Stickiness of Subscription-based model

Concept of Subscription-based model
One-time sale of a product can become a recurring sale and can build brand loyalty.
For businesses that have high fixed cost, but low incremental costs to provide one additional unit of service.
Focus on servicing the client over time and improving stickiness and lifetime value rather than individual transactions which stops at point of sale. (Relationship Business) The decision transits from Opt in decisions to opt out decisions.

Types
i) Fixed periodic payment, unlimited use - Netflix, Microsoft software, Public transport, Apple phones and software, Newspapers and magazines

ii) Pay as you use (convenience model) - Loyalty cards, Dollar Shave Club, Ofo/Mo-bike, public transport

iii) Subscription for basic access or minimal service plus some additional charge depending on usage - Telephone services, Whats-app Freemium services

iv) Perpetual license model =>Software as a service=> Reducing sales cost and increasing client servicing /support






Effectiveness When
i) Client utility does not depend on the product and service chosen (commodities, no significant branding power, tel-cos, utilities, banking, groceries)

ii) Potential Bulk volume and cost savings for both producer and client

iii) Critical services that is irreplaceable may severely affected business process / standard of living when disrupted / downgraded

iv) The Chains of Habit Are Too Light To Be Felt Until They Are Too Heavy To Be Broken. Getting you to subscribe to a Apple phone is way easier than asking you to make a discrete purchase every year, and as a subscriber you’re worth much more to them over time.


Not Effective when
i) client's utility largely depend on the product chosen.
Might not work for food subscription services or clothes rental business (Rent the runway)

ii) Large amount of competitors, and replacement cost is low.

iii) Although vendor can lock in clients. client may not optimise his use of the subscription and overpay for underutilized use. If relationship is not well analyzed and managed, the client can eventually leave.



Client's Perspective
i) Time savings
You only have to purchase once. invest the time up-front, make our decision, and then live with that decision until the provider fails us as consumers or until we get wowed by a competitor’s new promotion.  In today’s hectic world, this time saver is a big plus.

ii) Budgeting and cash flow scheduling
Consistent monthly pricing helps with the organization budget and cash flow projections.

iii) Volume buys, Bulk pricing, and cost saving.

iv) Automation of decision making
Products are bought at a regular basis without further thought, no utility to be obtained from  choosing between competitive brands. Automate payment streams to remove hassle.

v) Flexibility in Cash flow strategies
Different pricing strategies such as installment payments or lump sum, allowing clients to adjust according to their payment ability

vi) Improved Negotiating power
For VIP clients to the vendor, the VIP clients will have significant negotiating power to negotiate favorable terms to improve its negotiating position and force vendor to improve its product. SIM20 plans in Singapore allow clients to have significant negotiating power over tel-cos compared to the past.

Vendor’s Perspective
i) Stickiness due to inertia
customer has to act to disconnect your service is an advantage. Inertia is in your favor. lives are very hectic, and switching service providers is not an easy task…it’s DOUBLE the effort of connecting in the first place!  You have to really fail a customer in order to lose them to a competitor. Greater customer inertia and a more committed customer base as it transitions from purchase to opt-out decisions,

ii) Consistent valuation of company through DCF / ARPU models
Consistency in consumer sees in their monthly budget also translates to consistency in the provider’s revenue trends and cash flow. For a vendor to significantly miss earnings guidance, they have to be pretty incompetent or extremely unlucky. Higher average customer lifetime value (ACLV) than that of nonrecurring business models

iii) Economics of scale
For businesses with high capital upfront costs and low costs to generate additional units of services, bulk sales is significant important to the business strategy and it can achieve significant economics of scale.

iv) Risk-Reward and utility
For high risk products or mundane products whereby the utility derived is far less than the benefits of changing vendors and replacement cost, product can be exceptional sticky.

v) Pricing and product mix strategy
Allows vendor to bundle high sales volume and low sales volume  products. In some subscription schemes (like magazines), it also increases sales, by not giving subscribers the option to accept or reject any specific issue. This reduces customer acquisition costs, and allows personalized marketing or database marketing. (Microsoft Access and other core Microsoft products). Potential for up-selling and cross-selling other products or services

vi) Improved client analytics
Vendor knows the number of currently active members since a subscription typically involves a contractual agreement. This so-called 'contractual' setting facilitates customer relationship management to a large extent because the analyst knows who is an active customer and who recently churned.



Key points to understand
LTV = (Monthly Recurring Rev – Monthly Recurring Cost) x (1/Churn) – Subscriber Acquisition Costs
LTV = Monthly Cash Flow x Customer Months - SAC

Achieve economics of scale, decrease operational costs, increase revenue, improve profit margin
Reducing client turnover, improve client retention, increase lifetime value.
manage fixed cost / acquisition cost. Effective in blue oceans rather than red oceans.
Allows stable valuation of company that are fee like in nature rather than cyclical cash flows

Subscriber Acquisition Costs (SAC) - up-front costs a company employs before the first bill goes to the customer. Fixed Cost. Marketing isn’t always cheap, neither are commissions, customer equipment, or the several hours it can take to install a customer. Sales Commissions vary significantly by the sales channel you employ. It’s typically lower in your passive channels like inbound sales or a retail center, where your marketing and name recognition will generally drive the customer to the channel.  It can be significantly higher in your active channels like direct sales reps who knock on doors and outbound telemarketing who get turned down

Churn – this is the proportion of your customer base that leaves you as a company.This figure is vitally important to the economics of a SBRM and inherently to a customer’s lifetime value (LTV). 

Customer Equipment costs vary depending on the product. For a product like Internet, it can be quite low, as even if you provide a modem, it’s either cheap, or the customer pays for it.  For a product like video, it can be exorbitant when you are hooking up a DVR and a couple of digital boxes that can all run hundreds of dollars a pop.

Monthly Recurring Revenue and Monthly Recurring Costs
The relation between monthly recurring revenue and cost is very important, as consider this your recurring operating cash flow, or in layman’s terms, how much a vendor clears from a customer.  If this amount is low every month, it’s tough for a business as the margin of error is small.  If this amount is significant, then it’s happy days for a vendor!



Sources
https://www.linkedin.com/pulse/economics-subscription-based-revenue-model-part-1-scott-gilbert
https://www.forbes.com/sites/kimberlywhitler/2016/01/17/a-new-business-trend-shifting-from-a-service-model-to-a-subscription-based-model/#34ce3f314a5f
https://en.wikipedia.org/wiki/Subscription_business_model