Growing a SaaS company is an uphill battle, but it shouldn’t be impossible. Are you pouring resources into your business, but not making any progress?
It might not be you. It might be your subscription model.
But how do you know if your current subscription model is working or failing?
We’ll cover the three most important metrics for judging your subscription model’s success:
- Free to paid conversion rate
- Pricing page conversion rate
We’ll also dive into analyzing your business’ price-point.
Key Subscription Metric #1: Free to paid conversion rate
With the freemium model, it’s normal to have a low free to paid conversion rate.
However, your conversion rate needs to be high enough for you to support your free users. Otherwise, the freemium model doesn’t scale.
For example, Hubstaff found that this free plan was actually costing them money and stunting their growth:
Dave Nevogt, the co-founder of Hubstaff, explained why the freemium model is tempting when businesses are just starting.
“Entrepreneurs think that once people try their product for free, they will upgrade to a paid version and tell their friends about it.”
This reasoning is understandable. You believe in your product’s value proposition and expect others to inherently see the same value in it that you do.
But, this reasoning led Hubstaff to make a huge pricing mistake.
Their idea was that the free plan would help Hubstaff acquire a lot of users, which would lead to a lot of word-of-mouth buzz, which would then lead to even more users.
They knew that most of these free users would keep using the free plan but hoped that enough of them would convert to paid users to make the whole thing profitable — but they were wrong.
It’s important to dive in a bit deeper here to understand the key lessons that Dave and his co-founder Jared Brown learned from their freemium failure, so you can be better informed if considering a freemium model:
Lesson #1: Paid products carry more value than free ones
With subscription model pricing, this (unfortunately) doesn’t go without saying. And that’s because it’s more complicated than you might think.
People, subjectively, don’t value free things as much as they value paid things. Even if the free thing is just as great as the one they paid for.
Moreover, if you are offering your product for free, it’s hard to determine whether you are providing enough value to your users.
Dave used Pandora as an example to illustrate this exact paradigm:
The company offers a free plan that allows for unlimited streaming with ads and a paid plan that provides higher quality streaming without ads.
The majority of people are happy with the free plan, and the benefit that customers get with the paid plan (less ads, higher quality) does not outweigh the cost to upgrade. If Pandora decided to cut the free plan altogether, many customers would likely switch to one of the many other free music streaming services available.
Pandora has created a situation where their paid product does not provide enough discernible value over their free product — something that ultimately hinders their growth.
Lesson #2: Free users bring more free users
What do you think free users tell other people about your product?
It’s safe to assume that, when a free user tells a friend about your product, they present the fact that it’s free as the main selling point. That means that free users generate more free users, which increases the free plan burden.
Plus, in Hubstaff’s case, their free users weren’t influential enough to generate a lot of buzz where it mattered most — social media, the blogosphere, etc.
It is also important to understand that people who can afford your premium plan might not view “free” as a positive — it might actually devalue your product in their eyes (again, we’re talking about subjective value). They could view it as your lack of confidence in your product’s value.
Imagine you are selling B2B software and you are leading a sales meeting with a CEO of a Fortune 500 company. He wants to hear more about your product. Would you lead with your free plan?
Likely not. A CEO could see it as a red flag. If your product is valuable, then why are you giving it away for free?
Competing on price isn’t always a bad idea, but if you are selling B2B software, it could be problematic.
Many B2B customers will see a low price point as an indicator that the product is inferior to its competition. And going into the research phase, they may already have a confirmation bias in that direction.
Lesson #3: Free users eat up support bandwidth
Yet another complexity of the free plan burden is that the more free users you have, the more resources you need to invest in supporting your free plan.
This is especially true when it comes to customer service.
Freemium subscription plans inevitably mean that you will have more free users than paid users. On top of that, free users tend to require more customer support because they are not investing the same time commitment in adopting and learning the product as someone with a paid investment.
This means that your customer support agents will be swamped with requests from people who aren’t paying for your product, making it more difficult for paid users to get the help they need.
And paid users are not going to put up with poor customer service. They have the resources to switch to a competitor at any time.
The irony is that you can’t just assign a lower priority to the free users. They are a customer at the end of the day, and you want to avoid gaining any reputation as a company that is providing bad customer service.
So, you inevitably end up trying to keep the free users happy at the expense of paying customers.
Lesson #4: People take advantage of free accounts
Although their free plan was limited to three users, the Hubstaff team noticed an issue where customers would register for another account with a different email address rather than upgrade.
They were surprised by this because they thought that their free users would realize the value of the product and upgrade to a paid plan to allow the rest of their teams to take advantage of the product’s features as well. But, why would customers pay when they can get the product for free simply by setting up a new account?
The only way to avoid this is to charge based on value.
Case Study Conclusion: What happened when Hubstaff dropped their free plan?
Well, according to Dave, the sky didn’t fall. They still offer the three-users plan, but now it costs $15/month, which the Hubstaff team thinks is a more-than-fair price for it.
They still offer a free plan, but it allows only one user and is limited in functionality. It is meant to serve as a sample of the product rather than a fully-functional account.
What is the biggest lesson that Dave and Jared learned from the failure of their free plan?
Now, the takeaway from Hubstaff’s experience shouldn’t be that the freemium model doesn’t work, but you need to dive in with your eyes open.
Take a cold hard look at your free-to-paid conversion rate. Is freemium really sustainable? Or would you be better off only offering paid plans?
Key Subscription Metric #2: Pricing page conversion rate
Now, back to metrics that help measure the success of your subscription model. After you have analyzed your free-to-paid conversion rate, your pricing page conversion rate is the next place you should look. If it is low, it might be because of your subscription model.
For example, when Groove charged per ticket, their conversion rate was 1.17%. Once they switched to pay-per-seat model, it shot up to 4.15% — a more than 350% increase.
The 1.11% conversion rate on their pricing page indicated that this approach wasn’t working.
They then switched to pay-as-you-go pricing, but that didn’t improve the situation much either. The pricing page conversion rate went up to only 1.17%.
Finally, they decided to simplify their pricing as much as possible and switched to a per-user model.
“If our uniqueness comes from being the simplest, easiest app, then our pricing has to reflect that, too,” explained Groove founder Alex Turnbull.
Here’s what their new, successful pricing page looked like:
It worked. The pricing page conversion rate went up to 4.15%, which is an increase of more than 350%. As a result, Groove’s revenue increased by 25%.
What is your pricing page conversion rate? A low conversion rate might be indicative of underlying problems with how your subscription model is set up.
Yes, it’s a common challenge for any business to get people to sign up for their product. That is the nature of the crowded market that we live in. But if it feels next to impossible, then it’s likely time to pause and reflect on whether your subscription model reflects the core benefits of your product.
Key Subscription Metric #3: Churn
The final, and arguably most crucial, metric to analyze the effectiveness of your subscription model is churn.
Joel York from Chaotic Flow defines churn as “the percentage rate at which SaaS customers cancel their recurring revenue subscriptions.”
Put simply, if you had 100 customers at the beginning of the month, and 10 of them left by the end of the month, your churn rate for that month would be 10%.
A high churn rate could mean that customers aren’t getting enough value for the price that they are paying for your product — a strong indicator that you might need to adjust your subscription model.
If customers do not feel like they are getting the quality of features or functionality that they’re paying for, it makes it difficult for them to justify the recurring purchase to their business, stakeholders and likely even themselves.
If you find this to be the case, work with your team to define and test new subscription models and price points in order to find the one that resonates most with your customer base.
It is important to note that your subscription model might not be the only reason for churn. It could be a variety of factors — many of which Chargify has written about before.
The important piece is that you invest time to learn why customers are leaving, and immediately act to fix the problem once it has been identified.
For example, Groove used this exit email to gather feedback from customers who cancelled their subscription:
You can use a similar email to figure out why people are churning. Just make sure that you take action on the feedback that you receive. Work on your product tirelessly until you have something that your customers love.
Keep in mind that the problem might simply be not charging enough
What if the three metrics we covered (free to paid conversion rate, pricing page conversion rate and churn) are performing positively but you are still struggling to stay afloat?
In this case, your subscription model is working well, but the issue is that your prices are too low.
You should always price based on the value that you provide. Consider the value your customers are gaining because of your product — time or money saved, productivity gains, etc. Then, charge based on that.
Worried that raising prices will hinder your growth? It’s a fair concern.
However, if your product is indeed underpriced, then correcting the market price to better match the value provided to customers can actually increase your sales.
For example, Appcues increased its prices and grew sales by 263% that same month.
The Appcues team started suspecting that their prices were too low because the price rarely came up as an objection in customer conversations, and some customers even told them that they should be charging more.
However, they were well aware that a price increase could cause a lot of drama and turn into a PR nightmare, so they were determined to find the least disruptive way to raise prices.
They sent an email to their customers that informed them about the upcoming price change and stressed that existing customers were grandfathered into their current pricing plan:
85% of Appcues’ customers opened that email and not a single one churned.
They also sent an email to people who were interested in their product but hadn’t signed up for it yet:
Furthermore, Appcue’s Director of Customer Development personally reached out to leads who had shown interest in their product as well as leads who were in active sales conversations. He sent a unique note to each prospect (similar to the example below) and personally informed them of the price increase.
Jackson Noel, the co-founder and CEO of Appcues, said that these marketing emails were incredibly effective in re-engaging customers on free trials and driving sales.
He also noted that the personalized follow up emails from the Director of Customer Development were the key to closing more deals in the following week than in any week prior in the company’s history.
Jackson advises grandfathering existing customers into their current pricing plans, inserting calls-to-action in your emails to prospects and following up with hot prospects personally.
“If you have similar luck, you will produce an increase in happy new customers while maintaining good relations with your legacy ones.”
It’s extremely difficult, if not outright impossible, to grow your SaaS business with the wrong subscription model.
But remember that subscription models are not a “set it and forget it” part of your business strategy. They will constantly evolve as your business grows and your customer base matures.
Be diligent about monitoring the key metrics we discussed here on an ongoing basis to measure the health and performance of your subscription model. If your data analysis finds that you are in need of a change, use the tactics we discussed to identify your value metric and choose a new subscription model that fits with it.
Want to learn more about how your business can drive growth with pricing mastery? Download our free eBook, “Master B2B SaaS Pricing: Five Advanced Strategies for Subscription Models,” that gives you actionable strategies for optimizing your SaaS pricing structure.