What is usage-based billing? Tips on how to implement it

We know — when it comes to SaaS products, billing is a tricky subject, and the reason is simple: 

How billing is implemented can make or break a SaaS company.

The truth is that — since there’s such a wealth of options to choose from — committing to a billing model can constrain your billing infrastructure, making it harder to change billing down the line as needed. 

But there’s one billing model that stands out as a great option for SaaS companies because:

• It accurately captures the value you provide customers.
• It feels fair both for you and the end user.
• It provides unparalleled scalability.

Enter usage-based billing. 

In this article, we’ll take a deep dive into this increasingly popular billing model to find out why more and more SaaS companies are implementing usage billing and why it might not be for everyone. 

We’ll cover:

• What exactly is usage-based billing?
• What are some good examples of SaaS companies implementing usage billing?
• What are the pros and cons of usage-based billing?
• Is usage-based billing right for your company?
• How to implement usage-based billing. 

What is usage-based billing?

Usage-based billing — often also referred to as pay-as-you-go or metered billing — is a usage billing model that charges customers based on the actual usage of a product or service. 

In other words, customers pay only for what they use, rather than a flat fee. 

For SaaS companies, adopting usage-based billing translates into revenue growth that directly correlates with customer engagement and usage. 

For customers, this means their spending more accurately reflects the value they get from your SaaS solution.

This sounds idyllic — almost as if it’s a clear, undisputable win-win scenario for everyone — but there’s one key aspect we need to look at to really understand how usage-based billing works: value metrics. 

To put it simply, value metrics are specific activities or usage patterns that are directly tied to the billing. For a streaming service, this could be the number of hours watched; for a cloud storage service, it could be the amount of data stored.

By carefully selecting which indicators to put under the lens, SaaS companies ensure that they aren’t losing money by not taking into account which values are driving their operational costs — and customers don’t have to do any guesswork once their invoice arrives. 

Examples of usage-based billing for SaaS companies

• AWS (Amazon Web Services): AWS charges for cloud resources like computing and storage based on consumption. This scalable model suits businesses of various sizes, adjusting as their needs change.

• Twilio: Twilio's Cloud Communications Platform as a Service (CPaaS) charges are based on usage, such as the number of texts sent or minutes of calls made. This model aligns costs with the volume of communications.

• Snowflake: Snowflake bills for data warehousing based on data storage and computing use. This allows flexible management of data analytics costs, scaling with demand.

Pros and cons of usage-based billing

For companies

For SaaS companies, transitioning to usage billing can be a strategic move to align revenue with customer engagement and usage. However, it also requires adapting to new operational complexities and financial uncertainties.

Pros

• Direct revenue alignment with usage: This model directly correlates company revenue with how much customers use the service, potentially increasing earnings as customer engagement grows.
• Customer retention: By making customers feel they are paying fairly for the value they receive, usage-based billing can reduce churn rates. Customers are less likely to cancel services they perceive as cost-effective.
• Encourages product adoption and upgrades: As customers are only billed for what they use, they may be more inclined to try new features or services, leading to increased adoption and potential upsell opportunities. 
• Keeps customers happy: Offering a billing model that adjusts to customer needs can lead to higher levels of satisfaction and loyalty, as it reflects a commitment to fairness and value.

Cons

• Billing system complexity: Implementing a usage-based billing software capable of accurately tracking usage, calculating costs, and generating bills can be technically challenging and expensive. This is especially true with in-house billing systems, which are often inefficient.
• Revenue predictability issues: Fluctuations in customer usage can lead to variable monthly revenues, complicating budgeting, and financial forecasting for the company.
• Difficulty in pricing model design: Developing a fair and competitive usage-based pricing strategy requires understanding customer behavior and usage patterns, which can be complex and time-consuming without granular customer usage insights. 
• Potential customer pushback: Changes from traditional pricing models to usage-based billing can lead to confusion or dissatisfaction among existing customers if not communicated effectively. Transparency is the name of the game here. 

For customers

Customers often appreciate the fairness and flexibility of usage-based billing. Yet, this model also may introduce elements of unpredictability and complexity in their billing.

Pros

• Cost efficiency: Great for customers with changing needs, as they are only charged for what they use, saving money by not paying for unused services.
• Increased control and flexibility: Customers can adjust their service usage without the constraints of fixed plans, providing the ability to scale up or down based on actual needs.
• Transparency and fairness: This model makes it easier for customers to understand where their money is going. This is a great way of building trust and customer fidelity over time. 

Cons

• Risk of bill shock: Without careful usage monitoring, customers may experience unexpectedly high bills if their usage spikes. This can become an even bigger issue if usage data is disparate instead of unified in a single source of truth. 
• Need for active management: To avoid overage charges, customers must regularly monitor their usage, which can be burdensome. A robust billing system can help with this issue.
• Complexity in understanding billing: The nuances of usage-based billing — such as determining what counts as a billable event and how different user actions are priced — can be complex and require effort to understand fully. Here’s where being super transparent with value metrics pays off.

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Is usage-based billing right for your SaaS company?

So, now you know what usage-billing is and how it impacts both companies and customers. But before making the switch, you need to assess if usage billing actually fits your specific SaaS company’s value proposition. 

Here are some factors to consider:

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Value metrics

For a usage-based billing model to be effective, your SaaS company must be able to define and measure clear value metrics that accurately reflect how customers use and derive value from your product.

• Suitable for: SaaS startups that offer products with easily quantifiable metrics (e.g., data usage, API calls). These companies can implement usage-based billing smoothly, as they can clearly link costs to value.

• Not suitable for: Companies whose products don't have straightforward metrics for usage or value. If quantifying product usage or customer value is ambiguous, sticking to traditional subscription models may prevent billing complexities and customer confusion.

Customer usage patterns

Understanding and having clear actionable data on how your customers use your product is more than crucial. Significant variability in usage among customers might make usage-based billing more equitable and appealing. 

• Suitable for: Companies who have data-driven insights into a wide range of usage patterns among their customers. This variability means that a usage-based model can more fairly allocate costs, improving customer satisfaction and retention.

• Not suitable for: SaaS businesses with customers who use the product uniformly. For these companies, the simplicity and predictability of subscription models likely outweigh the benefits of usage-based billing.

Resource allocation

Resource allocation is key to efficiently managing a SaaS company's costs. Usage-based billing ensures costs align with actual resource use, ideal when a few users consume most resources.

• Suitable for: Companies with uneven resource use among customers. For instance, if 20% of users are consuming 80% of your resources, usage-based billing enables accurate billing for those heavy-usage customers. 
• Not suitable for: Businesses with consistent resource usage across customers. If operational costs aren't driven by a few heavy users or if tracking and billing by resource use isn't cost-effective, a simpler billing model may be better.

Scalability of product features 

Products that allow customers to dynamically adjust their usage align well with usage-based billing.

• Suitable for: SaaS companies offering flexible, scalable solutions like cloud storage or API-based services. These products naturally fit with usage-based models, as customers can easily see the link between usage and costs.

• Not suitable for: Products with fixed features that don't scale easily with customer needs. For these companies, a subscription model may provide the stability and predictability that both the business and its customers prefer.

Variation in user-perceived value

Usage-based billing can be particularly equitable for products whose value varies widely among users. This means a wider range of customer types can click with your value prop and monetization model. 

• Suitable for: SaaS companies whose products offer varying levels of value to different users. In these cases, usage-based billing can ensure fairness for both high and low-demand users. 

• Not suitable for: Companies whose SaaS products deliver uniform value to all users. Here, a subscription model might be simpler and more efficient, avoiding the need for complex billing calculations.

Customer satisfaction

Ultimately, your customer's perception of your billing model can significantly impact satisfaction and loyalty. Understanding customer preferences regarding billing models is key here. 

• Suitable for: Companies whose customer base values flexibility, transparency, and the fairness of paying only for what they use. If your customer research indicates a preference for usage-based billing, adopting this model could boost satisfaction and increase chances of retention.

• Not suitable for: Businesses with customers who prefer the simplicity and predictability of subscription fees. If your market research shows that your target customers value budgeting predictability over flexibility, sticking to a subscription model may better meet their needs.

Tips for success

To successfully implement usage-based billing, keep these best practices in mind:

• Understand your customers: Analyze customer usage patterns to identify critical metrics and set pricing that reflects the value they get.
• Set clear pricing: Develop a clear, flexible pricing structure based on customer-perceived value — including a base rate with incremental fees for additional usage. 
• Invest in the right tech: Use a platform like Orb, a usage-based billing software that is specially designed for usage-based billing models.
• Educate your customers: Clearly explain how pricing operates and how charges are determined by their specific usage. Use different use cases as examples to help customers anticipate their expenses.
• Monitor and adapt: Regularly review your pricing strategy's effectiveness and be proactive in refining rates or introducing new offers to better align with market demands.
• Offer flexible packages and add-ons: Cater to different customer needs. Provide a range of tiered options and additional features for extra fees. 

How to implement usage-based billing

So, now you know what a usage-based billing model is, and — after weighing the pros and cons and getting some insightful tips — you’ve decided that it’s the perfect fit for your SaaS company.

You’re ready to start the implementation process — but doubt sets in and some key questions start to pop up in your head:

“How do I track customer usage accurately?”

“How do I integrate data with my billing system?”

“Will my billing system handle large influxes of data?” 

We get it — finding the answers to these questions on your own can be quite hard.

Fortunately, Orb knows that — though it can be difficult to implement a usage-billing model for your business, it doesn’t need to be like that. 

Orb is a done-for-you solution specifically designed for usage-based billing. It makes every step toward full implementation a breeze — here’s how:

• Integration setup: Upon signing up, Orb's robust APIs and integrations make it easy to ingest usage data tracked by your app or data warehouse. With integrations to S3 and Segment as well as Orb’s REST API, you’ll be up and running in just a few minutes. 
• Custom metrics definition: Orb's flexible metric customization accommodates a wide range of measurable usage patterns. Anything from API calls to storage-used can be easily tracked and billed by Orb in seconds. 
• Pricing plan creation: Whether you opt for per-unit pricing or tiered rates based on usage thresholds, Orb’s Plan Builder feature helps you define intricate pricing strategies tailored to different customer usage patterns with ease — without coding. 
• Automated billing process: Orb automates the entire billing cycle, from usage tracking to invoice generation. This includes calculating fees, applying discounts, and handling billing adjustments.
• Offering transparency: With usage-based billing software like Orb, customers have their own dashboards, providing them with real-time visibility into their usage data and incurred expenses. 
• Reporting and analytics: Orb’s comprehensive reporting tools help you analyze usage trends, billing accuracy, and revenue generation. Key insights for swift decision-making are always readily available. 
• Plan adjustments and updates: Orb enables you to adjust and update pricing plans in response to market demands, customer feedback, or strategic shifts. Its flexible platform allows for quick changes without disrupting the billing process at any point. 

Usage-based billing FAQs

What is usage-based billing architecture?

Usage-based billing architecture is the technical infrastructure that enables usage-based billing. It includes tools for tracking customer usage, calculating charges, generating invoices, and collecting payments.

What are the different types of usage-based pricing?

The main types of usage-based pricing models are: Pay-per-use, tiered pricing, volume-based pricing, diminishing balance, and overage fees.