Put Your Cash Flow on Autopilot with Recurring Revenue

Best Practices for Managing Renewals and the Billing Process

Recurring Revenue is derived from providing a continuous, ongoing service, such as a subscription, license, rent, or a maintenance contract. It is governed by a contract for a fixed period of time (often one year). If the contract is not cancelled, it can provide steady revenue and cash flow every month, year after year. Recurring revenue is sought by businesses and prized by Wall Street in its valuation of companies.

A growing number of businesses use the recurring revenue model, including software-as-a-Service (SaaS) and streaming services as well as outsourcing solutions. Its value to a company can be huge as the reliable monthly revenue and cash flow can be the sustaining funding for a company. If your firm provides products or services on a repetitive basis, it is prudent to work out a formula to turn that business into recurring revenue.

Sounds great – what could go wrong?

The Primary challenge involves growing and maintaining the amount of revenue billed on a recurring or subscription basis. The other prominent challenge is administering the contracting, billing, and receivables management processes supporting the recurring revenue. Ideally, these processes run efficiently and require little attention from both your customers and your operation.

Good administration requires:

• Renewal of contracts prior to expiration
• Accurate and timely invoicing
• Prompt and accurate posting of payments to open invoices

There is also one other potential issue from an administrative perspective: Is the customer able to pay? Ideally you need to not only check the customer’s credit as part of the customer aquisition and onboarding process, but also prior to renewal. Obviously, the criticality of customer credit increases with the amount of revenue being generated.

Please feel free to share this newsletter with your small business customers . . . it just might help them pay you sooner!

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One Company’s Struggles with Recurring Revenue

A capital equipment manufacturer had a thriving maintenance business. The majority of its customers were under service contracts, which provided preventative maintenance at regular intervals, and emergency service as needed. The pricing for a service contract was a fixed annual fee based on hourly labor rates much lower than the non-contract (time and material) rates. The duration of the contract was generally one year, requiring it to be renewed each year to continue the service contract.

Inevitably, contracts would expire, and while customers expressed their intent to renew them, numerous contract renewals were not executed prior to the expiration of the current contracts. So what happened?

Emergency service was provided to many customers in the period between expiration of the former service contract and renewal of the new one. The customers were billed at the higher time and material rates since technically, they were not “contract” customers. The customers, however, did not pay the invoices. They considered themselves contract customers.

Consequently, cash flow decreased while Days Sales Outstanding (DSO) and Past Due Receivables skyrocketed. When the renewals were finally secured, all of the prior time and material invoices were credited, and new invoices were generated for the service contracts. The rework penalty in terms of staff time and expense was huge. Delinquency costs were significant, and the customers were annoyed with the whole process.

Lesson Learned…

If you think there is a significant probability that a contract customer will renew, don’t bill until the contract is signed and/or a Purchase Order is issued by the customer. The delay in cash flow from holding off on billings will usually be less painful than repeating the experience of the company cited above.

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10 Best Practices for Managing Recurring Revenue

1. Include an “evergreen” renewal clause in your contracts.
2. Expend the required effort to have at least 90 percent of your customers renew their contract prior to expiration.
3. Start your renewal efforts at least 120 days prior to the expiration date and include a credit review in this process
4. Establish a policy of not billing after a contract expires until you obtain an executed contract — focus on getting a signed renewal
5. If it is clear the customer will not renew, send a notice one or two weeks before the current contract expires, informing them of that fact and providing them with a pricing schedule for any subsequent service performed at the non-contract rates
6. After a contract expires, bill the customer for services performed at the published non-contract rates — receipt of that invoice may change the customer’s decision on not renewing.
7. Automate the invoicing of recurring revenue
8. Bill a month in advance; i.e., this month’s invoice is for next month’s service.
9. Enroll customers in an automatic credit card or direct debit payment arrangement whereby you unilaterally withdraw funds from their bank account to pay your invoice (similar to your utility payments for your home). Incentivize recalcitrant customers by giving them a one-time discount on an annual contract — for example if you are raising rates 4 percent on next year’s contracts, reduce it to 2-3 percent if they enroll in direct debit
10. Stagger your contract expiration dates so they all don’t expire December 31st — this smooths the workload over 12 months

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One Last Thing…

Recurring revenue is almost as good as gold. Properly managed, it’s a cash flow machine that requires little administrative effort in terms of accounts receivable. The majority of your effort should instead be focused on securing renewals and enrolling new customers, not administering the billing process.

Furthermore, your effective management of recurring revenue should also have the goal of making it easy for your customer to do business with you. That was maybe the biggest mistake of the capital equipment manufacturer in the example. Their renewal policies created more problems than they were intended to solve. By providing an excellent customer experience, you ensure the cash flow spigot remains wide open.