Clouded Judgement 5.1.26 - The Death of Per-Seat Pricing?
Every week I’ll provide updates on the latest trends in cloud software companies. Follow along to stay up to date!
The Death of Per-Seat Pricing?
All three Hyperscalers (Amazon, Google, Microsoft) reported earnings this week.
There was one quote from this earnings cycle that I think will get a lot less attention than it deserves. It came from Satya:
“The basic transformation of any per-user business of ours - whether it is productivity, coding, or security - will become a per-user and usage business. That is the best way to think about it.”
Big statement! The per-seat licensing model is the foundation that the entire modern SaaS industry was built on. It’s how so many IT budgets are structured. It’s how every renewal conversation goes. It’s how every comp plan is designed. Did Microsoft just say the seat is dying? Or at least, being repurposed? This isn’t the first time I’ve written about this topic...Nearly 2 years ago I wrote a similarly titled article, “Is seat based pricing dead“?
Amy Hood went further. She framed the new model as “a licensed business plus a consumption business applied far more broadly than I think people have thought about.” And later, Satya put a really nice frame on it - “the seat-based pricing is just entitlement to some consumption…there are some base usage rights that get bundled in or packaged into seats.” Said another way - the seat remains, but it becomes a packaging mechanism for prepaid consumption. Beyond a certain level, you’re paying per token, per agent action, per outcome.
They also announced a larger pricing change of their own! They moved GitHub Copilot to a usage-based model effective June 1. ~60% of their Dynamics 365 customer service customers are already buying usage-based credits. The Copilot credit-consumption offer was up nearly 2x QoQ. They’re already living in the new model.
There’s actually a tell buried in the bookings line. Hood called out that D365 bookings growth was impacted by weaker renewals “as customers balance spend between the traditional per-seat and the emerging seats-plus-consumption model.” The transition is already showing up as a drag on a legacy bookings metric. Customers are pausing on their old seat renewals because they’re trying to figure out the new pricing. It’s happening right now.
Why does this matter for founders building software companies?
A few reasons. First - if Microsoft is publicly committing to this shift, every other software company gets some air cover to do the same. The market will tolerate the transition pain because the largest player in the world is wearing the same lumps. If you’ve been afraid to introduce a usage-based component to your SaaS pricing, watching Microsoft go first is permission.
Second - the metric set you’ve been using to evaluate your business will need to change. ARR is a clean metric for a per-seat business. It is a much messier metric for a “per-seat + consumption” business. NRR will likely become more volatile (consumption ebbs and flows). Bookings will be lumpier. The “rule of 40” framework, the public market revenue multiple, the way you set sales quotas - all of it gets harder. Investors are going to have to learn a new language, and it’ll probably take some time to work its way through the system.
Third - the agent economy is fundamentally a consumption economy. An agent doesn’t buy a seat. It does a task. It uses tokens. It calls tools. If you’re building a software company today, and your business model assumes you’re going to charge a flat fee per human user, you’re solving for a world that’s about to get smaller. The world that’s growing is “per outcome, per task, per token.” Get there before you have to. Just about every startup I’ve worked with that went through some sort of seat > usage business model transition regretted not doing it sooner…
The thing I keep coming back to is - Microsoft is the least incentivized of any company in the world to do this. They have the largest installed base of seat-based subscriptions on the planet. Office, Windows, Teams, Dynamics. Every dollar they “convert” from seat to consumption introduces volatility into a model their investors have been comfortable with for two decades. The fact that they’re still leaning into it tells you everything about where they think this is going.
Seat-based pricing is becoming more of a wrapper than a product. The product is the work that gets done.
Quarterly Reports Summary
Top 10 EV / NTM Revenue Multiples
Top 10 Weekly Share Price Movement
Update on Multiples
SaaS businesses are generally valued on a multiple of their revenue - in most cases the projected revenue for the next 12 months. Revenue multiples are a shorthand valuation framework. Given most software companies are not profitable, or not generating meaningful FCF, it’s the only metric to compare the entire industry against. Even a DCF is riddled with long term assumptions. The promise of SaaS is that growth in the early years leads to profits in the mature years. Multiples shown below are calculated by taking the Enterprise Value (market cap + debt - cash) / NTM revenue.
Overall Stats:
Overall Median: 3.2x
Top 5 Median: 18.4x
10Y: 4.4%
Bucketed by Growth. In the buckets below I consider high growth >22% projected NTM growth, mid growth 15%-22% and low growth <15%. I had to adjusted the cut off for “high growth.” If 22% feels a bit arbitrary, it’s because it is…I just picked a cutoff where there were ~10 companies that fit into the high growth bucket so the sample size was more statistically significant
High Growth Median: 10.7x
Mid Growth Median: 5.0x
Low Growth Median: 2.4x
EV / NTM Rev / NTM Growth
The below chart shows the EV / NTM revenue multiple divided by NTM consensus growth expectations. So a company trading at 20x NTM revenue that is projected to grow 100% would be trading at 0.2x. The goal of this graph is to show how relatively cheap / expensive each stock is relative to its growth expectations.
EV / NTM FCF
The line chart shows the median of all companies with a FCF multiple >0x and <100x. I created this subset to show companies where FCF is a relevant valuation metric.
Companies with negative NTM FCF are not listed on the chart
Scatter Plot of EV / NTM Rev Multiple vs NTM Rev Growth
How correlated is growth to valuation multiple?
Operating Metrics
Median NTM growth rate: 13%
Median LTM growth rate: 15%
Median Gross Margin: 76%
Median Operating Margin 0%
Median FCF Margin: 21%
Median Net Retention: 110%
Median CAC Payback: 33 months
Median S&M % Revenue: 35%
Median R&D % Revenue: 23%
Median G&A % Revenue: 15%
Comps Output
Rule of 40 shows rev growth + FCF margin (both LTM and NTM for growth + margins). FCF calculated as Cash Flow from Operations - Capital Expenditures
GM Adjusted Payback is calculated as: (Previous Q S&M) / (Net New ARR in Q x Gross Margin) x 12. It shows the number of months it takes for a SaaS business to pay back its fully burdened CAC on a gross profit basis. Most public companies don’t report net new ARR, so I’m taking an implied ARR metric (quarterly subscription revenue x 4). Net new ARR is simply the ARR of the current quarter, minus the ARR of the previous quarter. Companies that do not disclose subscription rev have been left out of the analysis and are listed as NA.
Sources used in this post include Bloomberg, Pitchbook and company filings
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The D365 bookings drag is the detail that tells the whole story. Customers aren't churning. They're pausing because the pricing model underneath them is shifting and nobody knows what their bill looks like on the other side. That's the transition tax that every company moving from seats to consumption will have to eat, and Microsoft just showed everyone what the receipt looks like.
The part I keep sitting with is the agent problem. An agent doesn't buy a seat. But an agent also doesn't have a budget. A human user generates predictable consumption because humans have predictable work patterns. An agent generates consumption based on whatever it decides needs doing, and right now the cost governance for that is basically nonexistent. Moving to consumption pricing without solving consumption predictability just shifts the forecasting problem from the vendor to the customer.
Honestly the most important sentence in this piece might be the one about every startup regretting not making the transition sooner. That's not pricing advice. That's a warning about the cost of delay when the largest player in your market just gave everyone permission to move.
It seems AI giants have finally recognized the difference between employees paid hourly and employees paid salary. Hourly EEs are paid the same no matter what they produce - just be at a work station. Salaried EEs get paid for what they produce - not the hours they log. Not a new concept.