The rise of the subscription economy implies a drastic change in customer relationships. What are the advantages and how can you measure your recurring business?
Subscription models long ago ceased to be the exclusive territory of train companies and newspaper publishers. Today, consumers pay a fixed amount per month for a wide range of products and services - just think about Netflix, Hello Fresh, Spotify and... Teamleader.
In addition, numerous companies in as many sectors adopt subscription models, offering anything ranging from banking services and telecom to toothbrushes for a fixed fee per month. Their motive? Customers today would rather subscribe to services than pony up the cash to actually own products.
Should every company make the transition? According to Fortune magazine, the answer is twofold. Consumer behavior, especially among young people, is changing, and the need to actually own goods is waning. While sharing has become the new owning, more and more companies are eager to respond to this trend. But companies should assess for themselves the needs of their customers and evaluate if a transition towards a subscription model is feasible.
As a result, it’s only natural that the relationship between customers and service providers will radically change. We’ve taken the liberty of listing the advantages of such subscription models for both parties involved.
• Pays smaller amounts each month instead of one large amount upfront;
• Has more options to terminate the agreement;
• Often has more guarantees as to quality, because of the option to terminate agreements;
• Regularly receives the latest updates, e.g. software.
The supplier/service provider...
• Can rely on a recurring income on the condition that he continues to guarantee quality;
• Has a guaranteed income at the start of each year, in contrast to a services economy (in which payments are made afterwards);
• Regularly receives the latest updates, e.g. software.
Partly thanks to all technological developments, collecting recurring invoices is becoming easier than ever. Whereas everything had to be done manually in the past, you can now use credit cards and SEPA, the former direct debit system. All of these things combined make for less administration when collecting invoices.
The four key metrics: MRR, ARR, ARPA and Churn Rate
"If you cannot measure it, you cannot improve it ", said Lord Kelvin, one of the most important physicists of the 19th century. Measuring turnover from subscriptions is more complicated than doing so for traditional products, which also means that traditional metrics will not be sufficient to analyze this turnover. Allow us to present some variables that will allow you to better understand your recurring revenue.
MRR: Monthly Recurring Revenue
Simply put, Monthly Recurring Revenue is a means to calculate the fixed monthly turnover within a system of varying subscription models. To calculate MRR, all subscriptions are converted into a monthly fee. For example: a customer pays 240 euros a year for web space. In this case, the MRR for that customer equals 20 euros, or 240 euros divided by 12 months. The advantage of MRR is that you needn't worry about varying subscription models: it doesn't matter if a customer pays per year or per quarter. In other words, MRR makes it easier to analyze your data and allows you to compare figures more easily.
ARR: Annual Recurring Revenue
Much like MRR, Annual Recurring Revenue serves as a way to determine the value of your subscriptions, albeit on a yearly basis.
ARPA: Average Revenue Per Account
This metric measures the average value per customer, which will in turn allow you to mutually compare them. ARPA is calculated by dividing the total turnover by the number of customers. In practice, a distinction is often made between ARPA for new customers and existing customers, as both offer different upselling opportunities. As an illustration: your first customer subscribes for your services for one year, at a cost of 240 euros. As he is your only customer, the monthly ARPA is currently 20 euros. Suppose that a second customer subscribes for 360 euros - or 30 euros a month; the monthly ARPA will then amount to 25 euros.
Churn Rate indicates how many customers choose not to renew their subscription - we can call it customer retention rate, if you like. Churn can be calculated based on the absolute number of customers, or based on your turnover. If you use MRR or ARR, Churn is calculated on a monthly basis or a yearly basis respectively. The formula for a monthly Churn Rate is: the number of lost customers during month x divided by the number of customers at the start of month x. Note that new customers should not be included in this figure.
In conclusion, we could argue that proper administration is vital for an adequate follow-up. Every subscription you conclude will require you to keep track of a number of things, such as:
• Start date;
• Period (week, month, year);
• End date (if applicable);
In the case of licenses, you can choose to invoice prior to the renewal date. When a domain name is renewed on the 1st of January for instance, you may choose to send out your invoice the 1st of December, to make sure your customer is well informed in advance and has sufficient time to complete the payment.
Teamleader and invoicing: a match made in heaven
With Teamleader, the online tool for SMEs, you can effortlessly invoice recurring business. Literally: Teamleader sends out those invoices for you. In addition, Teamleader provides you with an overview of the future value of your recurring portfolio. Set your goals per quarter and consult intelligent reports which reflect the progress of your invoiced turnover. Feel curious?
Try Teamleader for free for 14 days!