, yet if you bundle then, you end up with shelfware. End users want to pay for what they use, and yet they don't want commitments, they want "on-demand" pricing. Without commitments, most vendors have issues predicting revenue or demand. This is often an issue if you are using traditional hosting for the product, which most SaaS companies do to some extent for cost reasons. Software, unlike hardware, doesn't have the same type of fixed cost to deliver. The margins are different. End users and salespeople also want the model to be simple to understand, calculate, and rationalize.

I may share more secrets later, maybe around how to negotiate licenses and different ways to get leverage. Leave your comments here or via twitter @jkowall on what interests you on this topic.