Summary
Spend commitments offer a flexible billing model for SaaS and cloud providers, allowing customers to secure discounted rates by agreeing to a minimum spend over a defined period. This approach is ideal for high-volume users uncertain about their exact product consumption patterns. Understanding how these commitments are billed monthly, including calculating current spend and tracking balances, is crucial. If the agreed-upon spend isn’t met by the period’s end, a true-up payment may be required.
Key Takeaways
- Spend commitments provide discounted rates for customers who agree to a minimum spend, offering flexibility in product consumption.
- Billing for spend commitments involves a three-step process: calculating current monthly spend, tracking the commitment balance, and performing a true-up calculation.
- Not all products or services may be eligible for inclusion in the spend commitment total, such as professional services.
- A “true-up” payment is required if a customer fails to meet their committed spend by the end of the contract period.
- Effective spend commitment tracking requires accurate calculation of eligible monthly usage and continuous monitoring of the remaining obligation.
What are Spend Commitments for Usage-Based Pricing?
Spend commitments are useful in scenarios where a customer expects to spend a high dollar amount with a SaaS or cloud provider, but is not sure exactly which products they will consume and when they will consume them. With a spend commitment, the customer agrees to purchase a certain dollar amount within a single quarter or year in exchange for a discounted rate on the services. If the customer does not satisfy the spend obligation during the contracted time period, there may be a “true-up” payment required to settle the balance.
- Current Month Spend – The engine will calculate the current month’s spend.
- Balance Accounting – The rating engine will determine the opening balance for the spend commitment. In other words, it will calculate how much has the customer spent so far and what is the remaining obligation.
- True Up Calculation – If the current month is the last one in the commitment period, the rating engine will determine if the customer has satisfied the obligation. If the actual spend levels did not reach the commitment, a true up invoice will be generated.
Let’s review the process for how the rating engine computes charges for spend commitments in more detail with examples.
Step 1
Calculate Current Month Spend
First, the rating engine will calculate the monthly spend for the customer during the period. The billable quantity of each product and the applicable price will need to be determined for each product. Price and quantity are then multiplied to arrive at a sub-total for each product. The sub-totals are then summed up to arrive at a total, actual monthly spend.
Note: In some cases, certain products may be ineligible to be included in the monthly spend totals. These ineligible product should be subtracted from the monthly spend total.
Suppose, for example, that a customer has three products:
- Product A – Cloud-based service with usage-based pricing
- Product B – Professional services fees billed for time and materials
- Product C – Cloud-based service with flat fee, subscription pricing
For the latest month (March), the actual monthly spend for each of the products is
- Product A = 1,000 units x $2/unit = $2,000
- Product B = 20 hours x $200/hour = $4,000
- Product C = $1,000 per month
- Total Spend = $2,000 + $4,000 + $1,000 = $7,000
Only recurring revenue products are eligible for the spend commitment. As a result, the professional services revenue will be subtracted from the total:
Eligible Spend = $7,000 – $4,000 = $3,000
Step 2
Tracking Spend Commitment Balance
Next, the rating engine will need to calculate how much the customer has spent so far against the contract obligation. In other words, as of the end of the last billing period, how much has the customer spent in the prior months of the contract term? The rating engine will then use a simple subtraction operation to determine how additional spend is required to satisfy the contract obligations:
Total spend commitment – Spend for months 1 through last month = Remaining spend obligations.
The remaining spend obligations will then be updated by subtracting the current month’s eligible spend (as calculated in step one above).
Continuing the example from above, suppose that the customer signed up for a quarterly spend commitment of $25,000 for the year starting in January. As of the end of last month (February), the total spend was $15,000.
- Quarterly Spend Commitment = $25,000
- Spend as of End of Last Period = $15,000
- Remaining Spend Obligations = $10,000
If we add the current monthly spend (for March) the $3,000 to the total cumulative spend to date in the quarter, we get an updated balance (remaining spend obligations) of $7,000.
- Current Month Eligible Spend = $3,000
- Updated Total Spend = $18,000
- Updated Remaining Spend Obligations = $7,000
Step 3
True Up Calculation
If the current month is the last month in the spend commitment window, then the rating engine will need to determine if the customer has satisfied their obligations. If the total spent commitment was not satisfied then a true-up payment may be owed.
Continuing the example from above – The customer signed up for a quarterly spend commitment from the period of January 1 through March 31st. Since the current month, March, is the last month in the period the rating engine needs to calculate if a true up is owed and what the amount is. The relevant calculations from above:
- Quarterly Spend Commitment = $25,000
- Spend as of End of Period = $18,000
- Remaining Spend Obligations = $7,000
The customer only spent $18,000 against an obligation of $25,000. The spend commitment was not satisfied and therefore the customer owes a true up payment for the difference of $7,000.
Conclusion
Effectively managing usage-based spend commitments is vital for both providers and customers, ensuring transparent billing and predictable revenue. The core process involves meticulously calculating monthly eligible spend, consistently tracking the cumulative balance, and accurately performing true-up calculations at the close of the commitment period. Mastering these steps ensures that discounted rates are applied correctly and any unmet obligations are reconciled efficiently, fostering strong, clear financial relationships in the usage economy.
Frequently Asked Questions
What is a spend commitment in usage-based pricing?
A spend commitment is an agreement where a customer commits to spending a certain dollar amount with a SaaS or cloud provider over a specific period, typically a quarter or year, in exchange for a discounted service rate. If the customer does not meet this obligation, a “true-up” payment may be required to settle the balance.
How is the current month’s spend calculated for a commitment?
The current month’s spend is calculated by determining the billable quantity and applicable price for each eligible product, multiplying them to get sub-totals, and then summing these sub-totals to arrive at the total actual monthly spend. Note that certain products, like professional services, may be deemed ineligible and subtracted from the total.
What happens if a customer does not meet their spend commitment?
If a customer does not meet their spend obligation by the end of the contracted period, a “true-up” payment will be required to cover the difference between the committed amount and the actual eligible spend. This ensures the provider receives the agreed-upon minimum revenue as stipulated in the contract.
Which products are typically eligible for spend commitments?
Generally, only recurring revenue products, such as cloud-based services with usage-based or flat-fee subscription pricing, are eligible for inclusion in spend commitments. Non-recurring services like professional services fees are usually subtracted from the total eligible spend.
How is the remaining spend commitment balance tracked?
The remaining spend commitment balance is tracked by subtracting the cumulative spend from prior months and the current month’s eligible spend from the total spend commitment. This calculation provides an updated view of the customer’s outstanding obligation toward their contractual agreement.
You May Also Like
Net Revenue Retention for Usage-Based Pricing
Net Revenue Retention for Usage-Based Pricing
Usage-Based Billing for Spend Commitments
Usage-Based Billing for Spend Commitments
Usage-Based Billing for Monthly Minimum Contracts
