How Much Can You Grow?

Video Transcription

In this session, we will look at a shortcut way to work out how big and valuable you can get your subscription business.

I will tell you a few shortcuts I’ve learned in my couple of decades of modelling subscription businesses for IPOs for sale exits and business planning purposes.

This video is aimed at someone who already understands the dynamics of a subscription business. And if you don’t, maybe watch some of our other videos around the metrics, customer lifetime value, how to improve it, and those sorts of things before you watch this video.

So, for those that are still staying here and want to get this shortcut stay with me here. We use two metrics to work out how big and how valuable we can make your subscription business.

So, let’s start with the metrics.

Churn Rate

So the first metric we need to know is your churn rate. The number of your customers leaving over the total number you’ve had in the month.

New Customers

The second metric is what monthly new customers we’re acquiring. So, our new customers. Monthly.

So the key here is to ensure the metrics are on the same period. So monthly, if we’re doing monthly in this example. I will show you the model we will apply to these metrics to do some examples over the other side of the board.

So, as you’re probably familiar with subscription businesses, this happens over time: T on this axis.

And we’re going to put customers on this axis. So this is your customer base, the number of, total number of customers you’ve got, and this is time. So, way back when, when you started, you would have had zero customers, down here, so we’re starting at this point.

Customer Growth

And customer growth, depending on the number of customers you’re adding and your churn rate, always arcs.

So, it doesn’t matter what numbers you stick in, you’re going to get some sort of arc. So, it may look like something like this. And what this arc shows is that early on, you’re going to be making quite a lot of headway in growing your customer base.

That’s because you’ve got relatively few customers at the start, and your churn rate hasn’t yet caught up with you.

Plateau

So, you’re building your customer base very quickly. Assuming a consistent level of new customers being added every month, essentially, what happens is when you get to this phase here, which is where you’re stagnating or plateauing. So you’re, you’re stagnating here. And what this phase really is all about at this point here is where your new customers start to equal your churned customers.

So, NC new customers equals churned customers.

Those two numbers are getting close together at this point here. It’s worth noting that the arc never stops or totally plateaus because it grows almost infinitely but very slowly at this point, hence the kind of stagnating point.

So you’ve got fast growth in this period, some slower growth here, and then you’re entering this stagnation phase here, and I see this time and time again: the arc will change in severity and plateau depending on these two numbers here. But it will do roughly the same trend for you over time.

So this is the model we’re going to use, and roughly speaking, this stagnation happens at around 75% of your total long-term maximum subscriber base.

So, this kind of stagnation point is around 75%. You kind of have 25% of the time to go to get that last, you know, 10% of your overall lifetime number of customers that you will achieve.

So slow growth in that last period. So let’s take a, let’s take an example. So we will take two examples, one and two.

First Example

In our first example, we will assume that our monthly churn rate is 3% and that we get a hundred new customers monthly.

And to work out your ultimate customer base, divide your new customers by your churn rate. And in this instance, if we divide 100 by 3%, we will have a customer base that will reach just over 3,000 customers. 3. 3k in this case. We take our rule of 75% and apply that to our 3.

3k ultimate customer base to estimate this point of just pre-stagnation. So we get to 2.5k customers, and you should know roughly how much each customer pays you for your services each month or each year. In this case, let’s talk about it in annual terms.

So this business will give us a thousand pounds per year for each of our customers. So, in revenue terms, we have a business that is doing 2. 5 million pounds in revenue per year. So a, you know, a smaller subscription business doing 2. 5 million pounds of revenue each year.

And subscription businesses like this, are often valued between two and four times turnover. Lots of things depend on that, but let’s use it two to four times.

Turnover as a multiple on exit, then if that is our revenue, our value is between five to ten million pounds. So, in this example, by knowing these two metrics, you can forecast the future.

I’m always asked to look at my crystal ball with businesses and understand, you know, how big can we get this sucker? How big and how valuable can we get this business? The answer here is that we could probably expect to have a two-and-a-half million turnover business worth between five and 10 million pounds if we know those metrics.

It’s so interesting to know, significantly, when we’re raising finance. We’re business planning, or we’re looking to sell an exit.

So, there are lots of reasons why we’d want to know what this looks like.

Example Two

Let’s take example number two, where we have a 2% monthly churn rate and 150 new customers each month.

So slightly different to number one, but not dramatically different. So you can imagine this just being an improved version of the first business that we’ve got in our example. So what we’ve got here is a theoretical seven and a half thousand. customer base, so there’s 2% into 150, and we apply the same 75% metric here to again get to our pre-stagnation point.

So we’ve got about 5,600 customers on our customer base. We will assume we sell every customer the same thousand pounds a year of services. And it doesn’t take a mathematician to work out that we have revenue that looks slightly more like 5.6 million yearly. So more than double the previous example.

And our valuation is based on our revenue multiple, again. Two to four times gives you a bit of a broad guide.

Double the Value

So we’re looking at 11 to 20 million pounds as a business valuation. So you can see in this example seemingly small improvements in these metrics have doubled the exit value of this business and doubled the revenue potential.

So, after a long period working with subscription businesses, that is a really quick way of forecasting the future and working out how big you can get your subscription sucker.

So, I hope that was helpful and we’ll see you next time.