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With subscription models expanding, outside of the world of video/music, the benefits are clear: lower up-front cost for the subscriber leads to easier customer acquisition and stronger retention, alongside a predictable and guaranteed inflow for cash to support product innovation.

Subscription models are not a new phenomenon – we have had subscription magazines, newspapers, and television for decades. However, with the “digitisation of things” and the enhanced use of tech within the supply chain, we now see subscriptions outside of the traditional.

Subscription models are favoured by many companies due to recurring revenue potential and higher customer lifetime value. Investors use subscribers as a measure of value for a company’s worth. Customers build up familiarity with a service and can often be psychologically reluctant to move away from subscriptions, but there are also drawbacks, such as the cost of user acquisition and high customer churn in some areas (e.g. Food Services c10%).

Subscription models are seen as favourable compared to license (or pay-to-own) models as subscription leads to a recurring stream of revenue and, given the service will end if the subscriber cancels, this is a great retention tool too. Moreover, it isn’t just about the transaction, as subscriptions also bring insight about usage, which can be monetised further. With the prevalence of high speed broadband, consumers are “cutting the cord” from traditional locked-in TV (Sky, DirecTV, Virgin) and shifting to OTT zero-contract services, which are cheaper and more flexible. For example, Amazon Prime (100m+ subscribers), Netflix (125m+), and Hulu (20m+). And this eat-as-much-as-you-like economy, as well as a value gap between app engagement and app revenue in the emerging markets, has seen a Netflix-style apps subscription spring up.

We think it likely that we will see further growth in the “subscription economy”, but there are also drawbacks. For instance, for a customer, the cost of switching can be very high, e.g. if an Apple Music subscriber switches away from the service, the customer will lose all of their historical downloads, and returning users must re-download each individual track. Clearly a retention tool. But companies often have to pay upfront to attract users, spending on marketing before they see financial fruit.

Subscription models drive stronger financials
- From a software perspective, businesses are still focused on growing their customer base, spending huge sums on marketing and sales talent to bring on new customers, with less than 10% on increasing the revenue per customer, and only just over 20% focused on retention. Logically doing all three increases revenue much quicker, and as a result would increase margin and even potentially reduce costs too. With subscription models, given the lower upfront cost, “add-on creep” is much easier. It is much easier to provide incremental features or products for free at first and then increase subscription price later.

When building a successful subscription models; seven key areas should be considered:
#1 Pricing.
#2 Establish multiple channels to acquire customers.
#3 Accurate billing.
#4 Settlement.
#5 Nurture the acquired customers.
#6 Continuous product evolution.
#7 Scale.

To view the full note - please email marketing@peelhunt.com