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Subscription Business Model: A Must-Follow Guide For 2020

Subscription is claimed to be the go-to model for future-focused businesses in various industries - and there are good reasons behind that. Let's go explore!
By Kaley Nguyen | EnvZone Staff
on March 10, 2020 | 10 min read
Image source: Microsoft News

If you have been in the entrepreneurship world for a while, you must have heard about Subscription Business Model. Since its first emergence in the 17th century, this model has been a staple of industries, typically publications, utilities, and, more recently, software.

Nonetheless, just in the past few years, subscriptions have seen a bit of a resurgence. Long gone are the days when the word “subscription” really only referred to newspapers, magazines, and mail-order food and music services! These days, you would be hard-pressed to find an industry that hasn't seen at least one subscription-based success story.

And in such an Internet-ubiquitous world, it’s no wonder why more and more companies are shifting to a subscription business model. Since this model benefits both customers and businesses, it’s a bandwagon you should jump on as well. But before you do, let’s get the scoop on the ins and outs of the subscription business model as well as gather some winning practices to build a successful one for your SMB.

Subscription Business Model: The Basics

Understanding the basics is also a great starting point for your journey success. Go through these questions and figure out your own answers!

What Is A Subscription Business Model?

The subscription-based model is a business model that charges customers a recurring fee — that is processed every week, month, quarter, or year — to access a product or service.

It’s a common misconception that subscription-based services are the new kid on the block - in reality, the subscription business model is as old as sliced bread. The modern concept of subscription services found its roots in the media institution of newspaper delivery. In those old times, subscriptions were already a major source of revenue, offsetting advertisement sales—which grew thanks to a larger circulation to committed subscribers.

These days, what makes subscription revenue so powerful is your ability to capitalize on the compounding value of customer relationships. What does this mean? That means that as long as your customers continually see the value your business provides for them, they'll continue to pay you for it. Furthermore, rather than remaining flat month to month, your revenue will accumulate with each new subscriber. Provided that you do acquire new subscribers faster than you lose them, subscription revenue grows exponentially.

Subscription Business Model A Must-Follow Guide For 2020 - Fig 1
Image source: Price Intelligently

Why Does Subscription Business Model Benefit?

From the Businesses' Perspective

According to Professor Baruch Lev - the Philip Bardes Professor of accounting and finance at Stern School of Business, New York University - there remain two main reasons why subscription is becoming the go-to model for future-focused businesses in many industries. First of all, subscription business model does provide the companies with stable cash flow.

“Very few people change their phone company or insurance company every quarter,” Prof. Lev shared. “Most people are either lazy or too busy, so they simply stay forever with a provider. What you get is a stable cash flow and a relatively stable set of customers.”

Since you get much greater familiarity with your customers, this also presents valuable, real-time insight into how your business is doing in the market.

"It offers a rare opportunity to track your customers because otherwise, you wouldn't even know who they are," Prof. Lev continued. “Let’s say you run a store and customers come in, buy something, then leave. You don’t know if they ever return, or how often they return, or how satisfied they are with your services. You know very little about them.”

With a subscription business model, you can – promptly and accurately – keep track of who the customers are and amongst them, who the repeat customers are and what they like to purchase. No matter how simple this idea seems to be, this is an incredibly significant management tool.

“If you look at the number of repeat customers, this is the best indicator of customer satisfaction. If repeat business is decreasing over several quarters, you know you’ve got a problem.”

That seems to be best suited for a large enterprise that has the money and manpower to set up complex, artificial intelligence (AI) and data analysis systems. But when it comes to the world of SMBs, how are they going to compete?

“It’s not such a challenge”, Lev said. It’s easy to look around for one of the many companies – such as Amazon or Zuora – that do offer their subscription-based platforms to small companies. All you have to do is pick and adopt such platforms.

Actually, that’s almost all you have to do. Not only does the subscriber model offer clarity around individual customers' purchase behaviors and demographic data but it also allows the business to constantly strengthen, change, update and innovate around its offering, which is essential. At Zuora, the combination of behavioral, demographic and financial data is referred to as “subscriber ID”.

“That’s a very important point within a subscription business…You need to constantly iterate what you are offering to the market. If you stand still without offering additional benefits or new features to the subscriber, you’ll find yourself disrupted by new entrants, despite the fact you may have previously been the disruptor yourself.” Shared Mr. Iman Ghodosi, vice-president and managing director Asia Pacific of Zuora, a listed company that builds cloud-based software enabling businesses to enter the subscription arena. 

Subscription Business Model A Must-Follow Guide For 2020 - Fig 2
Image source: Zuora

“The data points that you collect from the subscription model mean you get to understand what the end customer wants almost immediately, so you must use that to constantly fine-tune your offering for the customer.”

From the Consumers' Perspective

There goes without saying that subscription business model does wonders for businesses of all scales, but what's in it for the customer? Why are customers attracted to subscription models? Whereas there are several reasons, the main ones revolve around the fact that subscription offers them more choice and freedom to consume goods and services on their own terms.

In fact, subscription has long been popular, especially in some industries like insurance, mainly because it simply “rolls onwards”, taking away the need to do research, then make a new choice and a new purchase each year. The same philosophy applies to Netflix: A Netflix subscription can be set up to run for as long as the user likes and, at the same time, its AI function gets to know the viewer’s taste in TV shows and movies.

By analyzing past behaviors as well as the choices of similar others, Netflix begins to make suggestions around new TV shows and movies the subscriber would likely enjoy. Hence, Netflix subscribers no longer have to choose a new entertainment service each year to have greater viewing choices. Nor do they have to search through many options to choose what to watch each night, because the system does assist with selection.

After all, “customers like the ability of providers to customize things for them,” Prof. Lev mentioned. “In almost all cases, I now go with the strongest recommendations of Netflix.”

What Is the State of Subscription Business Models in 2020?

The good news is that the subscription business model continues to grow in popularity. According to  Price Intelligently’s research, Customer Acquisition Costs (CAC) are up more than 50% and willingness to pay for software has declined steadily for the past five years. There's never been a better time to start off capitalizing on your customer relationships through subscription.

And fortunately, it's not going away any time soon. Based on a survey by McKinsey & Company, staggeringly 46% of customers already pay for an online streaming service and approximately 15% have subscribed to an e-commerce service within one year of the survey. These amazing figures explain why giant names such as GoPro and Adobe have pivoted to this business model.

“We firmly believe that the world is evolving towards businesses in every industry shifting to subscriptions, to pay-as-you-go usage models. When they do, they truly understand what the subscriber wants. It opens up brand new revenue streams and spells the end of ownership and the rise of usership.” Mr. Ghodos stated.

What Are Some Most Popular Subscription-Based Businesses for You to Watch Out?

No matter whether you're a SaaS company, streaming service, a subscriptionbox or whatever, it’s more than vital to first have a quick look over some successful subscription companies across industries to draw a lesson for yourself.

Model #1: Streaming Services

Subscription Business Model A Must-Follow Guide For 2020 - Fig 3
Courtesy: Netflix

When speaking of the subscription business model, content streaming services stand out as the most well-known examples.

To be more specific, many companies such as Netflix and Spotify have built incredibly successful businesses by leveraging the growth potential of subscription. They do this by monetizing content and showcasing their value through the entertainment experience they provide.

Model #2: Monthly Subscription Boxes

Subscription Business Model A Must-Follow Guide For 2020 - Fig 4
Courtesy: Ipsy

As regards the success story of subscription boxes, it will be a serious mistake to miss the story of Stitch Fix and Dollar Shave Club that built their businesses by streamlining the process of shopping for consumer goods, like clothing and personal hygiene products.

Their subscription pricing does work because it monetizes convenience for their customers. To be exact, the pricing plan is combined with the strategic use of data and personalization to establish strong customer relationships that drive their growth. By that way, everything is tied together to create circumstances where customers are willing to pay a premium for the ease of receiving these items right to their door.

Model #3: Food Services

Subscription Business Model A Must-Follow Guide For 2020 - Fig 5
Courtesy: BlueApron

Meal-kit services, namely Blue Apron and HelloFresh, are another notable example of companies that adopt a convenience-based subscription business model. They're quite similar to the subscription boxes in this way, but add value by granting access to niche products such as selections catered toward different types of diets.

Supplementing their base subscription price with add-ons and upsells, both Blue Apron and HelloFresh monetize on a higher willingness to pay among their vegan, paleo, and gluten-free customers. This turns out to be an excellent example of how to boost Average Revenue per User (ARPU) through expansion revenue.

Winning Practices to Establish A Successful Subscription Business Model

#1. “Price” In Support of Your Business Goals

When it comes to subscription-based businesses, pricing remains the most valuable strategic weapon since it is directly tied to three fundamental growth strategies:

  • Acquiring new customers
  • Increasing the value of existing customers
  • Reducing your customer churn rate (customer churn occurs when customers or subscribers stop doing business with a company or service)

 In fact, subscription pricing is a necessarily complex endeavor. A static monthly subscription price can often be counterproductive – the profitable subscription-based pricing models are required to be highly adaptable and dedicatedly tailor to customers’ individual needs. The one-price-fits-all days are over, as this approach turns off down-sell opportunities as well as leaves money on the table from active users.

In practice, subscription pricing strategies can be tiered according to functionality, discounted to incentivize bulk purchases, metered according to usage levels, or optimized to reward loyalty. Plus, they can be based on the time of day the service is used, adjusted to incentivize activity from particular geographic regions, term-based to lock in long-term commitments, or adjusted in cooperation with partner promotions. To be more specific, there are overage charges, free trials, virtual coupons, early bird offers, freemium to paid plays, and much more.

Should you be a beginner to such a business model, it's "should" to starting simply with two or three basic surprising pricing tiers, then adjusting them over time as you learn from your customers. If you have an ideal price point, be sure to set another price above it to make it look more attractive.

#2. Boost Customer Acquisition with A Better Experience

It's a simple equation: more customers = more revenue. Customer experience begins from the moment they land on your site and intend to sign up. Thus, let’s be 200% sure that signing up for your subscription service is as easy as possible. A satisfactory customer experience, combined with a great overall onboarding journey, does not only boost your acquisition numbers but also promote higher average customer willingness to pay.

Additionally, subscription businesses need to establish fast, simple, and automated customer acquisition workflows across multiple channels. Always remember to strengthen your system of multi-channel support and fine-tune your user flow to Amazon-like levels of ease and simplicity.

Subscription Business Model A Must-Follow Guide For 2020 - Fig 6
Image source: Kari Geha Photography

#3. Streamline the Billing Process with Accurate & Intuitive Invoices

In a traditional business, products and services are simply purchased and invoiced: make widget, sell widget, then recognize widget revenue. Nonetheless, following the subscription business model, billing process is far more complex. Typically, businesses have to bill new customers at sale, deal with prorated accounts, different billing dates, usage bills, ... Without the streamlined billing system, it can take weeks to generate bills, and errors can easily result in customers fleeing in droves.

Actually, scaling is a huge challenge. Your bills should be accurate, simple to understand and branded appropriately. To get them right, your billing system must effectively manage the many data points required to calculate bills - clearly and accurately. Just think of your billing process as your business first real step in establishing a transparent, long-lasting customer relationship. It’s a “must” that you have your bills closely examined by your designers and properly treated as vital branding collateral.

#4. Collect Fast Cash and Easy Settlements

In the product world, payments are relatively simple: the customers or the shoppers pay up-front with cash or credit or have a credit line opened on net-30 terms. However, neither of these approaches work very well for recurring payments.

For subscription-based businesses, automation is the key to optimizing cash collections. In fact, they need to collect cash quickly, while maximizing collections as well as minimizing write-offs. It’s noteworthy that very few subscription plans these days rely on simple domestic monthly credit card charges.

In terms of overseas sales, there are a host of payment gateways to assess and implement, some of which can probably take up to a month to set up! Thus, once you’ve defined your market, it’s time to identify your most appropriate collection paths!

#5. Nurture and Foster Stronger Customer Relationship

If you’re in the subscription business, you’re in the customer service business. Customer relationships are at the core of the subscription business model. Should your customers not be happy, or aren't reminded of the value your service/product provides on a regular basis, they will cancel. And without them, there will be no sustainable recurring revenue growth.

This also explains why your customer personas really shine. With an accurate portrayal of your customer base, it's easier to keep your business in line with their expectations. Not only does this require a good experience, but also reliable data on feature preference and overall willingness to pay. The more you get to know your target customer, the better your pricing strategy will be.

As a company’s customer base gets bigger, customer relationship management becomes one of the most decisive keys in the entire framework. Whilst acquiring new subscribers is critical, in the Subscription Economy, the vast majority of customer transactions consist of changes to existing subscriptions: renewals, suspensions, add-ons, upgrades, terminations, …

Also, it’s much less resource-intensive to build on and expand existing customer relationships than to attract new ones. Understanding that, as a business owner, you need to provide customers with intuitive and comprehensive tools to manage their accounts over the entire subscription life cycle. A 24/7 support service, together with a customer success outreach program, will be ideal options. Since a stable, content customer base is vital to compound growth, it’s also a “must” that you closely monitor customer usage and adoption to mitigate churn risk.

#6.  Get Visibility into The Right Customer Metrics

With the aid of technological advancement, subscription businesses are constantly evolving and adapting. Long gone are the days of big clunky version updates. These days, companies are able to update their core products dozens, if not hundreds, of times a day!

Analyzing key metrics from bookings through revenue recognition can present unparalleled insights into customer value and the financial health of your subscription finance business. The traditional GAAP (Generally Accepted Accounting Principles) reporting won’t go away soon, but your subscription businesses should focus more on metrics like Annual Recurring Revenue (ARR), retention rate, recurring profit margin, and growth efficiency index to be successful.

Unfortunately, as traditional financial systems are yet to provide these metrics, a large number of businesses are flying blind. Let’s make sure you and your team set up a dashboard to track these important subscription finance KPIs from the outset and check them frequently.

#7. Iterate and Rapidly Deploy New Pricing Plans

Rather different from the traditional ones, the Subscription Economy has an infinite number of pricing options. Although numerous companies typically start with a simple recurring pricing model, the marketplace is ever-evolving, and customers’ needs are likely to change over time.

As competitors may enter with a differentiated offering, it’s more than crucial that your pricing and packaging — as already said, a strategic weapon for driving growth — is flexible and dynamic. Subscription-based businesses need to rapidly iterate on pricing models to maximize subscriber acquisition as well as their market share. Be prepared to “turn on a dime” without “alienating” your existing customer base.

The Bottom Lines

The subscription business model is on the meteoric rise and, as a result, almost every single industry is preparing for a different way of dealing with customers. Enormous advantages await those that get it right – and you also stand good chances of yielding the rewards.

Besides a wise pick of business model, you should never turn a blind eye to the online presence of your own site, especially within such an ever-evolving digital landscape. Should you need any help with a dedicated team to get your site exposed to the digital world, don’t hesitate to get an online presence manager.

This article is also credited to Patrick Campbell, Chris Sheedy, and page Zuora.

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