Recurring Revenue Models: The Enterprise Guide
The world of recurring revenue models (RRMs) can be overwhelming. This guide is about choosing the right model for your enterprise business while sidestepping the billing and data challenges. Read on for six must-know topics below.
Reading time: 7 minutes
Why Consider Recurring Revenue Models
The subscription evolution is well underway. Across every industry, businesses of all sizes are shifting from products to services – and pivoting to recurring revenue models.
So what is a recurring revenue model? It’s simple. Rather than basing your business model on one-time sales, you base it on consumption (or “usage”). For instance, you might start by offering a flat fee for an unlimited, “all-you-can-eat”, subscription model through a monthly recurring revenue (MRR) or annual recurring revenue (ARR), and scale upwards with more elaborate models (more on that later.)
It’s no surprise that even legacy businesses are switching to usage-based models to run their operations. According to the Usage-Based Pricing Playbook, of the nine public companies with the best net dollar retention, seven of them have a usage-based model.
The move feels second nature to new businesses, who tend to have simpler products, and architect their IT from the ground up. But even enterprises, who suffer from complex, rigid and established products – not to mention a messy infrastructure – are preparing to make the shift.
As-a-service models are a win-win. They keep the companies that use them happy thanks to recurring revenue and higher customer lifetime value. And customers love the flexibility and fairness of pay-as-you-go (PAYG) pricing.
In fact, as an enterprise, introducing a recurring revenue model (RRM) can be a minefield.
This blog will help you on what to keep in mind, and guide you to an optimal decision, by tackling the following:
- The myth of product suitability in relation to recurring revenues
- What kind of subscription models you can take advantage of, and how to get creative with hybrid versions
- How RRMs can spike customer lifetime value while lowering costs
- How to calculate key success metrics
- Key revenue challenges to be aware of
- What you need to do in order to grow new accounts and markets
Must-know #1: the truth about which types of products are suitable for recurring revenue models
It’s tempting to think that certain product offerings lend themselves better to reocurring revenue models than others. The D2C world offers good arguments for this. In consumer goods, for instance, usage lends itself more to razor blades than yoga pants (depending on your technique).
But overall, it matters less what your company sells. You might sell software, chemicals, or manufacturing equipment: the important thing is understanding how your customers consume your services.
And that starts with having a firm grip on how and when your customer engages with your product as part of their subscription (the usage data). Only then will you know how your products (or services) are being used, allowing you to bill for them accordingly.
If you’re looking to evolve your business model as a response but aren’t sure where to start, it’s worth thinking about the following examples.
Must-know #2: What subscription models are available to enterprises (and how do they differ)?
In a freemium model, customers give up their email address and basic profile information in exchange for limited access to a product.
Email and CRM platforms, for example, allow limited access to their platform. For small organizations who need very basic use cases, it tends to be sufficient. Meanwhile, larger organizations may sign up in order to use it as a fully functioning trial. Ultimately, the long-term intent of the supplier is to convert these subscribers from freemium to premium status.
With a subscription model, your enterprise needs a reliable process to measure consumption. Because even with an all-you-can-eat model, your customers still want to know how much they’re consuming. (Be warned: these kinds of models can quickly kill revenue if you price incorrectly.)
Say you’re a shipping company. You might introduce a flat-fee subscription tier suited to small businesses who are only likely to send a certain number of items annually. Once customers grow beyond a certain size, or are likely to exceed that flat-fee threshold, a more granular usage-based pricing model would be more suited.
Usage-based pricing and PAYG (Pay-as-you-go)
Adoption of PAYG and usage-based pricing models require you to be able to collect and process any type of data from any type of system in real time – and bill for it automatically. There are huge rewards to be gained but be warned: most current revenue systems aren’t designed to accommodate this shift, or cope with the amount of data that floods your billing systems.
Usage-based pricing models typically monitor service consumption, despite not being directly associated with a billing event. The end goal for companies that use it is to proactively identify and upsell opportunities for new services or tier upgrades.
Mobile subscriptions are a typical and well-established example of usage-based pricing. Interestingly, these models can include zero-rated application or service access that needs to be accounted for. Another example would be city scooters – where some users activate and deactivate for short distances, while subscribers may use them multiple times daily (generating huge amounts of data in the process).
Pre & Post-Paid – converged
Telco companies are a great example of how pre- and post-paid models work. For the former, a customer will pay their provider up front for a set amount of minutes, text or data (commonly associated with top-ups or bolt-ons). The latter sees customers pay for whatever minutes, texts or data they’ve used in line with their provider’s terms.
Post-paid options tend to be more popular, as customers generally prefer to buy goods at the point of receipt as opposed to the vouchers their service relies on.
In shared-bundle models, you track and bill for usage for two or more parties.
Family subscriptions are a good example, whereby different user accounts translate as a single bill. This type of model can be enhanced with differentiating levels of service, per individual, within the plan. The result ensures that any one of the family members can’t consume all of the service or data allocation in a single billing period.
B2BX Partner ecosystems
Let’s say a phone company sells its capabilities to an enterprise. That enterprise can, in turn, merge those capabilities with its own offerings before selling the end result to its own customers. These customers are the X in the B2B2X, as they can be other businesses (B2B2B) or consumers (B2B2C).
Integrating partners into recurring revenue models opens the door to innovative revenue models. That being said, it also adds an extra layer of complexity, and the need to solve for settlements and payments. Usage must be automatically and transparently tracked so that each party sees its fair share of both costs and revenue.
Which is best for your business?
Whichever model you adopt, what really matters is knowing how many people are using your services – and how they’re using them. Crucially, mastering both of these elements depends on your ability to extract, reformat and cleanse the underlying usage data dispersed across your enterprise. If you’re interested, you can also read more about the pros and cons of these pricing models (and some more).
Must know #3: Recurring revenue models can be hybrid
It should be clear by now just how many recurring revenue models you have at your disposal. In fact, research by Poyar and Kalevar shows that SaaS or subscription companies grow fastest when usage-based pricing makes up 1-25% of their revenue, in combination with established revenue models. With this amount, they grow by 25% YoY – 1.5x higher.
Pricing structures needn’t be singular, either. In fact, playing around with different types positions you to offer customers greater peace of mind.
You might choose to offer a larger discount in exchange for a bigger commitment, or to roll over unused credits should your customers fail to use them in time. Commit now, pay later and flexible usage drawdown (where the customer chooses between a monthly usage subscription or an annual allotment) represent two further options.
Hybrid models, in which you combine subscription-based products with one-off revenue, prove highly effective. Providing a blend of the above examples lets you cater different subscriptions according to different customer needs. You guarantee recurring revenue and stimulate greater customer loyalty.
That’s where usage-based models excel.
They offer the customer a low-cost barrier to adoption, so there’s less friction. They ensure that the price a customer pays stays aligned with the value they receive. And because they grant more users access to your product within an account, they lower the barrier to entry for new customers. Similarly, usage-based models increase the total addressable market’s gravitational pull toward you.
Finally, they exploit the total addressable market.
By making your product easier to access…in the face of limitless upside.
Today, even traditional subscription companies are incorporating a usage-element in their pricing…Each use should generate a positive business outcome for customers, as you share in their success. And if this model is a good fit, be sure to pick the right usage metric – take time with this decision and be flexible to change it as you scale.
– Kyle Poyar, Vice President of Growth at OpenView
Must-know #4: Recurring revenue reduces churn rate and boost stickiness
Recurring revenue models are more than just a different way to charge for services. Adopting usage-based pricing actually grows customer loyalty over time.
Because, provided you can automatically process – and monetize – your usage data, you can react to what your customers want. Think about it. By keeping abreast of how their demand changes, you can optimize your services and offerings accordingly.
When you evolve by adding more interesting offers – and relevant services based on different kinds of usage – you create a better user experience. RRMs open up a feedback loop between both parties. By casting aside one-and-one purchases, suppliers enrich their commitment to customers via a greater number of products and services. The end result sees more inspired, stickier buyer.
Greater transparency also contributes to this arrangement. From a customer perspective, being able to see how you use services, from accessing bills in real-time to being able to scale up (or down) at a moment’s notice further increases stickiness.
And when you can see how those services are being used, you implicitly understand which areas require additional support to deliver greater CX.
Must-know #5: Recurring revenue models go hand in hand with 3 key customer metrics
The ideal platform – designed to track, manage and orchestrate usage data – offers lots of CX-heavy performance insights. But you can always calculate key success metrics to ensure you’re on the right track:
- Customer churn rate
- Customer acquisition cost
- Customer retention rate
How to calculate basic customer churn rate
In subscription, customer churn refers to the number of customers who cancel your service within a certain time frame. You can find out your basic churn rate by dividing the former by the latter (for example, over one financial quarter).
How to calculate customer acquisition cost (CAC)
This is useful to learn how much your organization spends on acquiring new customers, and by extension, how efficient your recurring revenue models are. To find out your CAC, you divide your total cost of sales and marketing by the number of customers you acquire within a specific time period.
How to calculate average customer retention rate (CRR)
If your recurring revenue model – or models – are working, your customers will be less likely to churn. But it’s worth knowing how to establish the rate at which you keep them over time. To calculate your CRR, you need to first know how many customers you have at the end of a specific time frame. You can then subtract the number of new customers you’ve brought in over that time. Using the number you’re left with, you divide it by the number of customers you had at the beginning of this period, then multiply it by one hundred.
Must know #6: Revenue leakage is a major challenge for recurring revenue business models
Recurring revenue models present unique challenges. Because it doesn’t matter how well your enterprise plans for the future – or how much you plan to scale. It’s a fundamental shift in how your organization generates, tracks and processes revenue. These challenges touch multiple core functions and processes – from product design to billing. Without the right platform in place, your billing systems will struggle to cope.
Recurring revenue is, at its core, a data challenge. Paralysis-by-volume can overwhelm enterprises that let growth obscure the data challenge. Incorrectly processed data. Lost data. Error-strewn data: All represent a steady stream of revenue leakage. One of the most costly consequences is also the most simple. What happens when customers use more than they pay for?
It’s a serious – and common – issue. In fact, MGI Research* found out that organizations lose between 3 and 7 percent of their topline revenue to it.
Only with a real time-data layer that talks to everything in your revenue system can you avoid revenue leakage. When you see how your products are being used – in real time – you can better forecast your cash flow and bill more accurately.
Slow invoicing processes, another victim of sluggish, manual operations, also hinder accurate forecasts. But this too can be resolved with an automated platform in place. Here’s how Digital Route’s Usage Data Platform can help enterprises like yours to speed up the process by as much as 80 percent*.
Recurring revenue models offer serious potential for enterprises. But getting started with all they entail – like processing vast amounts of usage data in real time, binding that data to specific customers and contracts, and targeting new customer segments quicker – proves tricky without the right technology. You need the ability to capture raw data from all available sources and transform it into billable information.
Depending on the complexity of the data you collect, there are different types of tools you could use, from ETL tools to iPaaS, homegrown, or even your recurring billing software itself. But the more complex the data, the more you should consider a purpose-built software.
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