A CFO’s Perspective on SaaS Price Changes

“Nothing is certain except death, taxes and annual SaaS subscription price increases.” – Benjamin Franklin 1789

SaaS Contract product pricing is equal parts art and science. The key is trying to find a balance that maximizes your company’s profitability and maintains good relations with your customer base.

In this blog post, I’ll give you a SaaS (both giver and receiving of price changes) CFO’s perspective on the best way to find the proper balance between maximizing profit and minimizing your customer base’s pain.

TL;DR – My advice, bake in annual product price increases, know your value, and don’t blow up your customer’s budget and increase churn risk.

Let’s dive in.

First, The Basics Of SaaS Price Increases

The Power of Incumbency

When you have a customer, they are yours to lose. Being the existing, incumbent vendor has great power. People don’t like change and getting buy-in for change is difficult and full of friction. Keeping things the same is easier and has less career risk than switching vendors and systems. Full stop. If your product is meeting your customer’s needs, then the key risk within your control is product pricing. 

It’s obvious, but worth stating. Price too low, you leave money and margin on the table. If you price too high, your churn goes up. The name of the game is finding the sweet spot and not screwing up your incumbency.

Key takeaway: Respect the power of incumbency, don’t abuse it.

Consistency & Discipline Are Key

Your strategy around price increases is important. Best-in-class companies have a philosophy, strategy and discipline in how they think about and roll out price increases. They think in years, not quarters.

The best companies have empathy for their customers and realize that large, unexpected price changes force tough budget decisions and put your product’s internal champion in a tough place.

Predictable pricing makes your customer’s life easier and approvals more likely.  Unpredictable pricing makes your customer’s life harder and increases churn risk, reduces customer satisfaction, and potentially lowers your potential valuation. It’s better to gradually increase pricing regularly and watch the magic of long-term compounding.

Key takeaway: Be consistent and disciplined. As best as you can, adopt a years rather than quarters perspective on product pricing.

A SaaS CFO’s Perspective on Price Increases

Internal CFO’s Reaction to Price Increases & Motivations

First, a little bit about CFO’s and accounting professionals. 

CFO’s and finance people live for predictability and consistency. Seasoned accounting professionals expect annual dues & subs price increases and incorporate those expectations into financial models and budgets. Generally speaking, annual price increases are expected and not considered a big deal so long as costs remain within an acceptable range. 

As the giver of annual product price increases, I can tell you CFO’s get excited about price increases. They get to see operating leverage in action and it feels like magic. Even being able to raise prices as little as 1% above expectations expands margins and covers for lots of other misdeeds.

In many cases, even modest margin expansion is the difference between profits and losses and the achievement of bonus targets. Those incentives motivate CFO’s to lean on more aggressive price increases than other members of an organization.

My advice: Don’t let your CFO’s excitement over price increases get in the way of understanding your relationship with customers and how they view your product.

Customer (External) CFO’s Reaction to Price Increase & Motivations

A CFO’s motivation is to hit or exceed their financial projections, which means staying within budget is key. If costs are within a CFO’s model, they typically don’t ask questions and move on to think about other things. Vendors get in trouble when their price increases exceed the range and disrupt the budget. 

A good formula to keep in mind is:

Cost Higher Than Modeled =  Partially Blown Budget = Grumpy CFO 

Grumpy CFO = Higher Churn Risk

Here is why. 

Costs above budget make the CFO and/or internal champion look bad. Their credibility comes into question. The reliability of the earnings forecast is up in the air and the teams wonder what other key assumptions are wrong and whether price increase expectations need to be raised.  

Keep in mind, budgeting is a hard-fought process. Resources are limited and the process of determining how and where those resources are divided is tricky and filled with horse-trading. The CFO’s role is to find a tenuous balance that puts departments in position to meet their objectives. When that tenuous balance gets disrupted, it often causes friction and strain within your customer’s organization.

When costs exceed budget or forecast, a CFO really has 3 options:

·       Eat the extra costs

·       Find budget elsewhere (e.g. potentially cut another budget)

·       Ask teams to re-evaluate the product, usage, and investigate alternatives

Unless the customer eats the cost, the vendor (or another innocent bystander) has heightened churn risk. The type of risk (logo, dollar, or license) usually depends on how mission critical a product is to a customer. Since the CFO is motivated and incentivized to meet and exceed their financial projections, eating the cost is the least attractive (and likely) of the three options.

How Essential Is Your Product?

Key Takeaway: Be disciplined and increase pricing every year. Position your company well. If possible, make regular, but modest annual price increases to your product.

How To Think About Your Annual Price Increases

Multi-Year Deals & New Customers

The behavior of new customers is important to understand. In most cases, the purchase of SaaS product starts with a smaller, pilot group and expands outward across the organization. The timing of a product’s usage across an organization is usually measured in months rather than weeks. When products see their usage quickly spread, the software usually becomes mission critical and the SaaS company has the most pricing power leverage.

With that behavior in mind, SaaS companies looking to sign customers to multi-year agreements should plan for success. In this case, planning for success means baking annual price increases into the initial contract. Failure to do so will leave too much value on the table in the later years of the contract. Not inserting annual price increases will result in legacy customers with below market pricing and tough future conversations.

Here is a numerical example of the value an organization would leave behind in a multi-year deal with and without an annual price increase.

Key Takeaway: Prepare for and expect success in your multi-year agreements.

Renewing Customers

Budgets cost assumptions rely primarily on a combination of 3 factors:

• Current or prior year’s total cost
• Internal forecasts of product and service needs (headcount)
• Existing pricing with an estimated price increase. 

Absent having specific pricing information in advance, CFO’s typically assume annual license price increases somewhere between 3-8% from the current price. The default price increase assumption usually ends up between 3-5%. 

With those ranges in mind, here is how we breakdown the strategies, product perception and how we’d think about price increase levels:

Recommended Strategy	Potential Price Increase	Customers’ Product Perception
Conservative	0% – 2%	Value unclear, usage low
Moderate	3% – 5%	Product meeting customers’ expectations
Aggressive	+6%	Mission critical, high ROI, high usage. Product is essential to key business functions and has high switching costs.

If your organization is unclear on your customer’s perception of your product, you probably want to stay in the middle with 3-5% annual price increases. Getting feedback from your customer success team will be essential to understand your product’s perception with your customers. Lean on your CS team heavily.

 A well-communicated (and agreed upon) future price increase may improve your product’s chances of avoiding higher near-term churn risk. But, the risk isn’t eliminated and the strategy may backfire leaving your customer with more time to seek alternatives.

Key Takeaway: Figure out how essential and mission critical your product is and price accordingly.

Final Thought On Last Year’s Price Change

Companies don’t get credit for past behavior. 

CFO’s don’t care if you didn’t increase your pricing last year or the year before. Last year was last year and is in the rearview mirror. CFO’s are focused on this year and the future. When a CFO’s budget is blown up this year and future years are in question, they find little comfort around what happened before or whether your product is priced competitively within its class.

Wrapping Up

Annual price increases are a way of life with SaaS products. We recommend that companies soberly assess their product usage and perception with their customers to better assess a pricing strategy and philosophy. 

Pricing for recurring purchase products, once set in motion, can be difficult to materially change. Regardless of where your company is in its lifecycle, we recommend adopting a pricing philosophy that:

·   Thinks long-term. Remember years, not quarters.

·   Is disciplined and consistent without large price fluctuations

·   Raises prices annually

·   Understands the product’s importance to customers

No matter what you do, respect your customer. Be thoughtful and don’t overplay your hand and mess with your position as the incumbent vendor.

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