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Note 83: Billing Pricing Models: Explaining Customer Impacts

Pricing Complexity

Biller’s decisions about how they charge for their products and services result in pricing models that influence a biller’s processing complexity. Most pricing models are common across different businesses and industries and use the business functions of mediation and rating in similar ways. For example, the retail pricing models used for metered water, gas and electricity are similar using tiered and threshold rating of metered commodities along with installation (one-time) and recurring (access) charges.



Billers who design their own pricing algorithms increase the processing (costs) required to calculate prices correctly, make their billing software more complex and difficult to modify, and increase storage costs due to the additional supporting data retained for the more complex processing. For example, a simple pricing model based on the number of local phone calls per month will be cheaper to operate than a model using rates that vary depending on each call’s day-of-week and time-of-day. Each layer of complexity can require the use of additional determinants in transaction rating and / or discounting to determine a charge’s final price.

Pricing complexity is also driven by the size of a biller’s product catalog (i.e. what they sell). Businesses selling one product (e.g. water) have less scope for complexity and may use a single pricing model from all customers, or vary their pricing by market segments (e.g. residential versus commercial). Businesses with more than one product can construct bundles with differentiated pricing based on the specific product mixes and consumption measures offered.

Pricing Models

Flat rate: The simplest approach to pricing applies the same rate to each transaction. This can be a fixed amount for a transaction (e.g. a local call), or a rate per measured unit applied to variable consumption (e.g. metered water). Collection and storage of historical billing data is not required since the correct price can be obtained by applying a rate to the information within each transaction. Billers may choose to apply different rates by customer segment (e.g. residential versus commercial) or for negotiated contracts (large corporate customers).

Bridge tolls are an example of flat rate pricing where the same price is applied per crossing. The price applied may vary by customer segment (e.g. private cars versus taxis) or vehicle type (e.g. car, truck, motorbike), but no other dimension of the bridge ‘consumption’ affects the pricing model.

Flat rate pricing’s linear relationship (‘use more, pay more’ in a constant ratio) provides a point of comparison against alternative models.

Charge more per unit for increased consumption: One alternative to applying the same rate against all consumption is to increase the rate per unit as consumption increases. This can apply a ‘penalty’ or ‘disincentive’ to customers who may otherwise ‘over consume’. This model is often used to reduce customer demand for products and services that are in short or limited supply. Customers will be charged a higher rate than would apply using a flat rate pricing model.

Two examples of increasing rates are provided by water and electricity utilities. In drier climates (e.g. Australia), water is a relatively limited resource that cannot be ‘manufactured’ (easily) to address increased demand. Water utilities use increasing rates to persuade their customers by making it expensive to use large quantities in their homes and gardens. Electricity utilities can use similar reasoning as a disincentive to customer consumption, allowing the construction of new power stations to be deferred.

In the examples above, government regulation may allow / require reduced rates for a quantity of water/electricity representing an ‘average’ household, but charge more for consumption above that average level. This policy ensures community access to a minimum of essential water/electricity whilst charging ‘over’ consumers at a higher rate.

Both tiered and threshold rating algorithms can be used to select the rates applied against higher consumption, but only the tiered algorithm preserves the cheaper rates applied to the earlier (lower) levels of consumption. The threshold algorithm is appropriate when higher consuming customers are to be charged a higher rate against their entire consumption.

Charge less per unit for increased consumption: Rather than penalising consumption, some businesses, such as telecommunications and information providers (e.g. internet- based music stores), actively encourage their customer’s consumption by making purchases less expensive as consumption increases. Each additional unit of consumption is offered at a lower price to encourage higher customer spending. A decreasing rate means customers are charged less than they would be under a flat rate pricing model.

Often these businesses sell a product or service with a high fixed cost to produce (music) or maintain (phone networks), but a low cost to deliver each additional copy (download a song) or support incremental use (phone calls). These businesses cover their costs and generate their profit by encouraging higher utilisation of their assets (e.g. phone network, copyright ownership). Businesses selling information products achieve higher profits / revenues by encouraging higher consumption of products whose reproduction and distribution are close to ‘free’.

This pricing model is not appropriate for all businesses. By encouraging consumption, businesses handling physical goods (e.g. water, electricity) may find their costs increasing even as their profit per unit decreases (or disappears to become a loss).

Subscriptions: Subscriptions provide a much less complex pricing model where a customer’s costs are unaffected by their network use. From the biller’s perspective, subscriptions provide fewer charges to dispute (i.e. customers are subscribed or not) and can be applied in a wide range of circumstances to bill for individual items (e.g. a magazine subscription) or multiple items bundled together (e.g. cable TV channels). Their downside is that the biller’s recurring revenue is capped at the subscription rate multiplied by their installed customer base. From the customer’s perspective, subscriptions provide peace of mind to customers who can be confident about what their (monthly) bill will be regardless of what they do (i.e. ‘all you can eat’) on the provider’s network.

Price Capping: Capped pricing encourages customers to spend by only charging for consumption up to a specified limit. Consumption is measured and priced using a customer’s pricing plan, but once the aggregate of all charges exceeds the pricing plan’s spending limit, the customer is charged no more. For example, a mobile phone company can charge for calls a customer makes within a month until their charges reach a capped total of $99. Within that same month, any additional calls the customer makes (i.e. in excess of the cap) are ‘free’ to the customer. The same approach is used by ISPs that measure and charge for excess data downloads. After the download threshold has been reached the customer is not charged any more (for that month). This may be combined with throttling of the connection’s speed, which can be eliminated for an additional short- term charge, or a higher capacity data plan over the longer term.

Businesses use this model to attract customers who don’t wish to overspend. Customer’s spending is limited by the cap, and if they spend less than the cap they are only charged for their actual consumption. Businesses who implement this approach place an upper limit on their revenue (i.e. cap limit multiplied by the installed customer base), but may attract a larger, higher-spending customer base. This approach forms a hybrid model between charging for all actual use and applying a fixed subscription.

Originally posted by

- 21 May 2014



Links to other Notes

Previous: Using Billing Addresses

Next: Billing Business Practices Implemented Through Pricing


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Recent Posts on purebill.com

» Processing Disputed Charges - Whilst most bills are accurate and accepted by customers, some customers will want to query or contest the charges appearing on their bills.

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» Billing Pricing Models: Explaining Customer Impacts - Biller’s decisions about how they charge for their products and services result in pricing models that influence both a biller’s processing complexity and customers' behaviour.

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Stephen Jones

Stephen Jones is a consultant who has focused specifically on Billing and related processes for over twenty years. Recent work has included relating a major telco's billing with inbound call centre logs for Call Centre Analytics.

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I contributed an essay on testing design assumptions in the O'Reilly book 97 Things Every Software Architect Should Know. This book was written in an 'open source' style with more than four dozen authors. The original essays of the axioms / koans / advice can be viewed on the project's wiki.


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