Tuesday, August 8, 2023

The Future of Working from Home

At the beginning of the pandemic, I wrote an article titled "The Silver Lining," where I called out the positives in the COVID-19 crisis. One of them was that it forced us to accept work from home as the new normal. It looked like I was right, until the Tech Recession of 2022 rolled in, and more and more companies started to ask their employees to return to the office. Yesterday, even Zoom, the company that revolutionized remote work, has asked its employees to come back to the office. Wow, this is like Microsoft asking employees to use Google Docs on Apple iPads…
Image by Freepik

Yet, there has been a notable amount of resistance, and even though companies tried anything from threats to incentives, most have been struggling to get their people come back. Most skilled job openings - and there are not that many out there right now - are still advertised as remote. So, what’s going on? The debate requires answering three main questions:

1. Why do employers want people back?

Despite all the positive rhetoric throughout the pandemic, working exclusively from home has many benefits but also some major drawbacks. While focused, concentrated work can be very productive at home, collaboration suffers. In a remote-only world, every interaction must be scheduled. That means too many scheduled calls and no unscheduled, impromptu communication.

Similarly, brainstorming and team creativity are impacted. On Zoom, it’s very difficult to jump in, especially for the introverts. The highest-ranking person typically dominates the conversation and others are often struggling to speak up. Most employees’ inherent politeness makes them listeners, rather than participants, and multi-tasking is too easy!

Finally, in a company where many employees have been hired remotely and hardly ever met any of their co-workers in-person, the company culture suffers. Where we used to develop interpersonal relationships and trust, we replaced it with reports, dashboards, and checklists. That leads to a culture of mistrust because people simply don’t know each other well enough. What used to be an on-going communication and constructive collaboration between employees and their managers has often deteriorated into a weekly performance review. 

2. Why do employees not want to come back? 

It’s not a surprise that most employees love working from home. Most quoted reasons include no commute and better work-life balance. Absolutely, not spending two hours a day in a car or on a train improves anyone’s day. Similarly, working from home makes it easy to sign for a delivery, let the plumber in, walk the dog between calls, or pick up the kids from school. These things were a major headache before, and they must be recognized as major, major pro arguments for working from home.

There are other reasons why people are dreading to come back. One of them is the modern office itself. After decades of workspace optimization, it has evolved from a closed-door office to a cubicle farm, to be later transformed into an open-plan office and eventually into hotel desks, which is basically any free desk you are lucky to grab for the day, hoping you will be close enough to the people you work with.

While these open designs supposedly foster communication, most employees absolutely hate the lack of privacy and personalization. They end up hiding out in conference rooms to get any work done, an approach usually spearheaded by the executives who ceremoniously have an open-plan desk but really spend the entire day in a private conference room.

There have been people working remotely even before the pandemic. That already meant that every meeting included a conference call. Now, it’s just more likely that you will be in the conference room all by yourself while everyone else is remotely on Zoom. It’s very frustrating to come to the office only to spend the day alone on Zoom. That’s the present reality unless we find a way to get everyone come in. 

Funny enough, the people most often working from home part-time prior to the pandemic were the executives. A recent McKinsey research shows that they continue to be the holdouts against full-time office work. Unless they lead by example and start showing up in the office every day and for the entire day, they shouldn’t expect their underlings to do so. A company culture is defined from the top.

Finally, there is the lack of travel. In the old days, employees used to frequently travel to visit their colleagues in other offices. Not just the CEO and CRO, who are still doing it today. Many employees did that. Certainly, every director and above. Those trips involved taking co-workers out to lunch or dinner. Building relationships was part of the job and sometimes we complained about too much travel. Today, those budgets have been slashed (and re-directed to Zoom and Slack) and people don’t travel. That’s the reason we got Zoom, right?

3. What will happen next?

It’s becoming clear that hybrid work is the way of the future. Coming to the office once a week offers the opportunity to collaborate and build relationships. Working from home 3-4 days a week preserves some of the focused work time and the benefits of working from home. The right balance is to be determined, but hybrid work looks like the right solution.

That still raises some interesting questions. What do we do with people who live too far for coming in once a week? Will companies force them to move or quit? Will they get budget to travel to the office once a week? Not likely.

Will companies go back to more private and personalized workplaces to entice employees to come in more often? Will the executives and managers lead by example? I wouldn’t count on that.

How will we best coordinate the employees to come to the office and meet the right people there? It’s pointless coming in and spending the day alone on Zoom calls. Perhaps there is a new software opportunity in here - we need a way to coordinate our presence.

Finally, what will happen to the offices? Most companies are not using anywhere near the capacity they are renting and cutting it down by 50% or more makes a lot of economic sense. What will happen to all that vacant office space. Commercial real estate is going to be a tumultuous market for a while.

The pandemic has disrupted the world in many ways. In the workplace, things are not going to stay the way they were for the last three years. But we are not going back to where we were before either. Figuring out the right way to tackle the physical workplace will take some experimenting and tweaking. I'm hopeful that we will figure it out!

Monday, July 31, 2023

Is Usage Pricing Right for You?

There is currently a lot of buzz around usage-based pricing (also known as consumption pricing), particularly in the SaaS industry. This heightened interest has been largely fueled by the remarkable success of companies like AWS, Snowflake, and Stripe, which have thrived using this pricing model. As a result, many SaaS companies – and their investors - now view usage-based pricing as a key factor for achieving success in the market. 

However, it's essential to recognize that while usage-based pricing has proven highly effective for certain businesses, it may not be the optimal choice for all. Some companies may find greater success with a fixed-price subscription model, while others might benefit from a combination of both usage and recurring pricing options. In some cases, the pricing model may not significantly impact the overall performance of the business. An example when we compare Apple TV, which charges per movie (usage pricing), and Netflix, which employs a flat monthly fee (subscription pricing). Both companies have achieved considerable success despite adopting different pricing strategies.  

Examining trends in various industries sheds further light on the matter. For instance, the telecommunications sector has transitioned from usage-based pricing to flat fee models. Remember the days when phone bills were determined by the number of minutes called? Of course, they still use usage pricing in many areas, such as international calls but such calls are now more and more conducted via much cheaper online video calling. For telcos, usage pricing is not the future, it’s the past. And if anyone has a black belt in pricing, it’s the telcos! 

Still, many SaaS companies continue to explore the potential of usage pricing. The allure of this approach lies in its ability to directly align value with costs, potentially appealing to customers and vendors alike. So, let’s look at various factors to consider before deciding to go all AWS with your pricing: 

1. Does usage align with the value delivered? 

AWS employs usage pricing out of necessity. Their services cater to application developers, each with a unique use case offering different value while representing different workload on AWS. Given the diverse range of applications and their varying reliance on different AWS services, the company has no choice but counting tasks, jobs, containers, gigabytes, and API calls to accurately measure usage and bill accordingly. That’s common to many infrastructure software companies, including Snowflake and Stripe1. 

For software designed as a business application, it’s usually easier to tie pricing to the delivered business value and the most common metric for a business is the number of employees (users). The most notorious example of this approach is Salesforce, the godfather of SaaS, which successfully employs user count as its primary metric. For other companies, metrics such as the count of vehicles or number of sites may be suitable, depending on the software's functionality. If this metric aligns with the value the software delivers, businesses can implement a flat monthly price, charging for each unit regardless of usage frequency. There is a lot to like about that! 

Some business applications have the option to adopt usage-based metrics like the number of contracts, invoices, miles driven, or revenue under management for their pricing models. In some scenarios, that kind of pricing may better align with the value they deliver for every customer. Before jumping into usage-based pricing, figure out the metric that best aligns with your value and structure the pricing accordingly.  

2. Do you like the predictability of recurring revenue? 

One of the main reasons companies prefer the flat subscription model is its predictability. CFOs appreciate the reliability of recurring revenue because it keeps coming in quarter after quarter, as long as you keep your churn rates under control. The recurring models were the big winners of the pandemic, as the subscribers – consumers and businesses alike – remained loyal to their subscriptions even through the times of economic uncertainty. 

The problem with usage-based pricing models is that they are not recurring. When customers consume, they pay you, and all is great. When usage slows, your revenue dwindles. Take Uber as an example, a company that purely charges based on usage. As the picture shows, their quarterly revenue is quite bumpy: up and down with consumption. 

Compare that to Netflix with its flat recurring subscription model during the same time period, and you get the idea. 

Now, some usage is more predictable than others. Storage, as measured by gigabytes or terabytes consumed, will be less volatile than transactions. Storage is cumulative; it never goes down. Even in tough times, customers generate data, and they are unlikely to delete any. Storage is a metric that effectively only goes up; sometimes faster and sometimes slower, but it always keeps growing. That’s why usage works so well for companies like Snowflake. On the other hand, other types of usage such as transactions, miles, or contracts can fluctuate dramatically.

3. How do your customers budget? 

Nobody likes a surprise bill. Your energy bill probably stays within a certain range every month, but when you receive a higher than usual bill, you take notice – and you are unhappy. Customers appreciate predictable spending, and a consumption model works well only if it is predictable. Unpredictable consumption fees are only acceptable if they are negligible, and the customer doesn't bother to care about the amount.  

This aspect is particularly relevant when selling enterprise technology. Enterprises have budgets set for the year and any significant overspending or underspending can be challenging, especially for your champion within the account. That's where the predictability of the flat fee model shines. When dealing with a usage model, enterprise customers prefer to lock in a committed amount of usage at a predictable cost to budget for it. That helps the budgeting, but this type of drawdown model adds a significant amount of billing complexity and frequently leads to customer satisfaction issues when they run into overages. 

If you have an enterprise product, consider how your pricing will fit the customers' budgeting process. 

4. Do your customers see the value in usage pricing? 

Usage pricing sounds like a very fair model, where the customer pays for what has been used. It seems to work quite well for many consumer applications, especially where the metric reflects two key factors: 

1. The perceived value the offering delivers 

2. The perceived cost  

A good example is the pricing for Uber, which is primarily based on the distance traveled. The value perception is obvious – it's more valuable to travel 50 miles than to travel 5 miles. Moreover, most consumers understand that Uber’s cost is based on the cost of fuel, the vehicle depreciation, and the driver’s time. Charging for mileage is a reasonable proxy for all that.  

However, it is a little more difficult to justify usage pricing in the payments industry, where credit card companies have been pricing based on a percentage of the payment amount. The value seems aligned, but only up to a certain point. After that, the fee becomes too large. A 3% fee on a $10,000 payment is $300, and at that point, you may prefer to be paid by a check or debit. That’s why we rarely see credit cards used for large amounts. 

On top of that, the cost perception does not add up. The payment amount is just a number in a computer, and the credit card company's cost is the same to process a $10 payment as it is to process a $10,000 payment. That is why the payments industry remains unsettled, with new payment methods (and even currencies) popping up all the time.  

5. Does your usage pricing inhibit usage? 

When you charge for usage, your customers become more aware of their usage behavior. Everything is fine as long as the cost is negligible, but the moment it becomes a budget item, your customers will adjust their behavior to optimize their spending. Enterprises will literarily incentivize their employees to reduce their usage. That is probably not what you want. You want them to use your product a lot, as long as you get compensated for the increased cost that results from increased usage.  

Imagine if Spotify charged users for every song they play. Some customers would just play fewer songs or dust off the radio while others might find ways to circumvent the limitations. That is not the behavior you would want, and this is precisely why the Spotify flat fee model became so successful - and completely disrupted the music industry. 

If you want your product to succeed, you need customers to use it. A lot. Your pricing should not stand in the way of adoption. That means that it needs to be either: 

1. Negligible compared to the customer's buying power. A $3.99 price to rent a movie is negligible for most Apple TV customers while $19.99 is perhaps too expensive. Or,  

2. Valuable compared to the alternative. Uber's usage charges may not be negligible, but they are quite valuable when compared to the cost of a traditional taxi or limousine services. 

Usage pricing can lower the barrier to adoption for new customers, as it allows them to try the product without committing to a fixed fee. However, as their usage grows, so do the charges. If your pricing isn't comparatively valuable and/or negligible, it may discourage usage. When implementing usage pricing, it is crucial to ensure that the pricing structure encourages customers to adopt and use the product. 

6. Can you measure the usage? 

If you charge customers based on a usage metric, they will want to be able to validate the accuracy of your metering. When you get a higher than usual phone bill, you want to see what caused the spike. Similarly, if your pricing is based on a percentage of transaction amount (e.g., payments, billing, invoicing), customers will want to compare your charge with their books. If those numbers do not match, they will start asking difficult questions. 

To accurately meter the usage and handle customers' questions, you will need to build the right instrumentation into your product. Adding such instrumentation is not trivial – we are talking about productized code that provides accurate counters and can be exposed to your customers via a self-service portal. That logic needs to be secure, auditable, and maintained just like any other product functionality. And unlike other product features, you probably won't be able to charge for this one. 

More importantly, you will need to deal with customer service scenarios such as credits, refunds, errors, disputes, promotions, proration, service freezes, vacation holds, etc. Those capabilities need to be built, and your customer service team will need to be large enough to handle any such inquiries. Deploying usage pricing comes at a cost. Counting users is much easier. 

7. Are you ready for variable considerations? 

Recurring revenue models come with a fair amount of accounting complexity – from quoting to billing to revenue recognition. Quoting becomes challenging for the Sales teams as they must help customers estimate their usage and spending commitments. Revenue recognition is pretty complex for your accounting team even with the flat subscription model. In the simplest form, you may be billing your subscribers annually upfront, but you can only recognize 1/12th of the revenue after each month upon service delivery. 

Usage pricing can require much more complex accounting. It may force you to adopt variable considerations, which will add significant accounting complexity, especially when there is a fair amount of fluctuation in usage between each revenue period. Your auditor may require you to estimate your revenue in advance of each period and then reconcile it with actual revenue. This accounting complexity will add additional pressure and cost on your accounting team. 

8. Have you considered a mixed model? 

Do you really want to adopt usage pricing? Obviously, it is the right model for many products, and for some, it may be the only feasible model. All the points mentioned above are not intended to discourage you from doing the right thing. However, there are many factors to consider before embarking on that journey. 

That said, your pricing does not need to be an either-or decision. We see the emergence of mixed models that combine a monthly flat fee with some additional charges to account for usage. For instance, Apple and Disney+ offer access to some of their content for a flat monthly fee, yet they charge a usage premium for premium content, such as new releases. The advantage of such mixed models is more predictability, better value alignment, and hopefully higher revenues. However, it also adds more complexity to the pricing structure and its operationalization. 

There are many possibilities out there. Choose wisely!