Previously, we have talked about the rising trend of the subscription economy as several businesses look to earn recurring revenue. A growing number of entities in sectors ranging from Airlines, automotive, gaming, education, and in-home fitness, among others, have started introducing subscription services in the past few years.
However, according to recent reports (1), many of these firms, while shifting to a subscription-based business model, realized that they had not taken some necessary foundational steps to ensure a successful transition.
While subscriptions scale more efficiently, enhance user experience, and hold the promise of predictable and recurring revenue streams, which can be a pretty enticing prospect for any company, conventional organizations accustomed to pay-as-you-go models may assume transitioning to a subscription model is only a sales issue. However, they are wrong.
They need to be aware that the model is more than putting a monthly, quarterly, or annual price tag on their products or services. Companies can’t layer a subscription model on top of their existing business. Before making the shift, they need to
- change their entire operation structure
- onboard al stakeholders
- redesign their strategies
- build a subscription culture
With that being said, companies first need to address their core issues, make holistic strategies before switching to a recurring revenue model.
First, let’s understand what a subscription-based revenue model is.
What is a Subscription-based Business Model?
Flexible pay-per-use models like consumption are also a kind of subscription business model. Subscriptions are recurring revenue models, where users regularly pay, often monthly or annually, for ongoing access to your offerings. Think Amazon Prime, Netflix, Spotify, Salesforce as a benchmark.
All these have one common thing: a customer-first drive. It is because recurring revenue requires recurring relationships with customers (their renewals) to thrive.
There are three main types of subscription models (4).
- Pure Subscription Model: the amount that users need to pay and when it is fixed. For example, a flat-rate monthly subscription charge for Netflix.
- Pure Usage or Consumption Model: In this model, the revenue is variable. The amount users pay and when is according to their use. For example, services like Ola or Uber.
- Hybrid Model: In this case, businesses offer a combo of subscription and usage options to consumers so that their revenue has both variable and fixed elements. For example, our telecom subscriptions with flat-rate monthly bills plus extra for additional internet usage or mobile phone minutes.
Shifting your conventional business into a subscription business needs a huge transition from a product focus to a consumer focus, with a commitment to offering real solutions.
But, how can you transform the very core of your business?
First, Assess Your Existing Business
Businesses are shifting to subscription-based business models for several persuasive reasons, like fulfilling consumer expectations, disrupting competitors, and improving financial performance (8). But, of course, the speed with which you make a transition is critical if your competitors are already making a shift. Hence, it is time to start now. And you can start by looking at your existing business first.
Businesses should rely on their marketing, sales, and product development functions to stay trendy, so the company can plan before reacting to its competitors. For instance, sales companies may find a demand for a subscription type of service from your consumers instead of a one-time buy. It should help you nail down what services or products to roll out or transition from your present offerings.
For some industries, the value proposition of shifting to a subscription-based model may allow consumers to keep up with upgrades in a more timely matter and spread their cash outlays out over a longer period. Instead, the company can introduce incremental upgrades to mirror the buying behavior of a subscription model.
Your competitive landscape
Know to what extent your subscription offering is complementary to your present sales channel, as another way to get consumers, instead of replacing that channel. Put it in the context of whether you are presently gaining or losing new market share. Whether you are entering new markets and if you are acting as the disrupter.
Modeling pricing scenes to keep or increase profitability
The nature of the transition to subscription pricing means that your consumers can quickly change their minds. When you know the assumptions that drive the adoption rate for the new offerings, you can use forecasts to predict consumer conversions from upfront purchases to subscriptions. Via forecasting, you can also understand your road map and the corresponding impacts of your bottom line in the long and short term.
Getting stakeholders on board
It includes your employees, investors, directors, and external groups. Analysts especially need to be on board before you make the shift happen because it impacts your revenue. You can face a transition point where your revenue will look like it is dropping since you are no longer charging a higher one-time purchase price.
Pricing and Bundling Your Offerings
If you start the journey and have a traditional product offering, you don’t have a reference base for pricing. Yet, it is among the crucial areas; assessing how to best price and bundle your offerings or break apart bundles for more flexibility.
You can start by analyzing your previous sales data and competitor data. Then, you can scrutinize cost-plus profitability, product elasticity, and the economic buying intentions of your consumers. With the information, you should be able to develop a suite of offerings (9).
Customer value proposition and experience for the shift
Strategic communication is paramount to success, especially when it comes to business model change. Consumers can quickly become defensive if the move appears to be an attempt to extract more money from them. They won’t adapt to a new model without an apparent differentiating value in a subscription.
Your launch strategy
You need to calibrate your marketing and sales with operations and the supply chain to deliver the new offerings the right way.
Changes in contract obligations
A shift from selling products to offering them to enable a service needs a new look at terms and agreements, warranties, refunds, and other contact details.
Changes in your sales department
Conventionally, companies have salespeople aligned to a market or account who have an overlay of some offers. Separately, in the back office, there are consulting or maintenance revenue streams, for instance. However, in a subscription model, they are usually combined into one section, as your offering is no longer selling a product but delivering a service.
There would also be an impact on compensation: sales team metrics would shift away from bookings or deals closed, and it would move towards the volume of usage, churn rate, number of users, the total time they spend, or annual contract value, for instance (10).
ERP, enterprise resource planning systems were initially designed years ago. As a result, some of them seem more like time capsules of businesses used to work, customers purchasing products, and shipping. As the world has evolved into a service economy, ERP systems have also evolved to pick up different capacities of billing and fulfillment. However, such systems are often costly and cumbersome to design and execute.
In a subscription-based model, the pain point of an outdated system can manifold itself in frustrating ways. For instance, if your ERP system is set up purely to intake one-time new orders, your team will need to repeatedly input “new” orders for the existing service agreement to generate monthly or yearly billing.
However, when a business customizes its solutions atop an outdated ERP system, it becomes difficult for the staff to maintain it on a go-forward basis. Thankfully, there are new software solutions available in the market, specifically for subscription models.
Contemplate what new technology processes and tools you require for your new business model (11).
The need for CPQ, Configure Price Quote or CRM, Customer Relationship Management platforms
With a CPQ system, your customers can select components, for example, to create a computer that they want and get a quote based on those selections. In addition, it means you will not need to rekey such information for order fulfillment with a manual process.
However, when your CPQ system isn’t connected with your EPR system, there would be a misalignment between what your customers believed they ordered and how you deliver them or invoice them.
The billing system you need
In most industries, conventional billing systems are not equipped to count or factor optionality. Consider your metering, whether a number of transactions processed or pages printed, and see how it requires fitting into your billing system.
A system that supports multiple sales channels
As customers can go online and make changes for their accounts as they require, B2C has a greater change velocity. However, the mechanics of billing, usually via a credit card, is pretty straightforward. For B2B, there are a small number of changes, but the payment processing is more complex.
Businesses want invoices, sometimes even thousands of them for individual stores or a consolidated invoice. They may also need your invoice structured in a certain way, as for country-wise tax or language requirements.
Automate as much as possible
Less manual work means your team will have more time for insight, analysis, and business engagement. For instance, you can implement revenue recognition software to standardize data collection and report business processes.
However, if standard software is not available, go for data quality and build a focused team aligned with IT to bolster data collection and reporting.
As per a 2019 research from CFO Magazine (12), 48% of subscription-based businesses struggle to meet accounting and reporting challenges. One potential reason could be that today’s order-to-cash process focuses on a standard set of offerings and not on-demand products and services and configurations.
A recurring revenue model has ripple effects across your team, your process, your location and technology, where you deliver your services, your “finance niche.”
You require systems to consolidate your quotes with the services ultimately offered and the invoices produced for customer service and accounting implications for getting it wrong. People handling your finance need an entirely new mindset and must understand new processes for an increase in collections and billing as the time period recur.
Supporting regulatory reporting needs and establishing month-end close procedures in line with revenue recognition policies is a priority. Set a near-term solution for keeping accounting fundamentals with a technology solution or additional personnel.
Changes to associated accounting
You need to track usage and confirm that those metrics align with your finance function to ensure an accurate report. In addition, agreement changes may be accounted for as new contracts, retroactive adjustments, prospective adjustments, or a combo of both. As a result, you may trigger different revenue recognition accounting needs under your new setup.
Prepare for an increased volume with more frequent billing
Under a subscription model, you will be billing more frequently, with customers able to change their services. And if your procedure has a considerable manual process, then scalability will become your key concern. Be ready for a bigger team.
Prepare for the impacts on the working capital
Instead of making 1 million USD via one-time up-front sales, generally, under the new model, you will make that amount over five years. As noted, your analysts need to be mindful of the modifications and the long-term strategy.
Revenue accounting engine that can handle complexities
Worldwide, everyone accounts for revenue almost the same way, based on what they deliver to their customers. You may bill your customer on the day they sign for their subscription; however, you earn only as the service is delivered.
It means that your revenue is segregated from billing, unlike in a conventional point-of-sale system. As a result, when your customer is paying and what you are earning is different daily, whether that is because of the number of days in a month or because the customer signed up in the middle of the month.
You would need more manual steps in the suboptimal system to get the accounting right, increasing the risk of getting it wrong.
The need for upskilling or new talent
Start finding and hiring for more cross-functional skillsets, like mindset flexibility, data/analytics aptitude, collaboration, and communication. Find new finance analysts with these skills with established IT professionals to collaborate business knowledge with technical acumen.
Support redeployment of finance individuals across roles. Create a long-term talent strategy that results in more collaborative, customer-facing teams (16).
Lastly, Structuring Subscription-Selling Strategy
Your process structure for subscription-selling strategy starts with your contract orchestration: your offer of various service elements to the customer, how they are priced and bundled. Then, the customers’ orders were sent for order processing and fulfilled via shipments and provisioning for a single purchase.
You can set up projects to manage certain offerings over time and the systems and allocate resources to take care of the commitment. On the other hand, for a subscription service, you need to send the contract via subscription management to address all subscription line items on order, such as certain channels in a cable-tv package. Entitlement and provisioning offer access to the services that your customers ordered, while consumption tracks any usage that is billed based on what they use.
Revenue contracts gear potential complexities from selling new services with conventional products. For instance, free six-month promotion for a new offering sold with a conventional product may result in revenue allocations among these performance obligations and differences in when revenue is complied with and earned on the agreement.
Customer changes to their agreements may also impact revenue allocations and patterns, notwithstanding the billing activity. The capability to have the scale to account for these situations while keeping the close financial schedule may need more automation of the revenue accounting function; management reporting and forecasting rely on performing the revenue accounting as sufficient. A front-end deal assessment procedure helps prevent sudden critical deviation from keeping revenue accounting neat.
Another benefit is that as a subscription service provider, you can capture more information from customers than you could via one-time sales: their upgrades and downgrades, consumption patterns, their choices. With more sophisticated analytics capabilities, you can put these insights to refine your customer experience and identify usage trends and improvement areas.
Undoubtedly, subscription models are tricky, but they are also strong value propositions that cater to the needs of a broader consumer base. Moreover, it powerfully disrupts markets in your favor while offering a consistent revenue stream (17).
Consumers enjoy the flexibility of only paying for things they want and whirling to other services swiftly as they see fit. Finding their needs, offering subscription products and services to cater to those requirements, and allowing sales and marketing teams to bring those offerings to market effectively will look different for the industry.
First, however, your technology, procedures, and team must be in line to prevent any revenue leakage, disruption in services, and accounting challenges on the back end. Then, with a carefully structured plan, you can strengthen your customer relationship while appealing to different spaces, disrupt your competitors, and gain recurring revenue.