Consider that services now represent around 80 per cent of UK GDP and it’s no surprise that businesses are increasingly seeking to take a share of the booming “as-a-service” economy. But moving to a more service-oriented business and financial model comes with its challenges too; it should be managed with care to ensure that there’s no fallout from the transition and that the expectations of all stakeholders are set and met.
This transition is something we encountered at Wax Digital over the past 18 months. We’re an independent, privately-owned UK software company and although we’ve been delivering our product “as-a-service” for many years, our financial model was a traditional one, with up front charging for software licences.
Internal drivers of cash control, forecasting visibility and business predictability, alongside external drivers such as targeting new markets, recently led us to the decision to move to a subscription basis.
So what lessons did we learn along the way?
Ensure a clear business case
The business case was pretty clear to us but it would be easy to get caught in the services wave and think you need to make this change without really scoping out the cause and effect.
One of our key external drivers was meeting the needs of new markets. Traditionally we worked with larger enterprise customers whose cash position meant they were familiar and more comfortable with a capital based payment model.
However, there were instances where a large capital outlay with a relatively small company was a business obstacle and we wanted to overcome this. But additionally our growth plans involved targeting the mid-market, where keen cash management is the order of play. We could see a strong case for the new model here to gain acceptance as a mid-market ready software provider.
But there was an internal business case too. While a large capital contract is a great cash injection it leads to a “lumpy” revenue stream with little predictability. “When will the next one hit?” was a common question. We wanted to create predictability and forecast our run rate more clearly – matching annual overheads against annual revenues.
Pick a good time to change
While the long term benefits of pre-booked revenue are obvious, the short term impacts of moving from a capital to subscription model can be significant. It’s therefore important to pick a “healthy” time within the business to make the change.
One day you are winning business and receiving payment in full for a multi-year contract, which is being counted in your current numbers. The next, however, you are only able to count a third to a fifth of the revenue from your new business activity in your current P&L. At the same time you still have the cost of delivering on “in-progress” capital projects from previous years to contend with.
Ideally you need to ensure there’s a healthy and sound business pipeline through your transition year, so that growth can at least be flat and all of your costs covered. For Wax Digital, being in a period where we attracted 22 new clients and 15 renewals helped us to ride this out. We were still able to achieve good financial performance in that year, in spite of the change, while also establishing a strong base for the future model too.
Have a look at some other FD stories:
- The FD who left EY in favour of the startup world and P2P lending
- “Adaptability to move into new areas” is key says former Lloyds MD Ian Larkin
- The “financial entrepreneur” with Lotus Cars, Wayra and Brightpearl on his CV
Keep things flexible
Moving to a new model doesn’t have to mean giving up the old one. We still have customers wishing to pay on a capital basis because it suits their own business model. In our sector lots of areas of technology have moved wholly to a subscription model, but we decided to keep both options. Although nine out of ten customers are now subscription based, we’ve remained flexible to align our financial decisions with customer needs.
Communication is critical
Setting and meeting expectations through good communication is possibly the most critical success factor. You have to face the fact that the change will impact most stakeholders of the business and you need to tell them why you’re doing it, what will happen and of course how the future will be better as a result.
For existing customers there’s the question of “Why rock the boat?” Is the change the result of something going wrong or is it going to create added hassle and work for them? The reality is that there are many benefits, including reduced risk, faster ROI and more options.
For shareholders and investors there’s the question of “Why is revenue flat?” Good communication is essential in keeping them focused on the short term reasons for this, future growth and the benefit of financial predictability.
For employees there could be a reward issue. “If we’ve won so much new business how come we’re not seeing the benefit?” They need to know what the period of change means and how greater financial certainty translates into greater employment security.
With good planning, timing and communication changing your financial model can do much more than fine tune your business operations – it can open the door to a whole new set of great opportunities.
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