The 3 Types of Startups You Should Build If $1 Million Sounds Nice

Sah Kilic

And this is based on 10,000 small businesses. by freestocks on Unsplash

A startup is synonymous with scale, and scaling is all about selling a product repeatedly without incurring equivalent costs.

You might think selling a product multiple times is simple; you create something digital once, like an e-book, and you keep selling it — and yes, that works quite well, but it’s only the tip of the iceberg.

What makes a business profitable is locking down the “over and over” part we mentioned before. According to John Warrillow, writer of Built To Sell, the top businesses ultimately get to a strong position by having predictable revenue, aka, recurring revenue.

It wasn’t voodoo; it was research.

According to the foreword in Warrillow’s book by Bo Burlingham, the editor at large at Inc. Magazine, Warrillow conducted research based on annual surveys of ten thousand businesses.

He had over 20 years of research experience in this domain. His firm not only sold this research to fortune 500 companies at a premium, but they helped 55,000 business owners increase their earnings by 71%.

That practical and theoretical insight brings a lot with it. And the perfect illustration of this today can be linked back to arguably the oldest modern SaaS company — one with recurring revenue through the roof.

Here’s what recurring revenue looks like in 2020.

Marc Benioff, the founder of Salesforce, changed the entire landscape when he started selling software as a service; now, everyone does it. Today, achieving recurring revenue has never been more accessible. Software and media can be produced and distributed quickly and with little capital.

Benioff’s ripple effect and the ever-growing adoption of subscription services have led to 46% of consumers having some form of a subscription in 2019 — this is continuing to grow.

Consumers love them because they don’t have to buy expensive one-time packages. And startups love them because they’re predictable and have built-in repeat customers. It’s the best model for profitability — but there are different levels to it; every subscription isn’t created equal.

There are three types of subscriptions.

According to Warrilow, recurring revenue has three layers that separate the great from the gold. And if you have a product and want a chance to break the $1 million ARR threshold, this is arguably one of the best ways to do it.

Warrillow aside, any case study, analysis, or guide you find on making a million in annual revenue nearly always has a subscription or SaaS at the core of the business.

Warrillow’s research pointed to recurring revenue, and Beinoff’s pioneering confirmed the model’s success for modern products. Countless new businesses rely on the model every year.

Let’s explore these three subscription models, and hopefully, by the end, we’ll have some fresh ideas when an opportunity presents itself in the future.

#3 — Sunk Money Renewable Subscription (Great) by wu yi on Unsplash

Now, you probably know how printer companies get you, right? They’ll sell you a printer, and then the ink cartridges you buy will rack up and earn them multiples over what you paid for the printer. It’s the same deal for replaceable razor blades — these are sunk-money consumables, they’re good, but not great.

Sunk-money renewable subscriptions, on the other hand, mean not only do you pay an upfront cost to buy the product, but you’re then locked in that ecosystem and need to subscribe to a core add-on to use that product.

A perfect example of this type of subscription in the past decade is an Xbox gaming console and Xbox Live or Game Pass. Not only do you pay hundreds of dollars for the console, you then pay a subscription that you renew every month or year to play games online— and you likely won’t switch.

Switching from an Xbox to a Playstation has a lot of friction involved as a consumer. Because you know the ecosystem, you’re invested because you’ve bought the product, so you’ll continue paying for the Xbox Live subscription.

Other examples of this are the Bloomberg Terminal and a Peloton subscription. In both cases, you buy an expensive product and pay a subscription on top.

If your startup is a subscription service that customers first have to buy a product to use — that’s an incredibly effective moat for customer retention. It’s the third tier of the subscription pyramid.

The next best thing is when auto-renewal is designed into the service.

#2 — Auto-Renewal Subscription (Fantastic) by Taylor Vick on Unsplash

You might be thinking, well Xbox Live auto-renews as well, and I’d say good catch. But we aren’t talking about options for renewal. We’re talking about a product that will ensure we rarely unsubscribe because a subscription is a foundation of what makes the product work.

The service is continually being rendered, not only when you’re watching (Netflix) or gaming (Xbox). The way you stop paying for this type of service is to consciously take action, get things in order, and leave the service. A 2020 example of this is Google One Cloud Storage.

Google’s cloud storage means all your photos, documents, and files are up to date and safe. It’s a service that gets stronger as you keep using it. It auto-renews by design, and canceling means agreeing that Google will stop backing anything up — you now have to have to move your files.

Google’s nice about this; they won’t do things like deleting your files. On the other hand, web/app hosting companies can get sleazy with difficult migration processes, deleted data, and headaches.

Another example of this is physical document storage. You pay to keep your files stored and keep paying for this service until you want to stop. In which case, you need to pick them up, or the service will shred your documents.

If your subscription can have auto-renewal designed into it, preferably without being sleazy, you’ve now got a fantastic product that creates a lot of value. The recurring revenue and customer retention will be even stronger now, just like Google One.

And yet there’s one more, the very top of the heap with subscriptions. If you can achieve this one, your recurring revenue will attract profits, investors, and a thriving business.

But it might not be as sexy as you think.

#1 — Legally Binding Contracts (Gold) by Lorenzo Rui on Unsplash

This is the top of the subscription model. It’s all of the above plus a legal document — it’s the trifecta. Warrillow uses phone companies as an example for this one, as they perfected the model.

  1. You’d buy a phone plan that would lock your carrier into the device (sunk-cost).
  2. Your plan would stop working if you canceled or stopped paying (auto-renewal).
  3. And legally speaking, you can’t cancel or stop paying (contract).

From a business perspective, a 24-month contract is filed under accounts receivable; it’s an asset. And because the service is a necessity and priced relatively low, the phone company can expect a meager default rate. Meaning people will sign the contract and pay without trouble.

This is a subscription business gold standard. It’s predictable revenue over the long term. The customers you sign now will almost always be a clear indicator of the revenue you make in the future — and if your startup can do this, then congratulations, you made it.

Points To Keep in Mind

A subscription business isn’t a guarantee for success; a good product is an absolute necessity. However, considering these three subscription models when creating that great product will go a long way in ensuring predictable and repeatable revenue— it means a valuable and profitable business.

  • If people can subscribe and stick around, that’s good.
  • If a customer needs to buy a thing before they can subscribe, that’s great.
  • If they need to renew the subscription as a core requirement, that’s fantastic.
  • If they’re obliged to do all of that via a contract, that’s gold.

These aren’t a prerequisite for success, but they sure are a leg up. It’s a nice piece of knowledge to keep handy when that next idea comes out of a brainstorming session. Until then, try spotting these types of companies in the wild; you’ll see quite a few.

Good luck,

— Sah

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