The rise of SaaS and other subscription based businesses has created a series of discussions around “recurring revenue” and how those business models differ from non SaaS or subscription based revenue models. While, I’m a big fan of Winning By Design’s “bow tie model,” virtually every business has a bow-tie revenue model, with many having a very lopsided bow-tie with the majority of revenue coming after the first sale.
Let’s look at the recurring revenue models across a lot of business categories:
The first, and probably a recurring revenue model which represents a much more lopsided “bow tie” than SaaS, is the embedded products business. This is where we sell components or materials that are embedded into the products our customers manufacture. Easy examples are semiconductors, electronic components, machine parts, and other things. The initial sale, often produces zero revenue, we create a design win. The revenue occurs once the customer starts manufacturing and shipping their products. And, if they are successful with their product launch, the volume should ramp in future years, producing more revenue.
And then there are the follow-on versions, the upgrades, the V2.0s, that drive even greater revenue. To realize that revenue, we have to continue to support the customer after that design win. We have to make sure we are meeting/exceeding their quality standards, we have to make sure we are meeting their supply chain requirements, when there are problems, we have to help fix them, minimizing warranty cost and adverse customer sat issues. We have to help them innovate and upgrade those products, whether it’s the customer buying the next new version of the product, or simply expanding the market.
And while we may have a contract to supply these components on an ongoing, we can never take that for granted, because most manufacturers have second source alternatives, so to maximize our revenue potential we have to continue to serve the customer well.
We see the same in professional services. The initial contract may be for a certain project. But then there are opportunities to expand the project scope, there are changes, there are upgrades. If we fail to serve the customer well in those projects, they will find someone else, or we never get contracts for the additional work. And in many projects, there are follow on projects, or new opportunities for which we might be favored because of the relationship.
And, of course there are many professional services businesses, where components of the customer business have been outsourced to a supplier, creating a recurring revenue model.
We can look at most aspects of the financial services businesses as being recurring revenue models. I may pay monthly service charges for keeping an account or managing a portfolio. Even if they don’t charge me, they are getting interest income by getting my money to work for them, so they want to keep my money with them and have me give them more. Or there are the fees they charge me and people I use there credit cards with.
What about capital equipment? Products that we buy, outright, paying an upfront cash amount. There are endless recurring revenue opportunities with capital equipment. The most obvious is maintenance/warranty contract. While the revenue from those may not be a great as the initial purchase, over the years, depending in the life cycle of the product, it’s likely to be equal or surpass that initial revenue. So we want customers to value those maintenance contracts. And when the product needs to be replaced, because there is a need for a newer product, if we have served the customer well, we may be favored for the replacement product. Or our customer may be expanding their usage of products, requiring them to buy additional products. For example, our company’s PC needs were relatively simple, but as we’ve grown, we’ve needed to acquire more PC’s. As I look around my office, I have three PCs, two tablets, and two phones, not to mention a number of peripheral or attached products. I don’t pay maintenance for those, but for at least 15 years, I’ve had two PC vendors, one tablet and one phone vendor, even as I upgrade those products every two years.
What about consumer products companies? Trader Joe’s wants me to keep coming back every week, as do REI, Nordstrom, and Ace Hardware. They want to create a recurring revenue model by providing the diversity of products and good customer support that I need.
As you look at it, every business has a recurring revenue model of some sort. Subscription models are not the only basis, and are probably the smallest percentage of recurring revenue generated (I suspect embedded products represent the dominant share of recurring revenues.)
Some of you might make a claim that I’m speaking of repeat revenue, versus recurring revenue. I tend to think the difference in these is more an internal accounting and cashflow difference, rather than how we manage and earn the right to continued revenue streams from our customers. Whether it is recurring or repeat, we have to do the same things, constantly, if we are going to realize the true revenue potential from our customers.
And we have needed fancy models to recognize this. We don’t need reminders that we need to serve customers keeping them happy to retain their revenue (well maybe we do need those reminders and some of the SaaS companies need the biggest reminders.).
We’ve long recognized the fact that if we serve our current customers well, if we keep them happy, if we understand and address their future needs, we can continue to generate new revenues from them. That’s why we talk so much about account planning/management and topics like ABM/ABE.
Recurring revenue is simply about continuing to earn the right to maintain customers for life. The first sale is just the starting point. We have to continue to serve them, support them., anticipate and deliver on their emerging needs, and value them.
Sadly, too often, we forget this. And we lose customers, missing out on those future opportunities, or having to spend enormous amounts of money/resource/time in winning them back.