What Is Recurring Revenue? Models, Considerations, and Strategies

Few things are more satisfying than seeing the numbers go up as money drops into your account — on repeat. A recurring revenue model means reliable income coming in at the same time, month after month, quarter after quarter, year after year. If you're operating under a usage model, with customers paying only for what they use, you might consider a switch.

But will your clients pay for an ongoing subscription? Can your website and payment systems accommodate that? And will you be offering your customers an ongoing value they can't easily find elsewhere? Read on to learn if a recurring revenue model fits in with your revenue lifecycle management software and the ways it can drive revenue growth for you.

• What is recurring revenue?
• Benefits of recurring revenue
• Types of recurring revenue
• Considerations for implementing recurring revenue
• Monthly recurring revenue vs. annual recurring revenue
• Important recurring revenue metrics to know
• How are subscription-based business models impacting recurring revenue?
• 7 Strategies to improve recurring revenue
• Using CRM and analytics tools

Recurring revenue refers to the predictable and recurring revenue derived from a company's products and services. It is a sales model that brings in consistent, reliable income streams by charging customers for ongoing services. With the dependable cash flow that recurring revenue provides, companies are in a position to make better financial decisions for their businesses.

It also projects a company's stability to potential investors.

Recurring revenue is a good indicator of the health of a subscription business. It's revenue that a company expects to repeat, so it can measure progress and predict future growth. It is useful to measure the momentum of new sales, renewals, and upgrades. Recurring revenue can also reveal lost momentum, downgrades, and customer churn.

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A recurring revenue strategy has one obvious benefit: a predictable and stable cash flow. Unlike traditional sales models that rely on one-time purchases, recurring revenue ensures a steady income stream. This kind of consistency makes it easier for companies to effectively manage their expenses, plan for growth, and make investments to their business.

Other benefits include:

• Customer loyalty: When customers subscribe to a service or product on a regular basis, they are more likely to develop a deeper relationship with the brand.
• Retention: Ongoing engagement fosters a sense of commitment and trust, reducing the likelihood of customers switching to competitors.
• Better value to customers: With a recurring revenue model, customers continually receive updates, new features, and improved services.
• Strategic planning: With a dependable source of revenue, businesses are better able to set realistic goals, allocate resources efficiently, and anticipate market trends.
• Accurate forecasts: By analyzing subscription data, companies can predict future income based on existing customer commitments and expected renewal rates.
• Appealing to investors: Accurate projections enhance a company's attractiveness to investors, as they demonstrate stability and growth potential.

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There are almost as many recurring revenue models as there are types of businesses. Companies have become increasingly creative in adapting their businesses to a recurring revenue model to take advantage of its many benefits. Some of these models include:

• Subscription model: With a subscription business model, customers pay a recurring fee (monthly, quarterly, or annually) to access a product or service. Examples include subscription movie and music services and software as a service (SaaS) platforms.
• Membership model: Customers pay a recurring fee to be part of a community or to gain access to exclusive content, benefits, or services. This includes professional associations, gyms, or online communities.
• Consumables model: Customers regularly purchase consumable goods that need to be replenished. Examples include the delivery of meal kits, dog food, and razors.
• Service contracts: Customers pay regularly for ongoing services, typically involving maintenance or support. This includes things such as home security services and IT support services.
• Leasing model: Customers pay a recurring fee to use a product without owning it. Think car leases or business equipment.
• Licensing model: Businesses pay a recurring fee to use intellectual property, software, or technology. This includes media streaming rights and software licensing agreements.
• Renting model: Customers pay a recurring fee to rent physical items. Furniture rentals and designer clothing rentals fall under this category.
• Affiliate programs: Recurring commissions are earned for referring customers to another business's recurring service.
• Content subscription: Customers pay for access to digital content such as news, articles, videos, or research.
• Freemium model: Basic services are offered for free, while advanced features require a recurring subscription.
• Hybrid models: This combines elements from multiple recurring revenue models to maximize profits.

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A recurring revenue model is a great way to build a reliable revenue stream and build long-term relationships with your customers. But before you commit, be sure to go over every aspect of your business to make sure it's compatible with a recurring revenue model.

First things first — do your customers want a subscription business model for your products or services? Conduct surveys or focus groups with your current customers to gauge interest.

Do your competitors offer a subscription model? See if it's working for them — and how you can improve on their service.

Other considerations include:

• Ongoing value: Make sure your customers are getting a clear, consistent value for your product or service. A subscription is a continual financial commitment, so you want to offer something your customers can't find elsewhere.
• Pricing: Find the sweet spot in your pricing between affordability for your customers and profitability for your company. Consider offering tiered plans so that your subscription is appealing to a wider range of customers. Higher subscription tiers can offer exclusive content, special perks, or an extra level of support.
• IT readiness: Switching to a recurring revenue model for your customers is not as easy as just clicking a button. Check to see that your website and payment systems can handle recurring billing and subscription management. Make sure you have the budget to build a scalable infrastructure, including costs for new technology, content creation, and logistics.
• Customer support: In addition to the usual queries, your customer service team will need to be trained on how to address questions about subscriptions, renewals, and cancellations. Create loyalty programs to encourage customers to click the "resubscribe" button every month — or every year.
• Sales and marketing: Consider offering free trials, partnerships, or bonuses. Plan for regular updates to your products or services to keep the service fresh and valuable to customers.
• Software upgrades: Invest in reliable revenue lifecycle management software to automate billing, renewals, and customer communications. Use analytics to track subscription metrics and sales key performance indicators (KPIs) such as acquisition rates, churn rates, and customer lifetime value.

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Monthly recurring revenue (MRR) is a metric that most teams should closely monitor each month. MRR breaks the revenue into monthly increments, offering a more immediate view of trends. It's useful for spotting short-term fluctuations and making quick adjustments. It gives you a peek at how well your sales team and marketing efforts are performing, whether your business is effective at customer retention, and if any recent product launches, updates, or pricing changes impacted customers.

Generally, companies look forward to month-over-month increases in MRR to compound their growth and progressively scale their business and revenue operations. To do so, companies focus on nurturing loyalty among customers to minimize churn and increase average client billings. Customer acquisition is an important factor, too, but retention is a higher priority, since high turnover can quickly undermine even the most successful acquisition campaigns.

For long-term planning, most companies look at annual recurring revenue (ARR) to help them project cash flow, determine budgets and investment decisions, and build their roadmap. ARR is the total revenue a business expects to earn from its subscribers in a year. It helps companies make strategic decisions and forecast long-term growth. This gives them a baseline expectation of how much revenue they'll generate over the next 12 months. However, it's more important that they consistently improve MRR to outperform any earlier annual revenue forecasts.

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As more organizations adopt subscription sales models, it's important to understand how to calculate recurring revenue. The easiest way to determine monthly recurring revenue is with the following formula:

New customer subscription revenue
+
Existing customer subscription revenue
+
Add-on and license upgrade fees from existing customers
-
Lost revenue from churned customer accounts
-
Lost revenue from license downgrades or removed add-ons

New versus existing customer subscription revenue: It's important to distinguish between new and existing monthly subscriptions. This allows your business to evaluate the average duration of customer accounts separately from an upcoming anticipated turnover. Otherwise, you might assume that all customers from one month will fully carry over into the next, and for an indefinite period. By operating that way, you don't account for client churn.

Add-on and license upgrade fees: When appropriate, your account managers and product marketing specialists should encourage customers to upgrade their licenses and add on premium paid features.

Lost revenue: Naturally, customers come and go. Some might end their subscriptions, while others may downgrade to a free or less expensive plan. In any case, business owners and sales managers have to account for all these variables when calculating monthly recurring revenue.

Be aware that in most subscription-based businesses, customer acquisition and churn happen consistently throughout the year. But that's not always the case. Pay attention to potential seasonal fluctuations when making your calculations. For example, if your company provides bottled water to offices, average order sizes may increase during the hotter months of the year.

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You've already done the hard part. Once you've calculated MRR, multiply your monthly recurring revenue by 12 (for the 12 months of the year) to get your annual recurring revenue.

Here's the formula:

monthly recurring revenue (MRR)

x

12 months

=

Annual recurring revenue (ARR)

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Now that you've committed to a recurring revenue model, you'll need to analyze a new set of numbers to understand the health of your business. Here are some key sales metrics to monitor:

• Revenue metrics: MMR and ARR, or the total revenue expected on a monthly or annual basis from all active subscriptions; along with average revenue per user (ARPU), or the average revenue generated per user over a period of time.
• Customer metrics: Customer acquisition cost (CAC), or the cost of acquiring a new customer; customer lifetime value (LTV), or the total revenue to expect from a customer over the course of the relationship with your company; churn rate, or the percentage of customers who cancel their subscriptions; and customer retention rate, or the percentage of customers who keep their subscriptions.
• Growth metrics: Net revenue churn, or the amount of revenue lost from churned customers minus any expansion revenue from existing customers; along with customer growth rate, or the rate the company acquires new customers.
• Efficiency metrics: LTV to CAC ratio, which compares the lifetime value of a customer to the cost of acquiring that customer; along with the months to recover CAC, or the time it takes to recoup the cost of acquiring a customer.
• Usage and engagement metrics: Active users, or the number of users actively engaging with your products or services; along with usage frequency, or how often customers are using your products or services.
• Financial metrics: Gross margin, or the percentage of total revenue that exceeds the cost of goods sold (COGS); along with burn rate, or the rate at which your company is spending its cash reserves.

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Subscription-based business models make recurring revenue easy and predictable. At the same time, providers are accountable for delivering consistent value with their product or service, companies can access usage data to better innovate their solutions, and technology streamlines the onboarding process while providing self-service upgrades.

Furthermore, subscription-based billing has created more accountability among sellers. Because most customers aren't tied to long-term contracts with complicated termination clauses, businesses are expected to deliver consistent value and reliable service to their clients month after month.

Usage data becomes crucial to measure, too. For example, you need to monitor how much customers use your platform, which features they enjoy the most, and which they use the least to inform the company's product development plans. Companies have worked hard to make it easier for prospects to quickly adopt their platforms, lowering the potential friction otherwise caused by switching costs.

Technology has also made it easier for buyers to sign up and start using a new subscription service. They can often seamlessly add on extra features each month or upgrade their subscription tier using a business's self-service platform. This minimizes the need for account managers to frequently upsell users.

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Beyond simply calculating and monitoring MRR and ARR, companies can employ a few strategies to drive growth.

• Offer annual licenses: To secure longer-term commitments, some companies offer discounts for an annual subscription, creating a win-win situation. Customers get to take advantage of the savings, and businesses maintain cash flow with a full year's worth of fees upfront. The annual commitment also helps minimize churn, since customers are less likely to end a subscription they've already paid for. One caveat: This method can complicate the way companies calculate monthly recurring revenue. However, the gains in annual recurring revenue are often worth it.
• Automate payments: Earlier B2B sales processes required a lot of operational resources. Accounts receivable teams were required to know when and how often to bill clients after services were provided, what the contract terms were, and the names and contact information of all the important client-side contacts. Companies can save time by automatically withdrawing payments through linked bank accounts or credit cards on file at each successive monthly renewal date. Many CRMs facilitate this process, so you cut down on having to manually chase down a delinquent invoice.
• Send delinquent payment notifications to end users: Of course, if authorized payment methods fail, you can trigger in-app messages and automated emails that directly notify users to update their information. Previously, departments were more siloed, so if a customer's finance department had a delay in responding to a payment inquiry, the company's end users would still expect services to be rendered. Direct notifications incentivize end users to work with their internal teams to update their payment method or risk losing service.
• Upgrade your accounting tools: Accounting tools integrated with your CRM platform help businesses quickly determine MRR and ARR. This streamlines financial reporting and minimizes data errors because you can get a real-time update on the latest customer acquisition, retention, and average account size numbers.
• Upsell and cross-sell: Use CRM software to analyze customer purchase history and behavior. This will reveal opportunities to cross-sell related products or services or upsell premium features. Upselling and cross-selling not only increase the average revenue per customer — they also improve customer satisfaction by offering relevant solutions.
• Improve customer onboarding experiences: Prioritizing customer satisfaction over one-time sales is a core tenet of the recurring revenue model. Creating an intuitive and easy-to-use platform ensures customers quickly get up to speed and understand your company's value from the first click.
• Implement retention strategies: A recurring revenue model makes offering consistent value to your customers easier. They're already engaged, so you can introduce updates, new features, and improvements to your products or services. Newsletters and personalized SMS messages will keep customers updated with regular communications. And loyalty programs encourage them to stick around — and renew their subscriptions.

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To keep track of all of these metrics, it's helpful to use customer service management (CRM) software and analytic tools.

CRMs can store customer information — things such as contact details, purchase history, and subscription status — in one central location. This helps track customer behavior and preferences, which is essential for understanding the reasons behind retention and churn.

CRMs can also automatically generate reports on key metrics, providing real-time insights into the health of your business. They allow you to segment customers based on criteria such as subscription type, usage patterns, and engagement levels.

Analytic tools can integrate data from multiple sources, providing an omniview of your business performance. These tools also offer customizable dashboards and advanced reporting capabilities, allowing you to identify trends and make informed decisions on the fly.

Combined, CRM data and analytics can help with customer retention, improved financial management, and data-driven decision-making.

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Recurring revenue has steadily gained in popularity as a business model for a reason — it provides a steady cash flow. It also encourages customer loyalty, provides accurate forecasting, and transforms businesses from being reactive to proactive. Perhaps most important, though, it fosters an environment that builds meaningful, long-lasting customer relationships.