What is Recurring Revenue Model and its Types

What is Recurring Revenue Model and Its Types?

The business landscape is in the middle of a significant paradigm shift as consumers are increasingly reliant on paying for access rather than paying for complete ownership. Many industries are starting to shift from the traditional one-time sales model to the modern-style recurring revenue model. This model allows businesses to produce consistent revenue by providing continuous access to their products or services by trading them regularly.

Before, the recurring revenue model was only limited to specific industries like movie subscriptions, music, and magazines. Today, it has become prevalent across various domains as varied as automobiles, clothing, furniture, groceries, and software.

An excellent example of a booming industry that takes advantage of the recurring revenue model is the automobile industry. Nowadays, customers can now subscribe to cars as a type of service instead of purchasing and owning a car outright. In fact, this type of business model is offered by big-name car companies like Audi, Nissan, and Porsche. In a car subscription, the vehicle insurance and maintenance costs are combined into a single monthly fee.

Unlike traditional leasing, in this modern-day model, the customers can switch cars during their subscription. That means during the duration of your subscription; you can use different cars instead of just one. This model benefits the car manufacturers by creating an additional channel for predictable income, allowing them to adjust to the ever-changing customer interests and demands quickly.

What is Recurring Revenue Model?

Recurring revenue is a business model where the vendor provides access to a product or service in exchange for a scheduled fee. This fee is then charged at recurring intervals (weekly, monthly, quarterly, or yearly). This structure forms the base for membership services and subscription-based businesses.

Since customers are always purchasing the product or services on a monthly basis, it will ensure a sustainable profit and predictable cash flow for the business. Unlike traditional one-off sales, where the business relationship between the customer and the vendor ends after a single purchase or sale, the recurring business model helps ensure a longer and deeper connection with customers to achieve the highest level of customer satisfaction and retention.

Types of Recurring Revenue Model

With enticing perks like higher customer retention and steadier cash flow, the recurring revenue business model is something that will stick around for the foreseeable future. But for you to benefit from this business structure, you need to know which type of recurring revenue model works best for your business.

To give you an idea, here are the types of recurring revenue models, along with their pros and cons:

Usage-based Billing

In this type of recurring revenue, customers are charged for their usage on a regular-based schedule. Zapier is a globally renowned remote company that allows end-users to integrate with the web applications that they use. It’s a great example of a company that utilizes usage-based billing. Zapier’s pricing scale depending on how much you automate. It ranges from $0 to $250 per month.

Pros:

  • Enables the customer to save money even when there’s irregular usage.
  • Offers excellent value for low to mid-volume users.

Cons:

  • Unpredictable revenue for business due to usage fluctuations
  • Unpredictable costs that can surprise customers.
  • This recurring revenue model may not provide good value for higher-volume customers.

Who it works for?

Usage-based billing works best for businesses that can track usage easily, whether it’s the number of APIs used or messages, invoices, or emails sent, or the number of activated triggers.

User-based Billing

Not to be mistaken with usage-based billing, user-based billing involves teams that pay for the number of “seats” or people using the product monthly or yearly. Atlassian is an excellent example of this recurring revenue model. It charges $7 a month per user for teams with more than ten people.

Pros:

  • Revenue is more predictable, and it also scales well for larger enterprise teams.
  • Users don’t need to track usage rates.

Cons:

  • It can be a potential barrier for economic teams who plan to limit the number of seats to control costs.
  • It doesn’t always go in line with a company’s product value, which means you’ll be leaving money on the table.
  • Customers may end up paying for users who aren’t active, which is usually addressed by adding prorated credits for users who have become inactive in a billing cycle.
  • Only charges for active use.

Who it works for?

Therefore, User-based billing is an excellent option for team collaboration or customer service tools.

Tiered Billing

As the name implies, this recurring revenue model is built around ‘tiers.’ Each level is created for a specific buyer persona, with its price being capped off. Once users hit their limit on a particular tier, they are then upgraded to the next tier. This new and higher tier offers more usage or functionality. HubSpot is a popular example of a business that uses this type of recurring revenue model. It has Basic, Pro, and Enterprise tiers that cater to the different needs of varying organizations and groups.

Pros:

  • It enables businesses to appeal to a broader range of users and their specific needs.
  • There is always something for everyone.
  • It also helps businesses read and understand where their target audience is found and where their customers see the most value.

Cons:

  • The phrase, ‘something for everyone is not always good.
  • It has the potential to become complicated and sprawling very quickly.

Who it works for?

Therefore, it’s most commonly used by businesses offering sales or marketing products.

Hybrid Billing

This recurring revenue business model has a unique mixture of two or more revenue models. For example, both Atlassian and Zapier offer hybrid pricing, hitting specific usage levels or user numbers. This milestone will then require the user to upgrade to the next tiered plan (tier billing).

Pros:

  • A flexible option for structuring the pricing
  • It allows businesses to conquer the disadvantage of a single model.
  • It brings more nuanced pricing that’s aligned with the company’s values.

Cons:

  • It may bring in even more complexity to the fray
  • Businesses need to take extra strides in keeping their hybrid models simple and straightforward enough for everyone to grasp and comprehend.

Who it works for?

Therefore, this works best for Software as a service (SaaS) companies where customers’ value from the service/product doesn’t fit into any single recurring revenue model.

Freemium

Finally, we have freemium – a recurring revenue model that offers a lifetime free plan with a premium upgrade. This offer converts random customers into paying ones. Dropbox, Evernote, and Buffer are a few examples of services that offer a freemium business model.

Pros:

  • Low entry barrier.
  • It’s relatively easier and faster to acquire a sizeable customer base.

Cons:

  • If businesses don’t assess this model thoroughly, they could easily run their operations at a loss servicing new customers.
  • In addition, business that misuses this model might find themselves unable to give paying customers the time and attention they need.
  • Freemium could potentially attract the wrong kind of customers who see the most value in what is “free” instead of considering the premium upgrade.

Who it works for?

Therefore, this recurring revenue model works best for businesses where the cost of servicing new customers on a free plan is relatively low. The potential is high for them to convert into paying customers within a certain period.

Here’s an article you might like: 8 Essential Freemium Tools for Small Businesses

Wrapping Up

These are some of the notable types of recurring revenue models. Keep in mind that it will be the perfect billing structure once you find the right type for your business, while it may not be for everyone. So, make sure you do thorough research. Use this article as a good resource but don’t be afraid to look for other sources of information. For recurring billing software, ReliaBills is your best bet.

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