Why SaaS pricing won't add up

Bundled pricing is crucial to ensure SaaS remains economically attractive to customers as they ramp up usage -- but it'll squeeze vendors remorselessly.
Written by Phil Wainewright, Contributor

Salesforce.com crossed a critical threshold into bundled pricing this week with the introduction of its Unlimited Edition. As Dan Farber pointed out yesterday, if you add up the cost of buying every individual option separately, it "makes you think that the a la carte pricing is inflated." Unbundled, the combined price would total $265, whereas the Unlimited Edition is $195.

Even this lower price fails to please the posterBundled pricing is crucial to ensure that SaaS remains economic for customers of the first Talkback comment to Dan's post, a professional edition subscriber who writes, "It's beginning to look like each new release that Salesforce provides also requires an 'upgrade' to a higher edition."

This is the flipside of the otherwise beneficial 'pay-as-you-go' model of on-demand applications: if you really do only pay for what you get, then everything extra costs a little bit more. Those costs can quickly escalate, as Eprhaim Schwartz noted in a January article musing on the launch of AppExchange. As the name of the new Unlimited Edition suggests, subscribers can now plug as many third-party AppExchange applications as they like into their core Salesforce subscription, but they'll still have to pay the vendors' monthly fees for each individual application.

"I got to wondering," wrote Schwartz, "What if you were committed to the SaaS (software as a service) architecture and needed all 160 programs to run your business properly? With an average service fee of $50 per user, per month multiplied by 160 plug-ins, you get $8,000 per user, per month. Multiply that by 12 months and a dozen users and it comes to $1,152,000 a year."

Suddenly, the 'scandalous' alternative of paying SAP or any other conventional packaged application vendor for bundled-in functionality and seats you don't use looks positively appealing — provided you get what you need out of the components you do use.

Schwartz predicts that "SaaS providers will very quickly face the reality that, unless they are a provider of a major service with broad reach, they will not be able to charge even $25 per month. Expect prices for nice-to-have utilities to drop as low as $5 per user, per month."

That's a dead cert in my view — in fact, I suspect Schwartz is being over-generous. Most of the time, customers aren't going to want the headache of negotiating 160 separate contracts with dozens of vendors. They'll look to Salesforce.com to offer bundle deals as optional add-ons to its standard subscriber terms. And Salesforce in turn will use the negotiating power of that collective purchasing to screw down vendors to OEM-style licensing terms, in which seat prices will be measured in pennies rather than dollars per month.

That's why I say the introduction of the Unlimited bundle marks the crossing of a critical threshold. It's the thin end of the wedge for bundled pricing a phenomenon that's crucial to ensure that SaaS pricing remains economic for customers instead of adding up to absurdly astronomical sums. Yet even though it's a vital step for the competitive survival of the on-demand model, it also represents a crisis point for all those third-party vendors that hope to prosper as on-demand providers, because they'll have to tear up their over-optimistic business plans and rewrite them far more frugally.

It's even worse news for wannabe enterprise mashup providers, who are going to find themselves squeezed between the commercial clout of the large-scale API providers they rely on for their raw data and the hard negotiating ploys of the composite application providers who'll deliver their output to end users (see What to expect from Web 3.0 for a more detailed outline of this topology).

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