If you’re in the early stages of starting a business, you’ll need to price your services and products. When dealing with offerings like software or online content, you may also have to select a pricing model to offer customers. Two popular pricing models include licenses and subscriptions.
Subscription services have recently overtaken the traditional licensing model, but both options have advantages and disadvantages. For example, licenses may allow you to charge a higher upfront fee, but subscriptions tend to be more convenient for your customers.
We’ll explore how licenses and subscriptions work, the pros and cons of both options, and how to choose the right pricing strategy for your business.
How do you choose the best pricing model for your business?
No matter what business stage you’re in, choosing the right pricing model is key to a successful business growth plan that helps acquire new customers and increase sales. The right pricing model will keep customers loyal and enable your business to grow at a sustainable pace.
The following guidelines can help you determine the best pricing model for your business:
- Define your business’s goals. Every business decision you make should start with your company’s goals. Once you’ve set your business goals, find ways to align them with your pricing strategy.
- Know your ideal customer. Consider your target audience and how much they can spend. Are you marketing a high-value service for which customers will pay a premium? This will affect the pricing strategy you choose.
- Conduct a competitor analysis. You must also take your market position into account. Conduct a competitive marketing analysis to determine the prices others in your space charge. A competitor analysis will also help you determine your unique selling proposition (USP) and how to set your company apart.
- Understand your costs. You must understand your fixed and variable expenses. If you price your products or services too low, that will affect your business’s profitability.
To better gauge what customers are willing to pay, build customer personas that include demographics and the purchase factors that prompt them to buy.
What is the licensing model?
Until recently, perpetual licenses were the most popular pricing model for software products. In a licensing model, the customer pays a one-time upfront fee to purchase a product license. In return, they receive lifetime access to that product.
However, there may be an additional yearly fee for software updates and technical support. Customers can continue to use the product if they stop paying the annual fee but won’t receive ongoing updates or support.
What are the pros and cons of licensing?
Licensing brings specific benefits and drawbacks for your company.
These are the benefits of a licensing model:
- Businesses can charge higher upfront costs with licensing. One of the benefits of licensing is that you may be able to charge a higher upfront cost, especially if the software deployment is significant.
- An annual fee can add recurring revenue. You can make recurring revenue by offering an annual subscription fee in addition to your licensing fee. The annual fee would cover things like software updates and tech support. Customers can cancel the annual subscription anytime, but the software and their experience won’t be as optimal.
Downsides to the licensing model include the following:
- You’ll lose revenue if customers opt out of the annual fee. Customers may end up paying less for your product or service over time if they cancel the subscription fee.
- You’ll have to continually improve your product and offerings. You may have to continuously release improved software versions to convince customers to upgrade their licenses with annual subscriptions.
- The licensing model is only for desktop computers. Another downside to licensing your software is that it will only be available on desktop computers; your customers won’t be able to access it from their laptops or smartphones. Now that an increasing number of people work via a remote work plan or while on the go, this could be a deal-breaker for some customers.
What is the subscription model?
In a subscription model, customers pay a recurring fee to access software, a service or content. While a licensing model is traditionally associated with software, a subscription model is also common for services and exclusive content. Streaming entertainment services like Netflix and Spotify are examples of industries that use the subscription model.
Companies usually charge a monthly or annual subscription fee. Customers can cancel their subscriptions anytime, but they lose access to the software or service if they do.
A subscription model differs from a licensing model because, customers in a licensing model receive lifetime access to the offering. Additionally, subscription offerings are usually cloud-based, so customers can access them from any device – a significant benefit of cloud computing.
A subscription website – which requires visitors to pay a monthly membership fee – can be a good way to increase your business’s profits if your content is highly valuable to a limited audience.
The benefits of the subscription model
Licensing used to be the default pricing model for software companies. However, subscriptions have taken off over the last decade because they offer significant benefits for businesses selling subscriptions and for their B2B and B2C customers.
Here are some benefits of a subscription model:
- Subscriptions help control costs. Businesses and individuals buying software or service subscriptions can better manage expenses and control costs. They know what costs they’ll pay monthly, so budgeting is easy. Additionally, the company selling the subscription can easily project its revenue.
- Subscriptions have fewer security risks. Security is a critical issue for businesses as cyber attack threats increase. Companies that sell subscriptions and their customers benefit from fewer security risks.
- Subscription sellers. Subscription sellers won’t have to deal with the hefty costs and security risks of self-hosting traditional software licenses. Outdated legacy software hosted on internal servers is at greater risk of an attack that leads to stolen consumer data. Falling victim to a cyber attack could cause irreparable damage and lead to significant costs.
- Subscription customers. Subscription customers – businesses and individuals alike – are less likely to have their data stolen, which is an enormous benefit.
- Subscriptions have less hassle and expense. Traditional licenses are often sold alongside installation packages, upgrades, add-ons,and maintenance. With a subscription model, the company selling the subscription won’t have to deal with the complexities of these additional offerings. And their customers avoid the hassle and extra expenses of buying traditional licenses.
- Subscriptions facilitate mobile work. Businesses and individuals who subscribe to a software solution or service want mobile access so people can work on smartphones and tablets. Subscription services offer flexibility and support, especially with the increase in remote workers.
The primary downside to offering a subscription-based pricing model is the potential for customer churn. If your customers sign up and keep their subscription for only one or two months, that can negatively impact your revenue. Companies that offer subscriptions must constantly look for ways to build customer loyalty and create a great customer experience.
Boost customer retention by creating a seamless onboarding experience for your subscription service. Offer in-app cues and make it easy for users to contact customer service to improve their overall experience.
Consider your business needs when choosing a pricing model
Software and service companies are well-positioned to offer subscription services to businesses and consumers. Subscription pricing models allow you to offer a reliable service at an affordable monthly price. That’s why prominent companies like Microsoft, Dell and Adobe have all pivoted to subscription-based pricing models.
However, while the licensing model may be less common, it could still be a good option for your business. Carefully consider your goals, your ideal customer and what your biggest competitors are offering. This will help you determine the best pricing model for your business.