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As a business owner, you want to build consistency in the way you make money, and one of the best ways to do that is by building recurring revenue.
Table of Contents
- What is Recurring Revenue?
- Monthly Recurring Revenue vs Annual Recurring Revenue
- Benefits of Recurring Revenue
- Downsides to Recurring Revenue
- How Do You Generate Recurring Revenue?
- Types of Recurring Revenue
- Are Recurring Revenue Models the Best?
What is Recurring Revenue?
Recurring revenue is a type of revenue stream where you are charging customers on an ongoing basis. The timeframe for recurring revenue can change, but is generally either monthly or annually.
Software as a service (SaaS) companies are probably the most known for talking about recurring revenue lately, but it’s a concept that’s existed for a long time.
If you look at Google Trends Interest by region graph, it’s quite obvious that the tech industry is responsible for this term’s popularity over the last 20 or so years:
Monthly Recurring Revenue vs Annual Recurring Revenue
There are two main timeframes for calculating recurring revenue: monthly and annual.
What is Monthly Recurring Revenue (MRR)
Monthly recurring revenue is the amount of money your business can expect to bring in on a monthly basis from its customers.
MRR is the gold standard metric for software (SaaS) businesses, but content businesses can take advantage of this and become subscription businesses as well. Large newspapers are a great example of this.
What is Annual Recurring Revenue (ARR)
Annual recurring revenue or ARR is the amount of revenue a business brings in from their annual subscriptions.
Even if you are charging most customers monthly, you can offer an upsell to get people to sign up for a full year of your product at a discount instead of paying monthly.
Both methods require you to provide value to a customer on an ongoing basis and keep your customers paying on an ongoing basis.
Benefits of Recurring Revenue
Building a business model that generates recurring revenue has its perks. Instead of running around chasing one time sales, you have a revenue model that brings you money month after month.
1. Predictable Income
Instead of having to sell your product or service to new customers every month, you have some predictability in terms of your income. You have the 30 customers from last month, and you sold a few more so you end up with 35 customers.
Recurring revenue offers quite a bit of stability for a business that can execute it well. If someone signs up for your product or service and it sucks, you’re not going to make money using this method (or any method for that matter).
You have to keep showing value and providing people with something they are willing to keep paying for month after month.
3. Higher Customer Lifetime Value
This one is debatable for me. While having someone pay you time and time again is amazing, what if your average customer lifetime is only 5 months. If your annual cost was the price of 6 or 7 months, then you actually lost money by offering a monthly option.
4. Higher Business Valuation
If you’re going to sell your business someday, you might want to consider a recurring revenue business model. Investors love safe bets when it comes to putting their money into businesses, and it’s hard to argue with John Warrilow, author of Built to Sell, when he says that recurring revenue businesses
Entrepreneurs can take specific steps—no matter what stage a business is in—to create a valuable, sellable company. John Warrillow shows exactly what it takes to create a solid business that can thrive long into the future.
Downsides to Recurring Revenue
Recurring revenue isn’t all sunshine and roses – every business model has downsides, including this one.
1. It Can be Hard to Prove Value Every Month
If you’re running a membership site or software as a service (SaaS) you can typically focus on providing value for everyone at once. Generally if someone has an issue with the product, they’ll reach out and let you know.
This can be challenging because you’re constantly adding to your content library or product offerings – making your “thing” better each month.
With a one-time fee like an online course, you sell your product to each person only once, and aside from questions and the occasional refund (if you offer them), you make all your money up front.
With a recurring revenue model, your customers are counting on you to continue to “wow” them with what you offer.
2. Harder to Justify High Prices
If a customer is paying you every single month without end in sight, it’s going to be a challenge to charge them higher prices. Recurring revenue generally brings the revenue in slower vs a one-time fee since
When it comes to recurring revenue from services, keeping everyone happy can be a little challenging. Each client has their own preconceived notions about what success looks like, and since you’re providing a service the work for each client is unique. Even if you run a productized service where every client goes through the same roadmap, you’re still offering different work for each customer.
3. Payment & Customer Issues
If you build a subscription business expired credit cards, failed transactions, or the inevitable “I didn’t know I had to pay ever month!” email, are all headaches you will soon learn to deal with.
They aren’t that bad though when you experience the other side of it and see how much your annual recurring revenue increases. 🙂
How Do You Generate Recurring Revenue?
Types of Recurring Revenue
There are plenty of ways to generate recurring revenue, but most of them boil down into a few basic types.
Contracts are pretty simple. You offer a customer something for a specified amount of time, and you both sign a piece of paper that says you will offer them this thing for that time period, and they will pay you for that service for the amount of time.
- Cell phone providers
- Marketing or SEO services
As the name indicates, these are businesses that offer, well, subscriptions. Someone pays you each month to provide a service or to create content that provides them value or entertainment.
- Membership sites
- Adobe Creative Cloud Software
Finite subscriptions are those where you pay for a certain amount of time up front, and then you are offered the option to “re-up” at the end of the subscription period. You could also consider a payment plan a finite subscription because it only lasts a certain amount of time before you no longer have revenue from the customer coming in.
- Yearly magazine subscriptions
The Hybrid Model – My Favorite Method
There are ways to take advantage of the benefits of both a one-time payment model AND the recurring revenue model. You can sell your main thing, and then cross selling ongoing support, a community, or membership site model for a monthly fee.
This is great because you get the advantages of those revenue spikes from selling the larger product/service, and you get the ongoing revenues month after month.
I’ve seen this done with online courses really well, where you sell your main course offering, and then offer a monthly membership where people get direct access to you and your team, as well as support and updates for your product.
Online communities can be hard to manage, but if you were planning on doing that anyway this could be the option for you.
Are Recurring Revenue Models the Best?
The recurring revenue models can be great for a digital company, and honestly it is one of the better business models out there. Between the reliability of your income, being able to forecast your finances better as well as knowing that tomorrow your income wont drop to zero (unless you stop working altogether) are huge positives to this model.
While there are challenges, the positives you get as a business with a subscription model tend to outweigh the negatives, so you might want to brainstorm a few ways to make this work in your business.