When it comes to starting a startup, figuring out your revenue model is as important as developing the product itself. A great revenue model that aligns with your customer needs can be an incredible flywheel. On the other hand, a business model that is incongruent with customer needs can lead to the startup’s closure.
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There are several software revenue models to consider, each with its own advantages and disadvantages. In this article, we’ll explore five common software revenue models:
- Licensed-based
- SaaS subscription
- Usage-based
- Performance-based
- Revenue share
Licensed-Based Model:
The licensed-based model involves selling a perpetual license to use the software. Customers pay a one-time, upfront fee to obtain the software and have the right to use it indefinitely. This model can be beneficial for customers who need perpetual access to the software and don’t require ongoing updates or support. Generally speaking, “legacy software” up to the 2000’s followed this model before the advent of cloud-based software.
Examples: Windows and Mac operating systems. Commonly found in software tied with hardware.
SaaS (Software as a Service) Subscription Model:
The SaaS subscription model involves providing software as a service on a subscription basis. Customers pay recurring fees, typically monthly or annually, to access and use the software. This model is popular for cloud-based software and allows customers to access the latest features and updates without having to purchase a new license or download any software. You could onboard a new user very rapidly by accepting a credit card payment and creating a user profile .
This revenue model gained popularity in the 2010’s as startups could purchase “seat” licenses per user and as the startup grew, the costs would scale along with it, so it was very wallet friendly for startups. This was also very beneficial for the software provider because it aligned its growth alongside its customers – as their customers grew, their own business grew with it. Again from the software provider’s perspective, the marginal cost of a new user is essentially zero so every new customer’s gross profit goes straight to the bottom line – no need to print and ship CDs or hire a sales person to walk through an installation process.
Examples: HubSpot, Salesforce; virtually any online software created in the past 15 years.
Usage-Based Model:
The usage-based model charges customers based on their consumption of the software. Customers pay a fee for each unit of usage, such as the number of transactions processed or the amount of data stored. This model is suitable for applications where usage can vary significantly, and it aligns the cost of the software with the value it provides.
Examples: Square’s payment processing, Amazon Web Services. Similar to a “cost plus model” where a vendor puts a markup on the cost of goods they procure. This model is particularly beneficial for companies that have a regular usage pattern and can align its costs with its customers’ usage patterns.
Performance-Based Model:
The performance-based model ties the software’s cost to the customer’s achieved outcomes. Customers pay a fee based on the action delivered by the software. This model is suitable for software that can provide measurable results, and it incentivizes the software provider to deliver a high-performing product.
Examples: Google Adwords, Facebooks Ads, Thumbtack. Superior business model for an “auction” system where the customer’s perceived value can be fully captured by the vendor (i.e., buyers bid up to their full margin profit). As a vendor, you’re being paid for what the customer deems satisfactory performance.
Revenue Share Model:
The revenue share model involves partnering with other businesses and sharing a portion of the revenue generated by the software. This model can be beneficial for software providers who want to leverage the reach and customer base of their partners. Excellent business model for marketplaces where buyers and sellers are brought together.
Examples: eBay, Amazon. Commonly found on eCommerce platforms.
Stepmark Partners 