A high business valuation is useful in many scenarios, from accessing more investors, to negotiating during mergers or acquisitions, or even in determining resale value.
There are quite a few ways to increase your valuation. Historically, most businesses have achieved this through continued investment in equipment and staff, strategic planning, marketing, and lowering expenses.
Obviously, those things are important, but what most investors and buyers really want to see is how your business increases sales and boosts profits. You’re probably already doing everything you can to maximize those areas of your business.
Or are you?
If recurring revenue isn’t already a part of your business model, buckle up. Introducing subscriptions to your product or service could increase your valuation by up to eight times that of a comparable business with little recurring revenue.
That figure comes from John Warrillow, designer of the Value Builder System for businesses.
“The more guaranteed revenue you can offer a potential acquirer, the more valuable your business is going to be,” he explains.
Subscription-based businesses have a high percentage of recurring revenue, securing a high valuation.
Ready to learn more? Here are a few reasons why introducing the recurring revenue model to your business works so well.
The customers love it
In addition to consistent revenue for your business, subscription-based business models offer convenience for your customers.
This convenience is multifaceted.
- Automatic delivery of products or services takes the hassle out of repeat shopping experiences.
- Budgeting becomes less cumbersome for customers, with a predictable monthly or annual fee.
- Anxiety about “running out” of a product is assuaged, as is the fear of missing a payment and losing service when an automated billing system takes care of collections.
Subscriptions have become so popular that some believe every business will soon be a subscription business.
But don’t be fooled into thinking that customers are the only ones benefiting from this model. With recurring revenue generated by subscriptions, your business gains predictability, risk reduction, and increased valuation.
Let’s explore how.
Recurring revenue sets a baseline
With a subscription model, tracking and reporting sales, customer lifetime value (CLV), churn, monthly recurring revenue (MRR), and more is simplified, particularly with a robust subscription management platform.
With this information, it becomes easy to predict monthly revenue minimums based on the number of subscribers and types of subscriptions they have. This creates a baseline value, and a cash cushion, with many benefits, such as:
- Durability.
With accurate forecasting, you know where your business starts each month in terms of expected revenue. What’s more, with a recurring revenue model, you’ll never start a month with $0.00 again. Use this information to reduce risk when making big decisions surrounding churn prevention and taking on new business, and experience fewer surprises. - Visibility.
Knowing where you start each month and where you can expect to end up means you won’t be completely blindsided by an unexpected change in business. Use these prediction tools to make business decisions a year in advance. If things change, you’ll have plenty of warning, and can make necessary adjustments, thanks to your subscription model. - Expense management.
Gone are the days of waiting until the last day of the fiscal quarter to see how well your business performed. With forecasting generated in real-time based on customer activity, you can cut back on spending mid-quarter if predictions aren’t looking as high as you expected. This will minimize disruption to business flow. - Scalability.
One of the most attractive things to a prospective investor or buyer about recurring revenue is that it lends itself to business scaling. Understanding your cash flow with the deep insights provided by a subscription model allows you to effectively invest in growth with minimal risk. If your product or service has reached a point of standardized quality, you can also be sure you’ll minimize churn and maximize recurring revenue from satisfied customers. - Flexibility.
Circling back to customers and clients for a moment, the recurring revenue model unlocks a certain flexibility that benefits both you and the people enjoying the product or service you provide. With a subscription, there’s no need to rewrite a contract if needs change: simply decrease the subscription to slow provision down, or increase it to speed it up or expand.
By providing a service, not specified “deliverables,” clients know exactly what they’re getting, and know they’ll get it on an ongoing basis. What’s more, they’ll never be told that something is beyond the scope of their contract when simply increasing their subscription covers a change in plans.
All of these details combine to build a high-value business model.
Investors and buyers see value in the recurring revenue model
You’d have to be blind not to notice it: Blockbuster falling to subscription streaming services, retail stores, and malls closing in the face of various clothing, beauty, and niche subscriptions.
Even Chewy, an online site for pet supplies, now offers subscriptions to the food, litter, medications, and other items your furry family members consume on a regular basis. PetSmart certainly saw the value there: they bought Chewy in 2017.
Examples of businesses increasing their valuation with recurring revenue abound. UX firm Digital Telepathy increased revenue by 300% by switching their services to subscription only. They also found that the switch improved their relationship with clients: instead of creating project plans and focusing on deliverables, they were now more aligned with their clients’ business objectives and became an extension of their team.
Success with the recurring revenue model isn’t limited to tech companies, however.
One Medical members, for example, pay an annual fee in exchange for same-day doctor appointments, personal treatment plans, and direct access to doctors outside the office.
Book by Cadillac, while currently not accepting new members, originally opened with an upfront fee plus a monthly fee for access to a fleet of Cadillac vehicles, insurance, maintenance and more. They plan to reopen to new members with more inclusion of dealers in customer-facing interactions.
So what makes the recurring revenue model so successful?
Success is found with the right model
There are multiple ways to incorporate the recurring revenue model into your business plan. While innovators are constantly finding new paths, here are 5 noteworthy models currently in use:
1. Consumable
Like Chewy, the consumable model depends on providing products that get “used up,” requiring customers to purchase replacements or refills. In this model, the subscription is designed to provide replacement product, usually before what they have actually runs out. That way, customers receive the benefits of always having product on-hand and not having to worry about reordering.
Customers can typically pause, reduce, or increase their subscription through an easy-to-use customer portal, for occasions when adding another dog to the family requires more food, for example.
2. Service
If your business doesn’t provide a consumable product, perhaps it provides a service or a product that requires regular servicing. For example, Software as a Service (SaaS) businesses provide software solutions to everything from video editing to accounting services. These services can be provided for a flat monthly fee, or for a percentage taken out of transactions.
Alternately, while HP’s Instant Ink subscription is for a consumable product (ink), their SmartFriend monthly subscription is a repair service for HP products. If you’re a SmartFriend subscriber and something goes wrong with your device, simply reach out and get help. Many manufacturers, from HVAC to luxury luggage makers, provide similar services that can be incorporated into a recurring revenue model.
3. Content
The content model is hard to miss, with streaming movies, TV shows, and music found in just about every household. The first-ever product subscription businesses utilized the content model: publishers of books and periodicals in the 17th century charged a recurring fee for their regularly produced products.
Today, many periodicals like magazines and newspapers have moved their subscriptions online, and some content sites and blogs with no physical content all have followed their lead. Still, if you prefer things old-school, you can still get a subscription box for books. It’s funny how some things come full circle.
4. Rental
From apartments to cars, and work spaces to equipment, using the rental model for recurring revenue is even older than the content model, dating as far back as ancient Egypt’s tenant farming.
Tried and true, the rental model continues to be applied to businesses today looking to generate recurring revenue. From restaurants leasing their dining rooms as co-working spaces during closed hours to software companies renting out data storage à la Microsoft’s OneDrive, the rental model is here to stay.
5. Exclusive
Lastly, as with any business model, there will always be revenue in finding ways to give customers exclusive access. If HP’s SmartFriend techs tend to get overwhelmed at the end of each fiscal quarter with service requests from businesses printing reports, perhaps they could offer another tier to their subscription providing guaranteed 2-hour tech arrival—at a higher cost.
This model works outside of service, as well. Crowd Cow sells 100% grass-fed beef through their website, but only subscribers get free shipping, first access to new launches and merchandise, and invitations to tastings and events.
With so many model options, and just as many benefits, there’s only one thing left to ask: How will you incorporate recurring revenue into your business and increase your valuation?
FAQs about Recurring Revenue Model
Q: What is the impact of utilizing a recurring revenue model on my business?
Using a recurring revenue model can substantially increase your business’s valuation over time. Subscriptions or regular, repeat business enables companies to generate steady revenue, providing greater financial predictability and risk reduction. It allows businesses to start each month with a secure revenue base instead of starting from zero, which investors find highly attractive. This strong foundation can enhance your business’s resilience, visibility, and financial planning, leading to an increase in valuation.
Q: How does recurring revenue contribute to ensuring financial predictability?
With a recurring revenue model, such as subscriptions, it becomes simpler to track crucial business metrics like sales, customer lifetime value (CLV), churn, and monthly recurring revenue (MRR). Using this data, businesses can predict minimum monthly revenue based on their number of subscribers and type of subscriptions. This gives businesses a clear idea of guaranteed income each month and offers a cash cushion for any unexpected events, leading to greater financial predictability.
Q: How can a recurring revenue model enhance a business’s financial planning and decision making?
The recurring revenue model provides accurate revenue forecasting, leading to increased business durability. It enables businesses to understand their financial status at the beginning of each month, which aids in making informed decisions related to churn prevention, undertaking new businesses, and providing fewer surprises. Additionally, this approach allows for early identification of potential issues and trends, which means you won’t be blindsided by sudden changes in the business environment.
Q: What does the recurring revenue model mean for a business’s scalability and growth potential?
One of the key benefits of recurring revenue is that it supports business scalability. Having deep insights into your cash flow through a subscription model lets you effectively invest in growth with minimal risk. If your product or service has reached a standardized quality level, you can reduce churn and maximize recurring revenue from satisfied customers, allowing your business to grow sustainably and confidently.
Q: How does a recurring revenue model enhance a company’s ability to manage expenses?
Recurring revenue, especially from subscriptions, allows real-time forecasting based on customer activity. Consequently, if revenue predictions aren’t as high as expected, a business can cut spending mid-quarter, thus minimizing disruptions to business flow. This approach brings unprecedented agility to expense management and protects the company’s bottom line.
Q: How does recurring revenue contribute to a high business valuation?
Recurring revenue can increase your business valuation up to eight times that of a similar business with minimal recurring revenue. This is because guaranteed revenue offers potential buyers or investors the assurance of a steady income stream, which immensely adds to your business value.
Q: How does recurring revenue benefit customers, and how does this impact a business?
In addition to providing a consistent revenue stream, subscription models offer multifaceted convenience for customers. They offer automatic delivery of products or services, predictable monthly or annual fees, and mitigate the anxiety about running out of products or missing payments. Its popularity with customers subsequently increases subscribers count, contributing to better business performance and valuation.
Q: Is the impact of the recurring revenue model limited to specific types of businesses?
Success with the recurring revenue model isn’t limited to tech companies or businesses in certain industries. Any business that can offer a product, service, or experience on a recurring basis stands to benefit from this model. Whether it’s a software platform offering monthly access to their tools or a luxury car brand providing ongoing services for a monthly fee, the model can be successfully incorporated in various ways.
Q: Can you give examples of different types of recurring revenue models?
There are multiple ways to incorporate the recurring revenue model into your business. Some noteworthy models include a consumable model (providing products that require regular replacements or refills), a service or repair model (offering services or regular servicing for a product), content model (charging for regular access to content), rental model (renting out equipment or space), and a premium access model (providing exclusive benefits for a recurring fee).
Q: How does recurring revenue impact business valuation in Software as a Service (SaaS) businesses?
Recurring revenue significantly increases the value of SaaS companies. This is primarily due to the largely recurring nature of subscription revenue, which attracts high valuation multiples. SaaS companies, for instance, often get valued based on their Annual Recurring Revenue (ARR), where buyers are typically prepared to pay multiples of ARR, thus enhancing the business valuation.
