How Robust is the Subscription-Based Business Model Really?

4 min read
05 February 2019

Between January 2012 and June 2018 subscription industry revenues grew five times faster than S&P 500 company and US retail sales revenues combined.

While subscriptions were once the preserve of monthly magazines and publications (think National Geographic or Harper’s), wine club memberships, or utilities such as quarterly electricity, phone and gas bills – today the subscription model has morphed entirely and almost anything can be bought on a recurring basis.

Netflix is often lauded for kickstarting the current online subscriptions trend. By switching from a DVD-by-mail service to video streaming back in 2007, the American media services provider increased its revenue from US$1.2 billion then, to an estimated US$11.7 billion today. A staggering 37% of the world’s internet users now have an account with Netflix.

Subscriptions are permeating every aspect of our lives, changing how we consume, not just TV and film, but software, music, food, fitness, games, clothing, toiletries…you name it. Brands that come top of mind as pioneers in the subscription arena include; Spotify for music streaming, Nike for subscriptions to kids’ trainers, Home Chef for meal kits, Uber for ride-sharing and Amazon for, a helluva lot of stuff.  

However, it’s worth pointing out that not every company that incorporates a subscription model succeeds. While getting the model right can generate billions of dollars for shareholders, getting it wrong can have dire consequences, and there are cautionary tales aplenty that warn of the main pitfalls.  

Software Companies Remake their Businesses Through Subscriptions

One of the most talked about successes in the subscription business space is American computer software company, Adobe. In the run-up to 2011 Adobe realised that its Photoshop and design software boxes, some of which were priced at as much as US$2,500 each, could become obsolete as more companies moved their software to the cloud.

Adobe sold its last boxes in 2012 choosing instead to offer its customers access to its products for a monthly fee of between US$10 to US$50. While existing customers grumbled in the beginning, this move recruited droves of new users. Today approximately 90% of Adobe’s revenue is recurring, up from just 5% before the transition. The company’s stock-price has also risen significantly, jumping 770% since the business model was changed.  

Nowadays, the subscription model dominates the software industry. Alongside Adobe, software giants such as Microsoft, Autodesk and Intuit are remaking their businesses through subscriptions. “You’re now looked at strangely as a software company if you’re not using a subscription business model,” says Sterling Auty, software analyst at J.P Morgan.

Software companies are the principal champions of this model, in main because their products are primed for it – plus they’d probably struggle to succeed against the competition otherwise. Developers can closely track their subscribers’ habits and update software in nearly real-time. This supports faster product development and innovation, benefiting customers who feel happier, and consequently stick around longer. 

Customer retention has become a focus for growth for businesses across the board, increasingly replacing new customer acquisition as a priority. This is because businesses have a 60-70% chance of selling their products and services to existing customers, versus a 5-20% chance of selling them to new prospects. A well devised subscription model is therefore, in theory, an ideal way to capture both a loyal audience and a predicable revenue stream.

Not Every Subscription Model Lands on its Feet

Unfortunately, the subscription model doesn’t work for everybody. US ingredient-and-recipe meal kit service, Blue Apron, bears testament to this fact. The company suffered a tremendous blow after going public in June 2017, losing almost 85% of its value. The reason? The cost of acquiring new customers far exceeded incoming revenue. And this is of course not an isolated story – most new subscription boxes fail within a year and for those that do survive longer, the majority of them reach a membership plateau.

This is why it’s important for companies pivoting towards the idea of a subscription model to very carefully weigh the economic implications.

Another company that tried to be a disruptor in the subscription space and failed is American movie ticketing service, MoviePass. In 2017 the company began offering one movie a day for just US$10 a month (an average movie ticket cost US$9 dollars at the time). MoviePass assumed, perhaps fairly, that they would be charging more for subscriptions than the average movie-goer paid. The problem, as it turned out, was that only the avid movie goers bought the subscription.

For a business to be successful in a case like this, “it needs to have a more uniform value distribution,” writes Aswath Damadoran, professor of finance at New York University’s, Stern School of Business. In MoviePass’s case, too small a number of people constituted too big a portion of Movie Pass’s revenue.

Movie Pass’s parent company lost 99% of its value within a year and is still working hard to repair its losses.

The Subscription Model: Still Building Momentum

Still, whichever way you turn it, the subscription model is here to stay. The line-up of companies adding subscriptions as an option for their users remains impressive and has captured financial services, healthcare, education, farming, and more. Big names that have recently introduced, or have new subscription models in the pipeline include; Mercedes-Benz for subscriptions to its luxury vehicles, and Apple, which plans to offer subscription services for its TV and News apps sometime this year.

Customers are ultimately looking for solutions; they want to make their lives easier and they increasingly expect a top-notch customer experience. This is the gap that subscription businesses are trying to fill, where customers, rather than product, are the starting point. Successful subscription businesses are learning as much as possible about their customers’ needs in order to create valuable long-term relationships (plus, this subscriber data is an important business goldmine).

The subscription model requires a digital transformation and a move away from a traditional, linear transactional model to a circular one. Having the right technology infrastructure to manage users and scale subscriptions is therefore critical. This, and a very carefully prepared business plan.

You might also be interested in: What are the Mechanics of a Good Subscription Model?

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