What is a Subscription Business Model, and How Does it Work?

Is the subscription business model right for your business?

Subscription business models are becoming more popular across industries. For many people, the word subscription is reminiscent of magazines or streaming services like Netflix or Hulu. But the truth is that the benefit of the subscription model can actually easily apply to many businesses - it’s all about encouraging and improving customer retention and creating a stable income stream.

By offering customers the option to pay a recurring amount (usually monthly but could also be annually, quarterly or any other agreed upon time frame), they receive ongoing access to whatever it is you are selling, while you receive a stable and ongoing revenue stream. 

In this article, we will explore exactly what a subscription business models entail and help you discover whether any type of subscription service can work for your business. 

What is a Subscription Business Models?

When a company opts for a subscription business models, it offers a product or service in exchange for a weekly, monthly or annual ongoing fee. Customers sign up once and then have the option to renew or cancel their subscription as time goes on. 

The subscription revenue model is generally good for the business and the customer alike. The customer gets the convenience of automatically receiving the relevant product or service without having to manually pay for it each time. And the business is retaining customers and receiving ongoing income without having to keep reaching out to new or existing customers to encourage them to continue purchasing. 

By focusing more on customer retention as opposed to acquisition of new customers, subscription-based companies are able to save time and effort and increase the lifetime value of each customer. The longer a customer continues to renew his/her subscription, the higher value that customer is. Companies must put a lot of emphasis on convenience and personalization in order to keep the customers happy - this still takes effort, but is arguably easier to do than to acquire brand-new customers. 

How does a Subscription Model Work?

The way this model works is quite simple. It is essentially a long-term contract between the business and the customer, with the customer agreeing to make recurring payments at designated time periods in order to continue receiving a particular product or service. When the contract period is up, the customer can either cancel or renew their subscription.  

Themodel has actually been around for centuries, having been introduced as far back as the 1600s by newspaper publishers who wanted to give people the option to receive the local paper at home without having to go out to purchase it. This model has grown and developed over time and now encompasses a whole range of industries from newspapers and magazines to curated food boxes to software as a service product. The model can truly work for any business that wants to focus on recurring revenue and customer retention more than one-off purchases and customer acquisition. 

While a subscription business models may sound enticing and simple - and in many ways it is - it does require hard work and significant awareness-raising and engagement of customers in order to get their buy-in. While there is no questioning the convenience that a recurring payments model affords a customer, this convenience is only necessary if there is an actual demand for the product or service. 

Subscription-Based Business Model Examples and Types

There are different types of subscription-based models that businesses can choose from, depending on what type of product or service they are offering and the needs of their target audience. Within the examples of subscription businesses that will be described below, there are two different subscription pricing models - fixed-fee and pay-as-you-go:

  • Fixed-fee means that the customer pays a set price each payment period in order to receive the product or service.
  • Pay-as-you-go means the customer is billed at the end of each payment period based on the amount of the product or service they used during that period. 

Following are examples of some of the main types of subscription businesses:

Periodicals (Magazines) 

The standard subscription business model is periodicals like newspapers, magazines and the like. Customers pay a recurring fee that is usually automatically renewed at the end of each year (or other designated time frame) and then receive the publication on an ongoing basis. This type of subscription includes daily newspapers as well as weekly or monthly magazines or other publications. Periodicals can be received in hard copy or online. 

Subscription Boxes

A subscription model niche that is growing in popularity is the subscription box. These boxes are made by companies in different industries and contain a combination of products. There is usually a discount involved so that the total cost of the box is less than the cost would be of purchasing each item separately.

Depending on the business, the customer may be given the option to choose the items in the box each time or the business may choose for them. There are pros and cons to both methods. It may be better for customer retention to allow the customer to choose their favorite products, while it can also be beneficial to introduce new products and let customers try things they might otherwise miss out on. 

The subscription box model is a great way to offer personalized services, as the company can learn the customer’s preferences and ensure that the contents of the box is always meeting their needs. Of course, there is always the risk that at some point the customer will become bored or otherwise unsatisfied with the product and will cancel their subscription, so it is important to keep offering new items. 

Memberships 

Some companies offer subscription-based memberships that are designed to breed a sense of exclusivity, giving customers who purchase the membership exclusive or early access to special deals and sales. The membership model is a good way for companies to encourage additional loyalty and customer retention and helps build an engaged community. This can be a particularly strong model for newly emerging businesses who are trying to make a name for themselves.

It can be an added challenge, however, to make sure that customers understand the benefits they will get from membership that will encourage them to pay the additional cost. If customers do not feel that they are getting significant benefit, they will cancel their memberships quickly. 

Curation Subscriptions

Similar to the traditional subscription boxes, curated subscriptions take things to another level. The idea behind this model is the provision of a completely customized box provided to the customer each week (or month, etc.). The products chosen for inclusion in the box are carefully selected based on the customer’s preferences. A lot of time and effort goes into learning about each customer and making sure that their preferences are understood and matched with the products. 

Most often found in the beauty and clothing industries, customers are drawn to curated subscription options because of the personalized attention, which leads to increased customer loyalty. 

Software or Streaming Service Subscriptions

Companies like Netflix, Hulu, HBO Go and many others are all common examples of some top subscription services. For a monthly fee, customers can sign up and get access to an unlimited amount of streaming movies and TV shows. Spotify and Apple Music use similar subscription models for streaming music. These providers use different subscription pricing strategies, for example Hulu has a cheaper price option that includes advertisement or a customer can choose to pay a higher monthly rate and then watch their shows without being interrupted by any ads. 

Subscription services are not limited to entertainment, however, and there are a huge number of software-as-a-service (SaaS) companies that provide access to their products on a subscription basis. This subscription software model works in both the consumer market - such as Microsoft offering users access to Microsoft Office for an ongoing fee - as well as in the B2B market, where many of the solutions that small businesses to big enterprises use are SaaS products. 

Access Subscriptions

Many SaaS companies identify as using the access subscription model. This means that customers pay a low fee in order to access the most basic level of the product. The more users they want to add or the more features they want to unlock require a higher level of financial investment. This is a good option for smaller companies that may not want to pay a lot for more advanced services that they do not yet need, but want to leave the door open to be able to scale up as their business grows. 

Add-on Subscriptions

When a business sells their products and services individually, but also offers the option to then sign up for a subscription plan and to receive the product and/or service on a regular basis, it is called an add-on subscription. This is a great way for a company to test the waters and see whether there is interest in a subscription model for their particular product or service without moving completely away from selling one-off products too. 

What are the Benefits of a Subscription Business Model

There are a number of benefits to companies (and customers) that use the subscription business model, including:

  • Convenience - with a subscription, customers are able to save time they would otherwise have to spend shopping for the product. The ongoing subscription means the product or service arrives automatically just when they need it. 
  • New Product Discovery - in certain subscription models, people will receive new products that align with their interests that they otherwise might never have found out about. This is good news for companies as well, as it creates a market for new products. 
  • Revenue Prediction - when a company knows exactly how many subscription customers it has, it knows exactly how much money will be coming in each month. No one likes surprises when it comes to revenue, so this is a great stress-reliever for business owners.
  • Competitive Pricing - because the subscription model focuses more on customer retention than it does on acquisition and the cost of customer retention is generally less, the expenses are lower and so the company can sell products for lower, more competitive prices. Also, knowing that there is a stable revenue stream which makes it easier to predict cash flow also gives the company a bit of leeway in pricing products. 

Pros and Cons of Subscription Business Models

Of course, while there are many benefits of the subscription business model, there are also a few challenges. Below is a brief rundown of the pros and cons:

Pros Cons
  • Inventory Management - knowing in advance how many customers are subscribed for each period means knowing exactly how much inventory is needed at any given time, preventing over or under stocking. 
  • Customer Insights - subscription customers are loyal to the brand and are likely to be willing to offer feedback and provide insights into their behavior, making it easier to anticipate and meet their needs.
  • Retention - by definition, when someone signs up for a subscription, you are retaining them as a customer as they are agreeing to a long-term purchasing plan. This saves you the money and hassle of continuing to keep them interested in making repeat purchases.
  • Upselling Opportunities - Businesses can offer special deals and new product combinations to existing subscription customers. As already loyal customers, they are more likely to trust suggestions.

  • Acquisition Costs - once a customer signs up for a subscription, the cost of retaining them is very low, but getting them to sign up in the first place can require significant effort and cost due to the high price point and commitment.
  • Competition - subscription models are growing ever more popular by the day, giving customers tons of 
    options to choose from. This makes it harder for each company to differentiate themselves and go after the audience they want.
  • Complex Operations - for subscription boxes, especially curated ones, choosing the products and organizing the logistics from sourcing to packing to shipping is a complex and time-consuming process. 
  • Loss of Interest - customers are fickle, and you never can be sure when they will lose interest in the subscription and decide not to renew, potentially making a dent in a company’s ongoing revenue. 

How to calculate it? number of units sold * price per unit
Relevant categories Finance Sales Metrics

How to Build a Subscription Model That Works

If this article has piqued your interest, and you are considering creating a subscription model for your business, we have put together some steps and guidelines that will help you build a subscription model that suits your business:

Determine if Subscription Model is Right for Your Business

Before you do anything else, you first have to determine if this model even makes sense based on what you sell. Think about whether your products or services are something that customers need on an ongoing or regular basis, and will it make their lives easier to be able to purchase a subscription instead of making continuous one-off purchases.

Set Business Goals

Once you know you want to create a subscription model, define what you want the outcome to be. Are you looking to grow your client base in general or for a specific product? Are you going after individual consumers or businesses? Questions like this will help you figure out the subscription pricing model that you will want to use, and will also inform your marketing strategy. 

Establish a Subscription Pricing Strategy

Based on your answers to the questions above and a deep-dive into your business, you will need to choose the best pricing for your subscription model. The sky's the limit, and you can experiment and test different options to see what works best. You may want to offer tiered pricing, giving more perks and benefits to those who want to pay more, for example. Remember, whatever pricing format you choose is not set in stone, you can always make adjustments based on customer feedback and when you see what is working and what is not. 

Focus on User Experience

Once you have the pricing plan in place, and you know what you are offering, you need to attract customers. To do this, you want to be sure you have a friction-free user experience. Make it easy for your prospects to understand exactly what you are offering, how it will help them, and - most importantly - make it crystal clear and simple for them to actually sign up and pay. 

Start Billing

You will want a system in place that will make it easy to collect online payments from your customers from the get-go. And don’t forget about setting up a reminder system so that they can easily renew their subscription before it ends so that they will not have a break in service, and you will not have a break in revenue. 

How to Implement a Subscription Model

At the end of the day, you can have the best products or services and a killer marketing plan, but if you do not have a strong implementation infrastructure in place, you will not be able to get and keep customers. One of the most fundamental key pieces of the puzzle that you must have in place is a way to process payments - a payment gateway and processor. 

Choose a Good Payment Gateway or Processor for Best User Experience

There are many options out there in terms of payment gateways and processors, so when you are searching for the one to use when setting up your subscription-based business, there are some key features that you will want to make sure you get:

  • Fast Onboarding - you do not want to have to wait around for weeks while due diligence is being completed before you are able to start taking payments. You want to use a system that has a quick onboarding process that will let you start taking payments from your subscription customers as quickly as possible.
  • Easy and Secure Checkout - the system absolutely must be able to provide your customers with a very clear and easy to use checkout process. State-of-the-art security features and fraud protection is a no-brainer as well. 
  • Variety of Payment Methods - not all customers are the same and people have their favorite payment methods. You will want to use a system that will enable your customers to pay using the payment method of their choice. 
  • Intelligent Insights - gathering customer data and analyzing it for actionable insights is a key step to growing your business. A good payment infrastructure will have these capabilities built in. 

Is the Subscription Model Good for a Digital Business?

A subscription model can certainly work very well with a digital business. Whether you offer a fully online business like a digital magazine or software solution or you sell physical products from an online store, the subscription model can offer any or all of the following benefits:

  • A predictable ongoing revenue stream
  • A way to grow your business quickly by onboarding new customers
  • An easy way to manage inventory because you know how many customers you have each month
  • A strong business model that is attractive to investors
  • A good way to develop deep relationships with customers that lead to loyalty and long-term relationships
  • Minimal marketing costs because the customers are automatically paying each month

What Are the Key Requirements of Subscription Billing?

When you are setting up a subscription business model and, specifically, your billing system, here are a number of important guidelines:

Prices Should Reflect Business Goals

In many ways, pricing determines the success of your business. Price too high, and you will not get any customers. Price too low, and you will not be able to keep up with the demand, compromising on quality. You need to find that sweet spot that gets you the customers you want while you can provide the level of service that you aim for. First figure out what your goals are, and then price your subscription accordingly. 

Multi-Channel Approach 

Some customers will be using a computer, others a mobile device. Some will want to speak to a customer service rep on the phone, others will want to do the entire process online. Make sure you have a system set up that enables customers to complete the purchasing process on their own terms. 

Accurate Billing

You will have to deal with things like pro-rating subscriptions when customers make changes mid-payment period. Offering different pricing tiers and programs will also make your billing process more complicated. Make sure that your billing system is foolproof and can easily account for changes and complexities. 

Automate Payments

Subscription payments need to be charged every week, month, year or whatever time period you have agreed upon. Make it easier for everyone involved by setting up automatic payments so that the customer does not have to manually re-enter payment information in order to pay each time period. 

Nurture Customer Relationships

Just because a customer has entered your subscription pipeline does not mean they will stay there forever. Your work is never done - you must always be trying to engage with the customers, getting their feedback, being responsive to their needs and offering the best possible customer experience. 

Streamline Accounting Processes

Subscription payments make for a complex accounting process. Make sure you have a system in place that can handle the process smoothly so that you can produce financial statements when needed. 

Collect and Analyze Metrics

Monitor and keep track of what your customers are doing - what products they are keeping and what they are returning, what feedback they are offering, etc. Your customers’ behavior can give you a plethora of valuable information that can help inform your strategies going forward, so make sure you are collecting and analyzing as much data as you can. 

Dynamic Pricing

Keep an eye on your competitors and their pricing. You need to make sure you remain competitive, even if that means changing your pricing structure to be more in line with the rest of the market. 

Be Ready to Scale 

You may start out small, but your goal is to grow! Set yourself up with tools and solutions that can scale with you as your business grows. 

Last Tips for Successful Business 

Just a few last words of wisdom and quick summary of all that you need to keep in mind as you set up your subscription based business:

  • Set Goals - decide exactly what you want to accomplish by setting up a subscription based business. You will need to know your goals in order to determine the pricing strategy that will work best. 
  • Customer Experience is Key - customers are attracted to seamless and fun user experiences. No one wants to work too hard in order to spend money! Give customers what they are looking for - make it easy to understand and easy to pay using the payment methods of their choice. 
  • Streamline Billing - when purchasing a subscription, it should be “one and done.” Customers should be able to enter their information one time and rest assured that their information is secure and payments will automatically be processed at each billing cycle. 
  • Interact and Engage with the Customers - build long-lasting relationships with your customers in order to keep them coming back for more. Keep giving them reasons to love your product and your company. Be attentive to their feedback and find ways to delight them at every turn. 
  • Be Ready to Grow - growth might come suddenly and quickly - don’t let it catch you unprepared. Set yourself up with the infrastructure and tools that will allow you to manage an influx of customers without compromising on service. 

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FAQs

How do subscription models make money?

Subscription models make money the same way that any other business does, by selling products or services for a price that is higher than the cost of producing or supplying the products or services. Because customers who buy subscriptions are committing to making ongoing payments, companies that use subscription business models can rely on a stable income stream.

Which type of business is most likely to use the subscription business model?

More and more businesses are finding ways to incorporate the subscription business model. What used to be reserved primarily for newspapers and magazines has spread to subscription boxes, streaming services and SaaS products. The subscription business model can be applied to any business that sells a product or service that customers will need on an ongoing basis.

What is the difference between a subscription and a membership?

Sometimes terms are used interchangeably, but a membership is more often used for services like gyms, while subscriptions are more likely used for products.

Why use a subscription business model?

A subscription business model offers convenience to both business owners and customers. Customers do not have to go out and purchase the items that they use on a regular basis when they know that they have a subscription that will be filled regularly. And companies can rely on a stable income source that comes from subscriptions.

How to convert your business to a subscription model?

To convert your business to a subscription model, you must first determine that it makes sense for your particular business. Once you have done this, you just need to change your pricing and marketing to reflect the fact that you are now offering your products/services on a subscription basis.

Why is the subscription model so popular?

The subscription model is popular because of the convenience that it offers to both customers and business owners.

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