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Painless migration to a subscription-based services business model

The subscription-based service business model has blown away the older structures of many marketplaces. Here are how-tos on migrating to the model.

Companies like Salesforce.com have made Software as a Service standard fare for IT software procurement. Subscriptions...

have become such a successful business model that companies have sprung up to offer all sorts of services.

Denis PombriantDenis

Zipcar lets you subscribe to transportation by the hour for a single and simple price, Rent the Runway delivers fashions the same way, and wine-of-the-month clubs have proliferated. Rather than buying expensive software licenses, customers subscribe for online use of software and pay a relatively small monthly fee.

Why are subscriptions so appealing to customers? First, subscriptions significantly reduce costs -- particularly up-front ones -- because customers pay for subscriptions the same way they consume them: in small, typically monthly, increments. Reducing up-front costs also reduces consumers' barriers to entry, where products that were once too costly can now be subscribed to at attractive price points. Second, customers can stop consuming services almost at will. Third, customers benefit from additional flexibility because subscription conditions can be changed within the term, can include upgrades to core functionality and can often be canceled without penalty.

As a result, subscriptions have opened up new avenues for customer involvement that empower consumers by forcing a continuing rapport between vendors and customers. But if a vendor is not operationally prepared, it can result in customer churn and revenue losses.

SaaS kills traditional software models

We are increasingly a pay-as-you-go culture and subscriptions are becoming commonplace.

The subscription-based service business model has blown away the older structures of many marketplaces. If you are a vendor, there are many reasons to be leery of subscriptions, but their success has made many traditional modes of sales and delivery uncompetitive, which has prompted many conventional vendors to reluctantly embrace the model.

But embracing subscriptions has pitfalls. For instance, if your business is based on million-dollar deals and a subscription-based business generates a fraction of that amount on a monthly recurring basis, you'll need to show investors some light at the end of the tunnel.

Nonetheless, a new Economist report, plus my ongoing research, supports the notion that the benefits of converting to a subscription-based business model outweigh the risks. According to the report, 40% of executives surveyed said they were incorporating some form of subscription. It's time for conventional businesses to transition to the pay-as-you-go model.

But how do conventional businesses, accustomed to big sales and big invoices, adapt to smaller increments of subscription-based revenue? Here's a primer on how to do it.

1. Test subscription-based services with new offerings. Pick a segment of your business that you can "wall off," such as a new product line. Many executives worry about new products cannibalizing existing revenue bases, so test subscriptions with a product that is tangential to your core.

2. Transition subscriptions into your core. There are good reasons to bring a subscription service into a more core area of your business. First, you will discover there is a great deal of inertia in your customer base. Customers have invested substantial dollars in training and infrastructure that can't be discarded simply because your subscription is financially attractive at the start.

3. Expect customer relationships to change. Your customers will unconsciously drift into a new relationship model with you in which they expect more and different services. New subscription products need to be wrapped in policies and procedures to prevent customer confusion and alienation.

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4. Collect the right data. Because subscribers have more exposure to your business through indirect channels like your website, communities and social media, you'll need to become adept at collecting and analyzing their data trails. Develop metrics that indicate use patterns, attitudes and future demand. You also need to track churn and attrition: the processes by which existing customers leave the service. It's particularly important to understand attrition because new customers, who need investment and coaching, are less profitable than old customers because new ones need your investment in the form of services and coaching.

5. Remember the back office. Your enterprise resource planning (ERP) system is ill-suited to handling subscriptions. ERP systems were designed to handle single transactions, not recurring subscription-based service transactions. Subscribers can change the configuration of their purchases at will, which changes the invoicing process completely. Also note that you might recognize only 1/12 of a subscription's revenue each month, even if customers pay their subscriptions a year in advance.

Adopt the mantra "I will not use spreadsheets to manage this critical new part of my business." Software tools on the market can manage a subscription-based service business from order fulfillment to invoicing to posting revenue.

Humans dislike change, and migrating to a subscription-based model is a big one. But the marketplace has spoken. We are increasingly a pay-as-you-go culture and subscriptions are becoming commonplace.

If you keep these five points in mind, you have a good chance of migrating to the new business model and reaping the rewards of larger addressable markets and a recurring revenue stream -- without incurring the pain that change often brings.

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Insightful article. No arguments but I do have a couple of additions. First, there are some customers that prefer a perpetual license over a subscription. Except for hosting (which can be an recurring payment), a subscription can be converted into a lumpsum + maintenance payments and vice versa. Do the deal, get/keep the customer.

Second, you'll need to figure out how to handle the installed base. Some will want to add-on to what they have. Others will want to migrate to a subscription basis. You'll need to know what to do in both cases.

Finally, the changed customer relationship is nothing like the changed relationship with your own salesforce. Also, the development cadence and support are likely to change.

I wouldn't say that migrating to a subscription busienss model is painless -- but the pain can certainly be managed.

Jim Geisman
Software Pricing Partners, Inc.