What Is a SaaS Subscription Model?

More and more software vendors are transitioning to subscription-based models with 8 out of 10 existing vendors offering their software to users for a recurring fee. 

This shift has allowed customers to access software products on a more flexible, pay-as-you-go basis and has become an attractive option for SaaS businesses that don’t want to make large investments upfront.

However, it’s important to understand what a subscription model is and all of its benefits and drawbacks before you decide if this would be beneficial for your SaaS company.

In this blog post, we’ll dive in-depth into what defines a SaaS subscription model and explore all of the advantages and disadvantages that have helped shape this popular business strategy. 

Whether your goal is customer retention or long-term revenue growth, understanding this tried-and-true business model can help guide your decision-making process at every step.

We will also look into the different types of SaaS subscription models and how each could benefit or impact your business. So get ready for some deep insights as we uncover exactly how the SaaS subscription model works.

What Is a SaaS Subscription Model?

Simply put, a SaaS subscription model is a type of business model where users pay for access to SaaS tools on a monthly or annual basis. 

It’s advantageous for SaaS businesses looking to get their software into the world quickly because you don’t have to focus much time and resources on creating the infrastructure necessary to support physical product sales.

Furthermore, it allows users the flexibility to try out your software with relatively low upfront costs or commitments in the form of recurring payments. 

This convenient model has been proven effective and has grown in popularity amongst SaaS  companies, because it offers both customer convenience and regular revenue streams.

Advantages of the SaaS Subscription Model

Here are some of the major advantages of using a SaaS subscription model:

1. Predictable Revenue Stream

A subscription model provides a predictable revenue stream as you already know exactly how much you will be bringing in each month since you are billing your customers on a recurring basis. This predictability can help you better forecast your cash flow and plan for future expenses.

2. Scalable and Flexible

Being highly scalable and flexible means that you can easily adjust your pricing plans as your customer base grows or shrinks. Additionally, you can add or remove features from your software as needed in order to better meet the needs of your customers.

3. Low Upfront Costs

A subscription model has low upfront costs because users do not need to make a large investment in order to get started. Instead, they can simply pay for what they use on a monthly basis. This makes it an ideal option for SaaS startups that may not have a lot of capital to invest.

4. Always Up-to-Date

With a subscription model, users will always have access to the latest version of your software. This is because you can automatically push updates to your software as soon as they are available. This ensures that users always have the most up-to-date features and security patches.

5. Increased Customer Retention

The subscription model also helps increase customer retention. This is because customers have already made an investment in your software and are more likely to stick with it, rather than switch to another solution.

Additionally, they’re more likely to take advantage of additional features or services you offer since they’ve already committed financially.

6. Improved Cash Flow Management

Another advantage of the SaaS subscription model is improved cash flow management. This is because you’re able to collect payments from customers on a regular basis, making it easier for you, as the SaaS provider, to maintain and manage your finances.

Downsides of the SaaS Subscription Model

As presented above, As presented above, there are some clear advantages to using a SaaS subscription model. However, it also has its downsides as follows:

1. It can be a barrier to entry for some customers

Subscription models for SaaS businesses can be seen as a bit of a double-edged sword. 

While they can guarantee consistent revenue, they may also be perceived as a barrier to entry for some customers. This is because customers may feel hesitant to commit to an ongoing subscription when they’re not sure how much value the product will bring them in the long run.

In addition, customers may not be willing to pay the upfront cost of a monthly, yearly, or multi-year subscription, depending on your pricing model.

And for users who just need occasional access, the cost of a subscription model may be more than they’re willing to spend.

2. It can be less profitable than other business models

SaaS businesses that use a subscription model also need to be aware that it can be less profitable than other business models. This is because you’re not able to generate high one-time revenue from customers, which can make it difficult for your company to continue growing.

You may also find it more difficult to lock in users to long-term deals, as they may be more likely to switch to another provider if the price or features of a competing product become more attractive. Which leads to potentially high churn rates that could mean less revenue over time as customers may come and go quickly.

Now this doesn’t mean that SaaS companies can’t make a profit with a subscription model–they just have to be mindful of their costs and limitations in order to remain agile while likely having lower gross profits than alternative models.

3. It requires a higher level of customer service

Since customers are paying an ongoing fee, it’s important to maintain their satisfaction each and every month. This can be a challenge for some SaaS businesses, as it can be difficult to keep customers engaged and ensure that they are getting the most out of their subscriptions.

4. It can be more complex to manage

As SaaS companies expand their user base and move to different markets, dealing with the different needs of each customer segment can be an arduous task.

On top of that, unlocking functions or creating credit-based or pay-as-you-go plans requires extra steps like creating complex conditions to ensure all users experience fair billing.

For SaaS businesses looking to create a subscription model, it’s important to consider what features will require maintenance and resources in order to ensure everything runs smoothly.

5. It requires a higher level of marketing

With this model, customers must stay engaged month after month and marketers have an ongoing responsibility to keep them interested.

The need to reach new customers every month is significant, as SaaS businesses must maintain a steady stream of revenue in order to be profitable. This means marketers have to work consistently to create content, develop campaigns, and experiment with pricing strategies that will help the business generate enough revenue to cover their costs.

In addition, it’s important for businesses to focus on retaining their existing customers by providing ongoing value and keeping them informed about new products and features. As such, SaaS businesses must dedicate resources to create campaigns and strategies that focus on long-term loyalty building as well in order to stay competitive.

When done well, subscription-based models can be a great way for SaaS businesses to scale their operations and monetize their products. In fact, a study found that subscription billing vendors are seeing rapid growth with an average of 30-50% growth year over year. 

Types of SaaS Subscription Models

Here are the different types of SaaS or subscription business models:

A. Broad categories

1. Monthly SaaS Subscription Model

This model involves the customer paying a regular fee on a monthly basis for access to the SaaS product. With this model, users have 1) access to the most current version of the product, 2) the option of canceling their subscription at any time, 3) access to any customer service or support related to the product, and 4) access to new features as they are released.

2. Yearly SaaS Subscription Model

This type of subscription model involves customers paying an annual fee for access to the product. This model is often used by companies that offer specialized services or products with more advanced features that require a longer-term commitment.

B. Specific categories

1. Freemium

A freemium SaaS subscription model works by providing a basic SaaS product that users can try out at no cost, with the option to pay for an upgrade if they want more features or services.

Pros

• More users: The barrier to entry is much lower – users can try out your software without having to commit to a paid subscription.
• More data: With more users comes more data. This data can be used to improve your software and services to make it more targeted and effective.
• Potentially higher conversion rate: Users who have signed up for a free trial are more likely to convert to a paid subscription than those who have not tried your service at all.
• Highly scalable

Cons

• May Not Be Profitable: The vast majority of users might choose not to upgrade to a paid plan, meaning that your SaaS company will have to rely on a small number of paying users to generate enough revenue to cover your costs/expenses. Additionally, it can be expensive to provide support and new features for free users, which can further eat into profits.
• Can Attract the Wrong Type of User: Many people who are looking for free software are only interested in using it for a short period of time or for a specific task. These users may not be interested in paying for the service once they’re finished using it, meaning that they are not valuable customers in the long run.

2. Fixed or Flat rate Model

In this model, SaaS businesses offer customers a “flat” pricing structure that is billed at a set rate each month or year.  This type of model is best for businesses that offer SaaS products with a mainly fixed cost, such as an email marketing platform or a basic project management tool.

Pros

• Predictable Revenue: With this type of pricing model, you know exactly how much you will be bringing in each month, which can help with budgeting and forecasting. 
• Highly scalable: This pricing model is perfect for businesses that want to scale quickly, as the flat rate makes it easy to increase your customer base without increasing your costs.

Cons

• Limited Flexibility: This type of pricing model typically requires you to offer the same features and functionality to all users, regardless of how much they actually use the service. This can make it difficult for you to offer new features or make changes to existing features, as doing so could impact your overall revenue.

3. Tiered Pricing Model

A tiered subscription model provides your customers with different tiers (or plans) of your SaaS product that come with different features and price points. This type of subscription is best for SaaS products that offer a wide range of features and flexibility.

Pros

• Predictable Revenue
• Easy to Budget: Since users know exactly how much they will be billed each month, they can plan their budget around the service. This can make it easier for your customers to continue using your service on a long-term basis.
• Encourages Usage: This model encourages your customers to use your tool more as they are not charged based on usage.

Cons

• Difficult to scale: As your SaaS business grows, you may need to add more features or functionality to your SaaS tool. However, if the pricing model is tiered, it can be difficult to add these new features without increasing prices and potentially losing customers.
• Can Be Complex: This type of subscription model can require a lot of planning in order to ensure that the right features are included in each tier and that the pricing structure is fair. Additionally, it requires you to constantly monitor usage to ensure that customers are not being overcharged for features they do not use.
• Can Lead to Churn: If customers find your pricing structure too complicated or confusing, they may choose to switch to a different service that is easier to understand. This can lead to customer churn and lost revenue.
• Requires constant monitoring: You need to track your customer usage patterns in order to ensure that they are not over or under-charging for their SaaS tool. If usage patterns change, the pricing model may need to be adjusted in order to remain effective.

4. Per Seat 

Per seat pricing is a SaaS subscription model in which customers pay a fee per user (or “seat”) that has access to the software. This type of model is best for businesses with large customer bases as it allows them to scale their services quickly and easily.

Pros

• Perfect for Scale: With this model, you can quickly and easily add more seats to accommodate larger customer bases. This makes it perfect for businesses that want to scale quickly.
• Flexible Pricing Structure: This type of model gives you the flexibility to offer different pricing structures depending on the number of users. For example, you may offer a discounted rate for larger customer bases or additional features for those with more users.
• Increased Customer Engagement: Since customers are only charged for the number of users who are actively using the software, this gives you the incentive to ensure that all users are engaged. Additionally, this model can also help to encourage customers to use new features as they know they will only be charged for the users who are actually using them.
• Predictable Revenue Stream

Cons

• Potential Overcharging: With this model, customers could be overcharged if they are using fewer features than the seat has access to. Additionally, it can be difficult to track usage levels accurately and ensure that each user is being charged correctly.
• Can Lead to Churn: With this model, customers may feel that they are paying too much for features they do not use or need. This can lead to customer churn and lost revenue.
• Higher Upfront Costs: With per seat pricing, customers have to pay for all their seats upfront, which can be a barrier for some. Additionally, there may be additional costs associated with setting up each user and provisioning the software.

5. Custom Pricing Model

Custom pricing models are also an increasingly popular choice for SaaS businesses trying to increase efficiency and maximize profits.

Custom plans are best suited for enterprise clients and organizations that require specific services or a large amount of customization. With a custom pricing model, SaaS businesses can create packages tailored specifically to their clients’ needs and usage patterns, allowing them to charge more for the exact product and services each client wants.

This makes it easy to maximize profits while still providing customers with what they need. Additionally, this type of model allows businesses to offer discounts or specialized services that may not be available in their standard packages. This can help to attract more high-profile customers and boost sales. 

Pros

• Greater customization: You can tailor your services to better meet the specific needs of your customers. This can be a major advantage for clients that require a high degree of customization in their software in order to optimize their workflow.

Cons

• Difficult to scale: The model requires you to tailor your offerings to each individual customer, which can be time-consuming and costly.
• Requires significant upfront investment: This model may require you to make a significant upfront investment in order to tailor your offerings to each individual customer. This upfront investment can be costly and may not be feasible for all SaaS businesses, especially SaaS startups.

6. Hybrid

The hybrid subscription model combines elements of two or more subscription models to create a model that is tailored to the needs of the customer. This can be beneficial for businesses that need to offer a variety of options to their customers, but want to keep their costs under control.

Pros

• Increased Customer Lifetime Value: By offering customers the ability to choose from multiple options, you can increase their lifetime value as they are more likely to stick with your service.
• Improved Customer Retention: Customers who are only interested in using a few features may be less likely to cancel their subscription if they know they can downgrade to a lower-priced plan that still meets their needs. Additionally, customers who find themselves using more features than they originally anticipated can upgrade to a higher-priced plan without having to start from scratch with a new subscription.
• Increased Revenue Potential: This model enables you to upsell and cross-sell customers on additional features in a natural way as they get more accustomed to your software. For example, customers who are using the basic subscription may be more likely to upgrade to a higher-priced plan that includes more features if they find themselves using more of the service than they originally thought. Additionally, you can cross-sell customers on related SaaS products and services that complement the ones they are already using.

Cons

• It can be complex to set up and manage: You may need to develop two separate pricing plans, one for each type of customer. Additionally, you need to have a system in place to track which customers are using which features, as well as how much they are using them. This can be a time-consuming and difficult process, particularly for businesses that are not used to managing complex subscription models.
• There is a risk of cannibalizing your existing customer base. This means that some of your customers may switch to the new subscription plan in order to get access to the new features or discounts that are being offered. This can lead to a decrease in revenue for your business, as well as a decrease in customer loyalty.
• It can be difficult to find the right balance between the two plans. You need to make sure that the two plans are priced correctly in order to maximize revenue, but you also need to make sure that they are both attractive enough to customers. If one plan is significantly more expensive than the other, you may find that customers are not willing to switch. Alternatively, if one plan is not attractive enough, customers may simply choose not to subscribe at all.

Final Thoughts About the SaaS Subscription Model

Understanding what a SaaS subscription model is and how it works is critical for growing your business. The benefits of this type of pricing structure are innumerable, which includes increased customer lifetime value and revenue potential to name a few.

However, it can also be difficult to set up and manage, so it’s important to weigh the pros and cons of each subscription model before deciding to implement one for your SaaS business.

Ultimately, the type of subscription model that works best for your SaaS company will depend on your specific customer base and business objectives.

By carefully assessing your customer’s  needs, as well as your own capabilities and limits as a SaaS provider, you’ll be able to determine the best subscription model for your SaaS business to maximize revenue and customer satisfaction.

If you’re looking for more tips on growing your SaaS business, be sure to check out our blog.