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Prepayments in Pricing Models

Traditionally, goods and services are ordered and fulfilled in a sales process. After the order is completed, and the goods or services are delivered, an invoice is sent for payment.

However, an alternate process, prevalent in certain business categories involves a partial or complete payment before the goods or services are provided – this is what we refer to as a prepayment. Many businesses also adopt prepayment-based pricing models because of the inherent benefit of increased cash flows.

Prepayments exist in pricing models ranging from Deposit, Gift Cards, Revenue Blocks, Enterprise License Agreements, Minimum Commitments, Affinity programs, Corporate/Subsidiary Pricing Commitments, etc. At the heart of these pricing models is a credit balance functionality – in other words, a balance with prepayments. 

Let’s look at Gift Cards. It’s a ubiquitous consumer concept, but let’s examine this example to explain key concepts that you need to consider when exploring pricing with a prepayment.

The Gift Card is an instrument that stores value that can be exchanged for goods and services.

  • Balance: This is the available amount used to buy goods and services. Customers can prepay and add to the balance, or companies can add to the balance with promotions or goodwill credits. Either way, the customer controls the balance to buy goods and services.

  • Expiration: The gift card can be valid for a set time period (30 days, a year, etc.). There might be no expiration date or even a rolling expiration date that changes when the card is used.

  • Funding Amount: Companies will enable the purchaser to choose how much to fund the gift card, or they may have pre-defined amounts. When Gift Cards are purchased, this is often the prepayment amount.

  • Using the balance: Customers can use the balance to pay for goods and services. More specifically, they can use the balance to pay for a subset of products, like the Apple iTunes gift card. They can also use the balance like cash and pay for all purchases, like an Apple Store gift card. The key is that the balance may have limitations about where and how to use it, as defined by the company.

  • Reloading the balance: What happens when your balance runs out? Consumers that buy prepaid mobile phones are often interested in setting up an auto-reload of the balance so that their service is never shut off. Companies may be more incentivized to offer customers a discount to auto-reload rather than have to collect invoices after the balance has been exhausted.

  • Bonus / Discount Pricing: The reality is companies benefit from having cash upfront. Cash flow is a huge win, but the operational pain of invoicing and chasing down payments can be costly and distracting. Therefore, providing incentives for customers to prepay more is often good for both the customer and the company.

  • The “gift” part of the gift card: The power of the gift card is that it also enables separation between who makes the payment and what the customer uses. A friend or a parent may provide funds, and the child can use the funds to pay for goods and services.

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