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Book It Better: Shifting to Recurring Revenue

T.C. DoyleEvery month, tens of thousands of technology business consultants start with little or nothing in the way of momentum. They have no revenue booked, in other words. This means their salespeople hit the streets with 100 percent of a quota to retire, each and every month.

But not savvy organizations. In many instances, they start every month with 10, 20 or even 40 percent of their expected bookings already accounted for. In some organizations, the percentage is even higher. How do they do it? They sell information and communications technology (ICT) solutions as recurring revenue, not one-time transactions.

To do this, savvy IT business consultants pursue a simple formula: They think long-term, repackage or embrace new deliverables, and focus on business needs, not technological capabilities. Those who have pursued this philosophy have realized a number of benefits as a result. They have developed greater predictability within their own organizations and increased their customer “stickiness,” organization scalability and, most notably, their overall valuation.

Martin Wolf Securities, a San Ramon, California, company that helps broker mergers and acquisitions between companies in the ICT channel and services community ranks recurring revenue along with growth and profitability as the most important valuation driver for solution provider organizations.

“Certain IT segments have more recurring revenue streams or business models. If possible, moving a portion of your business to a recurring model will boost valuations,” said executives at Martin Wolfe Securities. “For example, software companies have recurring maintenance revenue. Hosting and managed services companies, database management companies and certain back-office outsourcing companies have more significant portions of recurring revenue. Those companies are more desirable M&A targets to be more popular and enjoy better valuation multiples. For the same reason, the portion of revenue that recurs is valued higher than the rest of the revenue.”

Given the benefits of the business model, many ICT business consultants say developing recurring revenue has become a top priority for these and many other reasons. “Recurring revenue is the goal of almost every partner that I talk to, whether large or small, for a variety of reasons,” said Vince DeLuca, COO of Logicalis US, one of the largest and most successful HP, Cisco and IBM business partners worldwide. “There’s the smoothing of business predictability, the stickiness with clients, etc., etc.”

While many ICT companies, especially those with roots in telecom services, generate a significant portion of their business from recurring revenue contracts, the vast majority of the approximately 75,000 traditional data VARs and solutions providers based in North America do not. Why so little, given the obvious benefits to the model? Two reasons: a tendency to fall on old, familiar ways and uncertainty over how to switch to a new and different business model (see “Transactional vs. Recurring Sales — Which Is Better?”).

This article offers tips for overcoming both the cultural obstacles and process challenges.

Changing the Paradigm

To benefit from recurring revenue, traditional solution provider organizations must make changes in two different parts of their businesses, say practitioners who have increased their recurring revenue. First, they must reconsider their existing go-to-market sales model and, second, they must rethink their back-office systems and processes.

Take Logicalis, which has operated as a traditional hardware and software infrastructure provider for the better part of the last decade. For most of its history, its salespeople focused on selling goods and services to IT managers and executives and, to a lesser extent, procurement officers inside customer organizations. It offered technical innovations sold in one-time bundles to people with the authority to make capital investments. Going forward, DeLuca said the company — as well as others like it — must shift its sales messages to appeal to line-of-business executives and other decision makers within customer organizations. Instead of technical wizardry and capabilities, they must be able to discuss business outcomes.

While some salespeople have been able to transition to more consultative selling, most haven’t due to entrenched ways of doing business. “We’ve tried with managed services to take traditional hardware sellers — and I’m not diminishing the value they have brought or continue to bring to the company — and actually orient them to be able to have business-level discussions with IT buyers,” DeLuca said. “We’ve trained and educated them this way. But only 15-20 percent of that selling community has been able to make the transition. The other 80-85 percent has not.”

Culture is a significant reason. Traditional, transaction-oriented salespeople are trained and motivated to close big deals. In baseball parlance, they like to “swing for the fences” and hit home runs. Doing so benefits both their companies and them because their commissions typically are tied to the size and margins of the deals they close. Conversely, subscriptions often pay sales reps a portion of the residual revenue their deals generate for their employers over time. There are different scenarios, of course, but most plans require individual salespeople to be patient and accept payment over an extended period of time.

As a result, Logicalis has had to rethink how it completes its transition to a company that relies on recurring revenue as a growing percent of its overall sales. Instead of replacing its existing sales force en masse or forcing individuals who operate well within one comfort zone to fit into another, it has taken steps to divide its sales force and augment it with people who have unique specializations and capabilities. For example, the company is bringing in health care practitioners to help with sales calls to medical professionals. “We still build and deliver solutions based on products and services,” DeLuca said. “But the types of conversations that we need to have to satisfy customers’ needs going forward we expect to be very different than today. And so we are doing what we must to make the transition.”

This also includes making a change to the other, aforementioned part of the company’s business, its back-office systems and invoicing processes. “Front-end resources have to change to take into account the long-term, recurring revenue business we now receive,” he said.

In many instances, this is harder than at first blush. Can your system, for example, calculate the difference between a monthly subscription and a term contract paid monthly? (There is a difference, and it manifests itself when it comes time for recording revenue, paying commissions and retiring sales quota.)

In a blog written to help solution providers understand the benefits of recurring revenue, NetSuite CFO Ron Gill discussed some of the process and accounting differences a subscription model requires when compared to a traditional transaction-based sales model.

“Building a recurring business means processing a (hopefully growing) stream of subscription orders. Each of those orders will need to kick off a process to set up a subscription period, provision the service offering, generate one or more invoices and recognize revenue,” wrote Gill. “Ultimately, it should also remind you to terminate that subscription at the end of the period — or better yet, help you renew it. That process is significantly more complex than the one-order-equals-one-shipment-equals-one-bill-equals-one-revenue-posting world of the one-off model.”

To develop these and other capabilities, Gill and other experts recommend that solution providers learn as much as they can about their customers’ usage patterns, downtimes, workloads and more. They also implore business owners to increase the sophistication of their billing and accounting models. After all, unlike a traditional sales model, every customer is billed every month for every transaction with a subscription-based services model.

While the cultural and operational challenges may seem high, the rewards are worth the effort, say those who’ve made the switch to a subscription-based, recurring revenue model. “When your business is based on project work, you’re always looking for the next deal; there’s never any room for breathing,” said Pete Hendrix, CEO of Integritec, a Nashville, Tennessee, ICT business consultancy. “But with residual income, there is breathing room.”

This enables organizations to take time to hone their marketing, improve their internal processes and focus on customer satisfaction. “Not having to look for the next big deal at all times frees an organization up for better things,” Hendrix said.

T.C. Doyle is executive editor – IT/Cloud for Channel Partners.
Twitter: @tcdutah
LinkedIn: linkedin.com/in/tcdoyle


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