See also: Freemium, Guaranteed Availability
|Key Partners||Key Activities||Value Propositions||Customer Relationships||Customer Segments|
|Cost Structures||Revenue Streams|
How: Rather than selling products individually, a subscription offers periodic use or access to a product or service. Renewal can be periodic or activated automatically, typically through a pre-authorized credit card charge.
Why: A one-time sale of a product can become a recurring sale and serve to build brand loyalty.
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A subscription model is a system in which customers make recurring payments in exchange for products or services that they receive on a set schedule. Customers are typically given the option to choose the frequency of their payments, whether that be on a weekly, monthly, or yearly basis. Subscription models also allow customers to make changes to their subscriptions, such as editing their orders, adding on products or services, or canceling the subscription altogether.
Subscription services, in which customers enter into a contract with a business to receive products or services on a regular basis, offer a number of benefits to both the customer and the company.
How do Subscriptions benefit customers
Customers appreciate the convenience of not having to continually purchase individual products or services, as well as the potential cost savings that can result from subscribing. Many firms offer discounts to customers who commit to repeated purchases, thus ensuring predictable revenue for the business.
For the model to work on the long term (increase retention and customer life time), it is crucial important that customers are made aware of the benefits of subscribing and never feel misled.
Subscription services are particularly well-suited for customers who have a regular need for a product or service. By subscribing, customers are able to enjoy additional benefits such as
- Convenience. Customers can choose to subscribe to products or services that they use on a regular basis, and have them delivered automatically. This eliminates the need to continuously make individual purchases.
- Cost Savings. Subscriptions often offer discounts or special pricing for customers who commit to a recurring payment.
- Access to Exclusive Content or Features. Some subscription-based businesses offer exclusive content or features to subscribers that are not available to non-subscribers.
- Personalization. Subscription-based businesses can use the data they collect on customer behavior and preferences to personalize the products or services they offer to individual customers.
- Early Access. Subscribers may get early access to new products or services before they are available to the general public.
- Cancellation Flexibility. Subscriptions can be cancelled at any time, giving customers the flexibility to adjust their level of commitment as needed.
- Try Before you Buy. Some subscriptions offer a free trial period, allowing customers to test the product or service before committing to a long-term subscription.
- Personal experience. Subscription models can foster brand loyalty by providing customers with a more personal and meaningful experience with the company.
How can the Subscription business model benefit your business
For businesses, subscriptions represent a commitment from customers to repeatedly purchase their products or services. This leads to foreseeable returns for the company, which can offer discounts to customers who subscribe. Other notable business benefits of the Subscription business model are:
- Predictable Revenue Stream. Subscriptions provide a steady stream of recurring revenue, allowing businesses to better predict and plan for their financial future.
- Streamlined Financial Forecasting & Inventory Managemen. The subscription model allows for better cash flow management and improved inventory management.
- Increased Customer Loyalty. When customers commit to a recurring payment, they are more likely to continue using the product or service and become loyal brand advocates.
- Improved Retention & Reduced Churn. The personalization of the customer experience through continuous contact leads to better retention of existing customers and a reduction in churn.
- Increased Customer Lifetime Value. Subscriptions can increase the lifetime value of a customer, as they are more likely to continue using the product or service for an extended period of time.
- Increased Customer Engagement. The fostering of trust and the provision of value in products and services leads to higher levels of customer engagement with the brand.
- Upsell and Cross-sell Opportunities. Subscriptions give businesses the opportunity to upsell and cross-sell additional products and services to their customers.
- Reduced Acquisition Costs. The cultivation of customer relationships reduces the need for costly customer acquisition efforts.
- Improved Cash Flow. With a steady stream of recurring revenue, businesses can improve their cash flow and invest in growth opportunities.
- Easy to Scale. Subscription-based business models are easy to scale, as businesses can acquire new customers and increase revenue without incurring significant additional costs.
- Data and Analytics. Subscription-based businesses can collect valuable data on customer behavior and preferences, which can be used to improve products, marketing, and overall business strategy.
Where did the Subscription business model pattern originate from?
It was the German booksellers of the seventeenth century who first availed themselves of the subscription model. The prime motivation for this innovation was to gauge the demand for costly books, such as multi-volume encyclopedias or reference works, so that sales would compensate for the expenses of production.
Not long thereafter, newspaper and magazine publishers followed suit, embracing the subscription model as well. Even in the present day, the majority of these types of publishers continue to utilize this business strategy.
Applying the Subscription business model
The pattern of subscription can be applied to a wide range of industries and contexts, and can prove to be a valuable tool for businesses looking to provide value and convenience to their customers. Subscription services can be useful for companies in many sectors, offering a reliable and predictable revenue stream, and providing customers with the convenience and benefits of regular access to products or services.
Types of Subscription models
Subscription models can be described by three distinctive approaches:
Curation Subscription Model
The most popular choice among subscription ecommerce businesses is the curation model. In this model, merchants curate a box of one or more products, package them together, and ship them to the customer. This model is suitable for businesses that specialize in creating unique, tailored packages of goods or services that are sent on a regular schedule.
Examples of the curation model are:
- Subscription Box or Product Subscription. This model involves sending customers a curated box of products on a regular basis (e.g. monthly, quarterly) based on their preferences or interests. Examples include Birchbox, Dollar Shave Club, and Blue Apron.
- Content Subscription. This model involves providing customers with access to exclusive or premium content (e.g. music, movies, articles) for a recurring fee. Examples include Netflix, Spotify, and The New York Times.
Replenishment Subscription Model
The replenishment model is best suited for products that people use frequently. This model offers the same product on a consistent basis, and is sometimes referred to as “subscribe-and-save” because merchants often offer a discount to their repeat customers. This model is useful for businesses that deal in goods that need to be replenished on a regular basis, like groceries, cleaning supplies, etc.
Examples of the aeplenishment model are:
- Consumption Subscription. This model involves providing customers with a product or service that they will consume and need to replace or refill on a regular basis for a recurring fee. Examples include Dollar Shave Club, Birchbox, and Blue Apron.
Access Subscription Model
The access model includes memberships and offers exclusive access to discounts, early releases, gated content, and more. This type of subscription program is useful for businesses that offer exclusive or VIP services, access to a community or exclusive content.
Examples of the access model are:
- Software as a Service (SaaS) This model involves providing customers with access to software and related services over the internet for a recurring fee. Examples include Adobe Creative Cloud, Salesforce, and Zoom.
- Experience Subscription. This model involves providing customers with access to a service or experience (e.g. fitness classes, coworking spaces) for a recurring fee. Examples include ClassPass, WeWork, and Rent the Runway.
- Services Subscription. This model involves providing customers with a service such as lawn maintenance, cleaning, or personal styling on a regular basis for a recurring fee. Examples include LawnLove, HelloAlfred, and TrunkClub
The foundation of successful Subscription businesses
There are a number of things that need to be in place for your subscription business to take off:
The Fundamentals of Operating a Prosperous Subscription Business As you now have a grasp of the intricacies involved in transitioning to a subscription model, let’s delve into the key elements that are essential to run a successful subscription business:
Product-market fit is the holy grail of building any thriving subscription business, including those that operate on a subscription model. It entails identifying the appropriate target customers and providing them with the right product.
Achieving the ideal product-market fit necessitates a profound comprehension of your customers and their pain points. It is imperative to recognize that customers’ needs evolve as they grow, and your product should be able to adapt accordingly.
Subscription Pricing Strategy
No matter how much your customers adore your product, your business will only be successful if they are willing to pay for it. This is why selecting the appropriate pricing strategy is critical for a successful subscription business. There are four main pricing methods:
- Value-based pricing. This strategy is based on determining the price according to the value that customers perceive in the product. It is a customer-focused approach, and the price can be adjusted based on value additions, upgrades, and add-ons beyond the minimum viable product.
- Cost-plus pricing. This approach involves determining the price by adding a profit margin to the costs and expenses. However, it does not take competition into account, making it a less reliable option.
- Competitive pricing. This strategy involves matching the pricing of competitors. In a highly competitive market, it can be helpful in the short term, but it is not a sustainable long-term option.
- Demand-based pricing. This strategy involves determining the price based on the demand for the product. It may not be the most reliable option if the market is still evolving, and it does not take the customer’s perceived value into account.
- Exceptional Customer Service. As customers have to be convinced to renew their subscriptions every billing cycle, this is a key foundational element. Exceptional customer service not only helps to understand customers’ pain points on a deeper level but also aids in forming long-term relationships with them. It enables the improvement of the product based on usage data and educates customers about features they may not be aware of.
- Customer Trust. Customers must trust that the company will accurately charge their credit card on a recurring basis, that they will receive what they have paid for without any issues, and that their subscription will meet their needs and be worth their financial and emotional investment. Trust goes beyond the transaction, it is the key sentiment that supports a continued positive emotional connection between the customer and the brand.**
Understanding and monitoring key performance metrics for Subscription businesses
In order to support strong growth, every subscription business should understand and monitor key subscription metrics related to acquisition, revenue, and retention. Metrics provide insights based on data, and they are the key to making informed decisions.
Customer Acquisition Cost (CAC)
Customer Acquisition Cost (CAC) is an estimate of the cost associated with acquiring a new subscriber. It includes the costs associated with acquiring a customer, including marketing, sales, and salary of your staff.
CAC = Money spent on sales & marketing / Number of customers
CAC is important for assessing subscriber ROI (Return on Investment) since costs impact profit. It also provides visibility into acquisition campaign efficiency and helps keep marketing and sales budgets in check. When combined with LTV, CAC helps to answer questions such as:
- How effective are my sales and marketing efforts?
- Can I monetize subscribers at a higher rate than it takes to acquire them?
- How long will it take to achieve payback and what are the implications for capital?
CAC varies widely across industries and business types.
Lifetime Value to Customer Acquisition Cost Ratio (LTV:CAC ratio)
CAC combined with Lifetime Value (LTV) will tell you whether you are spending too much to acquire customers in relation to what they’re worth.
The LTV:CAC ratio measures the relationship between the lifetime value of a customer and the costs of acquiring that customer. A healthy subscription business should aim for a 3:1 ratio, or greater than $3 of profit generated for every $1 of costs to acquire the new customer.
To calculate LTV:CAC, use the following formula:
LTV / CAC
This ratio is important for assessing return on investment and identifying key levers to accelerate profitable revenue growth.
The payback period is the average time it takes for the cost of customer acquisition (CAC) to be recouped through monthly recurring revenue (MRR). It is important to measure payback period to accurately forecast how long it will take to achieve profitability and understand the implications for capital.
To calculate payback period, use the following formula:
Payback period = CAC / MRR.
Trial Conversion Rate
The trial conversion rate is the rate at which people who sign up for a free trial version of your product or service become paying subscribers. It is important to measure trial conversion rates to understand the effectiveness of your free trial and the impact on conversion to paid subscriptions.
To calculate trial conversion rate, use the following formula:
Trial conversionn rate = # of trial users converted to paid subscribers / Total number of trial
Monthly Recurring Revenue (MRR)
Monthly Recurring Revenue (MRR) is the predictable revenue a business can expect on a monthly basis, including all invoiced recurring charges, credits, and refunds from active subscriptions. It excludes one-time charges, taxes, and other variable fees.
MRR = sum of all invoiced recurring charges, credits, and refunds from active subscriptions
MRR is a valuable metric for a digital media subscription business as it can answer questions such as:
- What is the growth trajectory of my business compared to previous months?
- How is customer acquisition or churn impacting my revenue?
Monthly Recurring Revenue Growth (MRR Growth)
Tracking customer events that impact MRR is key to maintaining revenue growth and identifying reasons for any revenue decline.
MRR Growth can help answer questions such as:
- What is the cause of fluctuation in my Monthly Recurring Revenue (increase or decrease)?
- When combined with the rate of Subscriber Churn, are my high-value customers being lost?
- Does my revenue from reactivating customers peak during specific seasons or periods of the year?
Segmenting your Monthly Revenue (MR) growth can help you understand where to focus your activities.
|New MRR||MRR gained from new accounts with a new subscription|
|Expansion MRR||MRR from from accounts upgrading or increasing their monthly recurring revenue|
|Reactivation MRR||MRR earned from accounts that had previously unsubscribed and have subsequently re-subscribed|
|Churned MRR||MRR lost from accounts who have unsubscribed|
|Contraction of MRR||MRR lost from accounts downgrading their subscriptions or decreasing their monthly recurring revenue|
|Net MRR||MRR calculated as the sum of New MRR + Expansion MRR + Reactivated MRR - Contraction MRR - Churned MRR|
MRR Growth can help answer questions such as:
- Why is my MRR fluctuating?
- Combined with Subscriber Churn rate: are high-value customers churning?
- Is reactivation seasonal?
Lifetime Value (LTV)
LTV is an estimate of the profit made from the average customer over the period that they remain a customer (from signup to churn).
LTV = (Average Revenue per Customer) x (Average Customer Lifetime)
LTV is a crucial metric as it defines the maximum amount a business should spend to acquire new customers. It aids digital businesses in making important decisions related to sales, marketing, and investments. LTV can answer questions such as:
- Which customers provide the highest value to my business?
- How much should I invest in acquiring new customers while still maintaining profitability?
- How much should I spend on retaining and supporting current customers?
Subscriber Return on Investment (ROI)
Subscriber Return on Investment measures the profit received from each subscriber.
Subscriber ROI = (Revenue - Cost) / Cost
ROI helps subscription businesses understand the true nature of their growth and if it’s sustainable.
Average Revenue Per Customer (ARPC)
ARPC tells you how much revenue is received, on average, from each customer.
ARPC = (Total Revenue) / (Total Number of Customers)
ARPC provides a quick glimpse into the value of your subscribers and can be an indicator of overall growth when increases are seen. Keep in mind that a few large customers can greatly impact the average, so it’s also useful to look at the range of revenue contributed by each customer. ARPC helps to answer questions such as:
- How much revenue do I earn from each customer?
- How does the revenue from each customer compare to others?
- What is my overall revenue growth?
- If ARPC is decreasing, does that mean that my customers likely to churn?
Quick Ratio / Growth Efficiency
A measure of a company’s ability to grow recurring revenue in spite of churn. Sometimes referred to as growth efficiency. An estimate of the average cost to acquire a new customer.
Quick Ratio = (Cash + Short-term investments + Accounts receivable) / Current liabilities
Quick Ratio helps answers questions such as:
- Do we have capacity to pay our current liabilities without needing to sell our inventory or get additional funding?
The quick ratio is considered a more conservative measure than the current ratio, which includes all current assets as coverage for current liabilities. The higher the ratio result, the better a company’s liquidity and financial health; the lower the ratio, the more likely the company will struggle with paying debts.
Gross Margin Percentage
The percentage of revenue the company retains after accounting for all the direct costs associated with making a product or providing a service.
Gross Margin Percentage = (Gross Margin) / (Total Revenue)
This metric provides a measure of a business’ profitability. This metric indicates whether sales are sufficient to cover direct costs and is an important signpost to profitability. While the calculation itself is simple, it’s crucial to measure costs of goods sold (COGS) accurately for your business.
This metric answers questions around operational costs and efficiency, such as:
- How much can we reinvest back into our business?
- Do our price-points correlate to our costs?
Subscriber Churn is the number of subscribers who have ended their subscriptions over a given period, often divided by the reason for ending the subscription: voluntary or involuntary.
Subscriber Churn Rate = (Number of subscribers who have cancelled) / (Total number of subscribers)
Subscriber Churn provides insight into how well a business retains subscribers, and can answer questions such as:
- How many subscribers ended their subscriptions voluntarily?
- How many subscribers were lost due to failed payments?
- Where should I focus my customer retention efforts?
Churn MRR is the amount of monthly recurring revenue lost due to customer cancellations.
Churn MRR = (MRR from Cancelled Subscriptions) / (Total MRR)
Churn MRR is an important metric for businesses with different pricing tiers, as it allows them to see the impact of customer cancellations on their bottom line. It helps to answer questions such as:
- How much revenue am I losing due to customer cancellations?
- How does this compare to my overall revenue?
A cohort analysis is a method of observing the behavior of groups of subscribers over a period of time. It is particularly relevant to the examination of subscriber retention, as it enables the analysis of retention (and churn) over time for each group of paying subscribers that subscribed during a specific month.
Cohort analysis is a valuable tool in understanding the evolution of your subscribers. It helps to answer questions such as:
- Is my subscriber retention rate improving month by month?
- Are there any seasonal trends or other external factors (such as coupons or marketing campaigns) that have influenced my subscriber retention?
- How would Netflix manage our business?
- What are the products and services that customers typically require on a regular basis?
- Does my product or service lend itself to recurring use or consumption?
- Are there customer segments that would be willing to pay for a recurring subscription?
- Can you provide additional value by offering a longer-term commitment rather than a one-off purchase?
- Will a subscription model increase customer loyalty and retention?
- How will I handle renewals, upselling and cross-selling?
- How will I ensure customer satisfaction throughout a customer's lifetime?
- How will I use data and analytics to improve the customer experience and grow the business?
- Are there any opportunities to enhance our products or services by implementing a subscription model, in addition to traditional sales methods?
For a monthly recurring fee, customers have access to unlimited ad-free music streaming.
The popular project management Software as a Service helped pioneer the online subscription business model in 2004.
Netflix is a streaming service that allows users to watch a wide variety of TV shows and movies for a monthly subscription fee. The company has been incredibly successful with this model, with 200´ million subscribers as of 2023
Adobe Creative Cloud
Adobe’s Creative Cloud is a software suite that offers users access to a variety of design and creative tools for a monthly or annual subscription fee. For multiple decades the same design and creative tools where offered on a single-purchase basis. The switch to the Subscription business model multiplied the revenue generated considerably.
Birchbox is a monthly subscription service that delivers a box of beauty and grooming samples to subscribers for a monthly fee. The company has over 1 million subscribers.
Dollar Shave Club
Dollar Shave Club is a subscription service that delivers razors and other grooming products to subscribers on a monthly or quarterly basis. As of 2016, the company had over 3.2 million subscribers
Blue Apron is a meal-kit delivery service that sends subscribers all the ingredients and recipes they need to make a healthy meal at home.
The CRM company, Salesforce, introduced subscriptions to the software industry over ten years ago, allowing customers to access the company’s software and all updates online for a monthly fee. This differentiates Salesforce from its competitors in the software industry, and has made it one of the ten fastest growing companies in the world.
Customers receive between three to six new pairs of socks at specified intervals each year in return for regular payments. The company was founded in 1999, and has been successful in retaining customers and steadily growing the business in a number of countries by emotionalizing a simple product, black socks.
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