How to Solve the 3 Biggest Problems with Subscription Billing
Pricing is a challenge, and getting it right makes all the difference when you’re growing a successful agency. Learn how to a create a flywheel effect to drive month-over-month growth for your agency by avoiding the most common pitfalls with subscription billing.
Charging for creative work isn’t easy. Billable hours put a cap on your revenue because you can’t add hours to your employees’ workdays or hire new employees to manage more work without increasing costs. Time doesn’t magically expand when you attract additional clients! When you do add new team members — even experienced ones — you sacrifice billable hours training them about your culture and workflows. And no matter how efficient your team becomes, every hour logged on administrative work and operations doesn’t directly create revenue. Subscription billing solves many of these problems, but it’s far from perfect. On the positive side, it makes it far easier to predict your cash flow. Here’s why recurring revenue is a beautiful thing for your team and your profitability. The chart below is oversimplified, but if you charged $5,000 per month for your services and added one new client per month, you hit $60,000 in monthly recurring revenue in the first year.
Plus, with subscription billing, you don’t have to itemize your work. There is no room for clients to be nitpicky about exactly what they are being charged for. Instead, you can create packages that you can sell to multiple clients. This creates an incentive to standardize and simplify certain repeatable aspects of your services. Rather than paying for hours billed, clients are paying for value. While the number of hours dedicated to each client may vary from month to month through different projects and deliverables, the revenue doesn’t. And that’s okay, even from the client’s perspective, because they don’t care how the sausage is made as long as they see results! However, subscription billing comes with major pitfalls that you have to avoid if you want to make it work. Many agencies choose subscription billing for the wrong reasons. Understanding the downsides of the subscription model helps your agency make an informed choice about making the switch. With this knowledge, you can put together the revenue model that works best for you and best for your customers. Here are three major pitfalls that most agencies have with subscription billing — and how to fix them.
1. Fixed Revenue Doesn’t Equal Fixed Costs
Creative work is inherently unpredictable. This is why the hourly billing model intuitively makes sense for agencies. If a client wants 25 revisions on their new logo, you can charge them accordingly. An increase in workload leads to an increase in revenue. In the subscription model, multiple revisions kill your profitability. You are charging one fee that has to encompass all the work — planning, design, and revisions. If one (or more) of these takes too much time, your unit economics suffer, as do your other clients. In a perfect world, you could predict exactly how many hours would be dedicated to each client each week.
This never happens, of course. The revenue per client is steady, but the hours invested in them will fluctuate. Each month the client might want a different amount of work, or a different type of work performed.
The reality is that subscription billing is a balancing act. If one client requests revisions, it limits the attention you can provide to another client. The closer you are to capacity, the more you risk neglecting other customers. As clients ask more of anything, whether that is revisions, specialized work or communication, the amount of time spent per client per week can vary widely.
The Solution: Managing expectations
When you begin a new project, you absolutely must put limits on the number of revisions. What’s even more important in those first discussions to communicate clearly with the client about their expectations. By managing expectations about the number revisions up front, everyone has a clearer understanding of what will be done in each billing cycle. You should also track your hours even though you aren’t billing for them. This gives you the data to understand which clients, projects, or tasks take the most time and allows you to optimize your processes.
2. Subscription Plans Are Hard to Customize
A lack of customization is a defining factor of most subscription billing you see. In SaaS, where subscription billing is ubiquitous, companies lay out 3-4 pricing tiers and customers conform to that usage. Only top-tier enterprise plans offer anything approaching customization. This is the biggest challenge for agencies looking to use subscription billing. Clients are used to the customization and personalization available through hourly billing, so many will immediately see a downside to subscription billing. They may also think they won’t have the freedom and control over the creative process that they thought they had with the billable hours model. In reality, what they lose in customization, they make up for in efficiency. Efficiency is derived from good processes. If you sell the same package to every client, you can optimize your workflow by using the same tools and same processes, no matter the project. In the subscription billing model, processes become the core component rather than customization.
The benefit for the client is that you can deliver higher-quality work in less time. They may lose some creative control, but your ability to build out more efficient processes means they can depend on your work month in, month out. For the agency, repeatability is scalable. When you create processes in a subscription model, that time is a serious investment in efficiency and profitability. The less time it takes to accomplish the work, the more work you can do in the allotted time. You can then either reinvest this extra time and do more work for your existing clients, “upselling” them to your next level of services or you can take on more clients. Either way, you grow!
The Solution: Show your value
Creating and selling packages of your services requires a deep understanding of value creation. You have to be confident that the work you deliver creates deep benefits for the client. People will only be willing to buy defined packages if they believe the result is worth the investment. The first versions of your packages should be based on the value you already offer to your clients. Ask some of your best clients a few questions to understand the main value they receive from your services. From there, packages should be evaluated and repeated almost constantly. You absolutely will not get it right the first time! Constant testing will allow you to align your value and pricing better over time.
3. It’s Hard to Increase Prices
Imagine this conversation with a client who pays a monthly subscription: Agency: “We’re increasing our prices 10%.” Client: “Cool, what else do we get?” Agency: “Nothing.” When you are billing by the hour, the extra work and the extra charges are linked. It’s clear to clients what they get for their extra money. With subscriptions, less so. When you rely on subscription billing, it’s very hard to increase your prices. Your customers don’t really care that your overhead is increasing or that it’s hard to find and train new employees. They are paying for deliverables that they count on each month. But margins get harder to maintain as you grow, so raising prices on a regular basis is necessary.
The Solution: Offer high-leverage deliverables
When you put together a package, some elements of it will be highly profitable and some won’t. Using a content agency as an example, here’s a breakdown of what a package might look like:
Content (high value, low margins)— This is what the client is ultimately paying for. If it’s great, they will come back time and time again. But making it great requires extensive time and effort in hiring and training great writers, and then allowing them to the time to do their work.
Newsletter (high value, high margins)–Building a newsletter can be an incredibly high-ROI tool for a client. As Andrew Chen, Head of Rider Growth at Uber puts it, “An email subscriber is worth 100x Twitter or LinkedIn followers or whatever other stuff is out there. An email = a real channel.” But for the agency, a newsletter is also fairly easy to put together each week. It’s a win-win!
Search optimization (high value, high margins)–The other main channel for content success is organic search. Clients might want viral hits, but what really makes them grow is being on page 1. In order to get this win for the client, the agency just needs to put a small amount of time into keyword research and content optimization and then work that into their client’s overall strategy.
Customer communication (high value, low margins)–This can take time for the agency, but is vital to understand the needs and motivations of the client. This goes all the way back to the customization idea. Clients want to be involved, even if process rules. Using some time to get their input and feedback on the process and deliverables allows you to produce better work for them and to hone your own processes.
Understanding what is most valuable for both you and your clients is how you put together packages that allow both of you to grow.
The recurring revenue flywheel
Pricing can be a challenge—but getting it right spells the difference between growth and stagnation. Billing by the hour allows you to offer a bespoke service for your clients. You can give them exactly what they want. But the ambiguity of the revenue means growth can be a challenge. Using subscription billing for your agency means you have a steady revenue stream each month that acts as a foundation for your growth. The recurring revenue means you can build your processes and become more efficient. This leads to more clients, more work, and more revenue! There are challenges with this pricing model, but each can be overcome. By understanding your true value to your customers and optimizing around that, you can create a constant growth flywheel that builds your agency each month.