15 minute read 2 Jun 2020
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How to holistically plan for switching to a subscription selling model

Authors
Jeff Johnson

EY Americas Consulting Technology Solutions Leader

Solution architect. Enjoys solving complex business problems leveraging technology, process design and common sense. Creative.

Jeff Yancey

EY Americas Consulting Solution Leader

Multifaceted leader. Subscription model strategist with decades of results-oriented solution delivery experience.

Melanie Cook

EY Americas Consulting Business Transformation Leader

Lifelong consultant and experienced senior advisor helping clients enable scalable commercial transformations and supporting operations. Mentor in the community and at EY. Outdoor enthusiast who skis,

15 minute read 2 Jun 2020

By transforming products into services, companies can better satisfy shifting customer demands — if the changes are considered carefully

To avoid higher purchasing costs while gaining more opportunities for instant customization, customers are trending away from product ownership and more toward services bought as needed. For organizations to capture this demand for product/service agility, they are exploring entirely new ways to go to market centered on subscription business models — a radical shift with enormous upside potential and significant downside, if not considered thoughtfully.

Perhaps you remember buying software, using it a few years and then deciding whether to invest in an upgraded version when it arrived on store shelves. Today, you’re more likely to pay to use that software per month as you long as you need it through a subscription, with updates included automatically. And you can switch to new services, augment them or end them with a few clicks of your mouse.

Per EY research, over 90% of technology companies are embracing subscription or consumption business models. However, this seismic shift in delivery systems is not exclusive to the technology industry. In automotive, for instance, customers now have the option to subscribe to a car brand providing them access to various models from that original equipment manufacturer rather than putting thousands of dollars toward a car at one time or leasing one model for a multiyear period. Even in agriculture, farmers can now use livestock health tracking devices without purchasing them outright.

Customers enjoy this flexibility — to pay only for what they want, with the ability to pivot to something else rapidly. Now your challenge is to give it to them — or else lose them to competitors more attuned to their needs. What will this look like for your business?

Fulfilling these expectations with subscription pricing allows you to better understand your customers (businesses and individuals) and strengthen your relationships with them while creating recurring revenue sources. But the implications of this shift echo beyond just the price — covering how you sell the service, deliver it and invoice it. Your customer experience changes. Your sales team must adapt. Your underlying technology faces new demands. Your accounting process requirements could shift.

Amid the strain of COVID-19, it’s wise to challenge business as usual and rethink your offerings for a changing world. According to EY research, while many companies have started moving toward subscription models, only 55% of them believe that they are ready for that transition. As your company prepares to make the transition, we’ve highlighted four crucial areas of consideration, along with key questions to answer as you formulate your approach. Everything stems from your business strategy — so let’s start there.

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Chapter 1

Business strategy

Begin with understanding your market and your customers to develop a solid business case and a plan for communicating it to stakeholders.

There are many persuasive reasons for making a change, such as fulfilling customer expectations, disrupting your competitors and improving financial performance. Speed is obviously critical when your competitors are already making a shift, so now is the time to plan. Begin with identifying this business case for change.

Companies should rely on their sales, marketing and product development functions to stay on top of trends, so the business can plan before it has to react to what competitors are doing. For example, sales organizations may identify a demand for a subscription type of service from your customers instead of onetime purchases. This should help you pinpoint what products or services to introduce or transition from your current offerings.

For certain industries, the value proposition of migrating to a subscription-based model may enable customers to keep up with enhancements in a more timely fashion and spread their cash outlays out over a longer period of time, as opposed to waiting for a brand-new version to be complete. The company instead can roll out incremental upgrades to mirror the purchasing behavior of a subscription model.

Key questions:

•        What is your competitive landscape?

Understand to what extent your subscription offering is complementary to an existing sales channel, as another way to get to a customer, instead of replacing that channel. Put this in the context of whether you are currently gaining market share or losing it, whether you’re entering new markets, and whether you’re acting as the disrupter or the disrupted.

•        How do you model pricing scenarios to maintain or increase profitability? 

The nature of the shift to subscription pricing means that your customers can rapidly change their minds. When you understand the assumptions that drive adoption rate for the new offering, you can use forecasting to predict customer conversions from up-front purchases to subscriptions. Through forecasting, you understand your road map and the corresponding impacts to your bottom line in the short and long term.

•        How are you communicating the change and its impact to your stakeholders?

This includes your board of directors and employees and external groups. Analysts in particular need to be aware of the shift well before it happens, because it has an impact on your financials. You could face a transition period where your revenue will look like it’s shrinking, because you’re no longer charging a higher onetime purchase price.

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Chapter 2

Go-to-market orchestration

Use sales and competitor data to form your offerings, price them and bring them to market, with new sales and marketing strategies.

If you’re a company that’s just starting this journey and you’ve got a traditional product offering, you don’t have a base of reference in terms of pricing. One of the key areas to assess is how best to price and bundle your products and services (or break apart bundles into components for more flexibility). Begin by scrutinizing historical sales data and competitor data. To get the pieces together properly, perform analyses such as cost-plus profitability and product elasticity (to understand the life cycle of a particular offering), and consider the economic buying intentions of your customer.

Equipped with that information, you have developed a suite of offerings that now need tailored marketing messaging. For example, say you used to lease equipment, but now you’re providing that same equipment to enable a service, and the customer now pays a monthly fee for that service rather than the equipment. Why is that more valuable to the subscriber? You have two risks: customers go somewhere else or else continue with their typical buying pattern. And separate from risks, you also have an opportunity to identify high-impact value to the customer that you can provide at little cost.

Key questions:

•        What is the customer experience and value proposition for the transition?

Communications and strategic conversations are paramount to success, particularly if your customers are other businesses. When buying models change, customers can be put on the defensive if it just seems like an attempt to extract more money from them. Without an apparent differentiating value in a subscription, they won’t adopt the new model.

•        What is your launch strategy?

Marketing and sales must coordinate in lockstep with operations and the supply chain, so you can provide the new services in the right way. Glitches will show that your company doesn’t have its operations together — for instance, if the customer is paying for a service, or is invoiced for it, but isn’t actually granted access to use it. These disconnects are particularly painful if your customer is a business that needs the service to deliver on its own strategies and obligations.

•        How do contract obligations change?

The shift from selling product to providing it to enable a service requires a new look at contract terms and agreements, warranties, and refunds. How do you track your fixed assets that may now be physically located at your customer’s site and keep them maintained and operating properly? It may no longer be the customer’s obligation to purchase repairs for their purchased equipment. Your working capital is now tied up in equipment in their offices.

•        How is your sales organization changing?

Traditionally, companies have sales members aligned to a market or account who have an overlay of a certain type of offering. Separately, in the back office, there are maintenance or consulting revenue streams, for example. In a subscription model, they’re usually combined into one organization, as your offering is no longer around selling a product but delivering a service. There’s also an impact on compensation: sales team metrics should shift away from bookings or number of deals closed and move more toward the volume of usage, the number of users, the time they spend using the offering, annual contract value or churn rate, for example.

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Chapter 3

Technology enablement

From providing quotes to collecting revenue, subscription models can strain systems and processes that are not tightly integrated.

Enterprise resource planning (ERP) systems were initially designed decades ago. Some of them seem more like time capsules of how business used to work: a customer bought a product and then it had to be shipped. As the world has evolved to a services economy, ERP systems have morphed to pick up different capabilities on billing and fulfillment, but such systems often remain costly and cumbersome to design and implement.

In a recurring revenue model, the pain points of an outdated system can manifest themselves in frustrating ways. For example, if it’s set up purely to intake onetime new orders, your staff may need to repeatedly input “new” orders — for the existing service arrangement — just to generate monthly or quarterly billing.

When a company customizes its own solutions atop an older ERP system, its teams then face a burden to keep them fit-for-purpose without disruptions to service fulfillment and reporting, making them difficult to maintain on a go-forward basis. Customization also freezes your ERP system in amber, as it may no longer be easily updated.

Ultimately, technology and processes need to be scrutinized through a different lens. Some people approach this as: “I want to fit things into the way I do it.” But this is different and needs to be treated as such. New software solutions are becoming available on the market specifically for subscription models.

Key questions:

•        Do your operations support changes to your selling strategy?

From quoting through revenue, you have a lot to execute seamlessly, with added complexity from customer flexibility. You need harmony across four areas: your quote to the customer, how you fulfill that request, how you bill the customer for it, and how you earn the revenue associated with it. Data-centric integration is key. Consider what new technology tools and processes you need for each step along the way, like in the next few questions.

•        What configure price quote (CPQ) or customer relationship management (CRM) platforms are needed?

With a CPQ system, you or your customers choose components — say, for creating a computer that they want — and receive a price quote based on those selections. You need this information to move to order fulfillment automatically, without rekeying information in a manual process, to deliver what the customers need at the price they expect. When a CPQ system doesn’t talk to the ERP system, you may create misalignment between what customers believe they ordered and how you have fulfilled their order or invoiced them for it — for instance, by not providing them with all the components in a bundle or billing them incorrectly for it. You don’t match what your customer is buying or what they’re paying, and you experience revenue leakage — for instance, not knowing when to shut off access to the service. Or if your quote doesn’t match your invoice, you may delay payment from customers simply because it doesn’t match their purchase order.

•        What billing system is needed?

A cellphone plan may offer you a set subscription rate each month, but then you may need to pay more if you surpass a certain threshold on data usage, for example. In most industries, legacy billing systems aren’t equipped to “count” or factor in optionality. Consider your metering — whatever you’re counting, whether it’s pages printed, or transactions processed — and see how it needs to fit into your billing system.

•        Do your systems support multiple sales channels?

B2C has a greater velocity of changes, as customers are encouraged to go online and make changes to their accounts as they need to. By contrast, the mechanics of billing itself, typically through a credit card, is relatively straightforward. For B2B, there are fewer changes, but the payment processing is vastly more complex. Businesses want invoices — perhaps even thousands of them for individual stores, or a consolidated invoice. They may even require your invoice to be structured in a certain way, such as for country-specific tax requirements or language needs.

•        To what extent are you able to automate?

Less manual work leaves more time for analysis, insight and business engagement. For example, revenue recognition software can be implemented to automate revenue and reporting processes. Revenue recognition software can be implemented to standardize data collection and reporting with business processes. But if standard software is not available, focus on data quality and create focused teams aligned with IT to support data collection and reporting.

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Chapter 4

Finance

Accounting and reporting challenges can surface if personnel, processes and technologies can’t keep up with increased volume and complexity.

According to 2019 research from CFO Magazine, 48% of businesses with a recurring revenue model struggle to meet accounting and reporting challenges. One potential reason may be because today’s order-to-cash processes are designed based on a standard set of product and service offerings, not on-demand offerings and configurations.

A subscription model has ripple effects across your people, your processes, your technology and locations where you deliver your services — your “finance ecosystem.”

You need systems to unify your quotes with the services ultimately provided and the invoices produced not just for basic customer service, but also because there are accounting implications for getting it wrong. The people handling the finance side need an entirely new mindset and must understand new processes for an increase in billing and collections, as the time periods recur.

Supporting regulatory reporting requirements and establishing month-end close procedures in line with revenue recognition policies is priority one. Solidify a near-term solution for maintaining accounting fundamentals with additional personnel and/or a technology solution. Create processes to support contract changes, service adjustments and cancellations for minimum viable reporting while the organization works toward more stabilized processes.

Key questions:

•        Are you prepared for changes to associated accounting?

Maybe you’re providing digital content across jurisdictions with different tax considerations, so you have to track usage and confirm that those metrics are connected with your finance function for accurate reporting. Contract modifications may be accounted for as new contracts or as retroactive adjustments, prospective adjustments or a combination of both. You may be triggering different revenue recognition accounting requirements under your new setup as well.

•        Are you prepared for an increase in volume with more frequent billing associated with subscriptions?

Generally you will be billing more frequently under a subscription model, with customers able to modify their services easily. And if your process has a significant manual component, then scalability is a key concern. Do you need a bigger team, including in collections processing?

•        Are you prepared for the working-capital impacts?

Instead of making US$1 million through onetime up-front sales, you could be making that amount over five years. As noted, analysts in particular need to be cognizant of the changes and the long-term strategy.

•        Can your revenue accounting engine handle the complexity?

Globally, everyone accounts for revenue the same way, based on what you deliver to your customer. Perhaps you bill the customer on the day they sign up for their subscription, but you earn your revenue only as the service is delivered — in other words, revenue is segregated from billing, unlike in a traditional point-of-sale system. What the customer is paying and what you’re earning are different on a day-to-day basis, whether that’s because of the number of days in a month (a flat per-month rate divided differently) or because the customer signed up in the middle of a month. To get the accounting right in a suboptimal system, more manual steps are required, with increasing risks of getting it wrong.

•        Does your staff need to upskill, or do you need new talent?

Start identifying and hiring for more cross-functional skill sets, such as mindset flexibility, data/analytics aptitude, communication and collaboration. Pair new finance analysts with these skills with established IT professionals to pair business knowledge with technology acumen. Support redeployment of finance personnel across roles. Design a long-term talent strategy that results in more collaborative, customer-facing teams.

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Chapter 5

An end-to-end approach

Ideally, your subscription-selling strategy is enabled through a process structure a bit like what you see below.

Process structure for subscription-selling strategy

An end-to-end approach starts with your contract orchestration: your offer of different service components to the customer, how they’re bundled and the pricing. For a onetime purchase, the customer’s order is sent in for order processing and fulfilled through shipments or provisioning. Projects may be set up to manage delivery of certain services over time, and the resources and systems are allocated to take care of that commitment. For a subscription service, the contract is sent through subscription management to address all the subscription line items on an order — like certain channels in a cable-TV package, for instance. Provisioning and entitlement provide access to the services that the customer ordered, while consumption tracks any services that are billed based on what is actually used.

Revenue contracts tackle potential complexities from selling new services along with traditional products. For example, a free six-month promotion for a new service sold with a traditional product may result in allocations of revenue among these performance obligations, as well as differences in when revenue is deferred and earned on the contract. Customer changes to their contracts may also impact revenue allocations and patterns, regardless of the billing activity. The ability to have the scale to account for these situations while maintaining the fiscal close schedule may require more automation of the revenue accounting function. Forecasting and management reporting are dependent on performing the revenue accounting at sufficient levels of detail. A front-end deal assessment process helps prevent significant surprise deviations to keep revenue accounting tidy.

An added benefit is that, as a provider of a subscription service, you are now positioned to capture more  information from customers than you could through onetime sales: their upgrades and downgrades, the consumption patterns, and what they choose to consume. With mature analytics capabilities, you’re equipped to put these insights to use to refine your customer experience, as well as identify usage trends and areas for improvement.

Subscription models can undoubtedly be a tricky proposition for a company. But they also act as a strong value proposition that caters to the expectations of a broader customer base and that powerfully disrupts markets in your favor, while providing a consistent revenue stream — all the more important during a crisis.

Summary

Customers enjoy the flexibility of paying only for what they want and pivoting to other services rapidly as they see fit. Identifying customer needs, developing subscription offerings to serve those needs, and enabling sales and marketing teams to effectively bring those services to market will look different for every company — but on the back end, your technology, processes and people must be aligned to prevent revenue leakage, service disruptions and accounting challenges. With a holistic plan, you can strengthen your relationships with customers while appealing to different segments and disrupt your competitors, while also gaining a recurring source of revenue.

About this article

Authors
Jeff Johnson

EY Americas Consulting Technology Solutions Leader

Solution architect. Enjoys solving complex business problems leveraging technology, process design and common sense. Creative.

Jeff Yancey

EY Americas Consulting Solution Leader

Multifaceted leader. Subscription model strategist with decades of results-oriented solution delivery experience.

Melanie Cook

EY Americas Consulting Business Transformation Leader

Lifelong consultant and experienced senior advisor helping clients enable scalable commercial transformations and supporting operations. Mentor in the community and at EY. Outdoor enthusiast who skis,