As we have seen, recurring revenue is just that-revenue that keeps coming in consistently. This article will dive into some key definitions for you to know! These include what is average monthly recurring revenue (AMR), months to run ratio (MTR), and how to calculate both of these values at the project level.
Also this article will discuss why it is important to understand these terms before calculating your company’s ROI on investing in recurring revenue. Finally, I will go over some examples using real numbers. So let's get started!
Definition: Average Monthly Revenue (AMR)
The average monthly revenue (AMR) definition comes from an academic source called “Academic Research Defines The Term AMS For First Time”.1
This source defines AMR as "the total amount of money received within a given time frame divided by the number of days in the period."
So taking our previous example again, if my book publisher sent me a new copy of My Life In A Book every month for a year, their yearly AMR would be one copy per year x 12 months = 1 year worth of income. Their daily AMR would then be one copy per day x 30 days = $30 per month.
Using our new app as an example, let’s look at some examples of things that are considered to be ARS.
The free version of your product is one example of ARS. So is a monthly subscription for access to the service or software.
A yearly membership to a fitness center or health club is another example of ARS.
A monthly subscription to a streaming service like Netflix is also considered ARS because you are paying each month no matter how many times you use the service.
Some people instead refer to these types of services as “on-demand” content since it is only accessible when you want it. But using the term “annualize” this type of income stream makes more sense than using the word “on-demand” does.
After all, you are still getting access to the service every month even if you aren’t actively using it at the time! This way you get the same benefits you do with a monthly service, but in a one year package deal instead. A good reminder: don’t discount the value of your business just because you aren’t actively running it at any given moment.
Another important thing about ARS is that although there is a cost upfront, it doesn’t necessarily require you to have money coming in consistently throughout the whole year.
Only about 1% of businesses have true recurring revenue, also known as CRM (customer relationship management) business model. The other 99% fall into one of two categories: asset-based business models or transaction-based business models.
Most large companies operate under an asset-based business model. This type of business model revolves around products that it sells to customers who use those products every day.
A major company like Coca Cola operates in this way. It does not sell bottles of Coke directly, instead offering a glass bottle that can be attached to any size container you want to put sugar in.
Coke makes money off of advertising that goes along with its brand, but it doesn’t make money from selling individual bottles of liquid outright. Instead, it profits by the contents inside the bottle you buy!
Another example of an asset-based business model is Amazon. They profit off of advertisements they place on their site and through shipping fees paid by sellers looking to list items online.
The second way to make sure you don’t run out of money is to offer products or services that require an annual subscription.
Most professional service providers will tell you it takes years to build up enough business to survive alone, especially since most industries can be competed in now, anywhere around the world, with just about any tool.
So, how do you stay afloat? By offering yearly subscriptions for their product/service!
This is super common with software companies. You have Microsoft Office 365 which costs $99 per year or Adobe Creative Cloud Suite which is also $99 per year but comes with five apps instead of one.
These types of businesses depend heavily on re-engagement every year. They keep gathering data about your spending patterns, keeping track of past purchases, etc., so they can market more effectively next time.
And once again, if someone cancels before the end of the term, no big deal! Because you'll get a refund, it doesn't matter as much.
Another way to create recurring revenue is through what’s called a subscription business model. With this model, you offer your products or services for a fixed price each period instead of offering them free with the assumption that people will always need their service or product.
A great example of this is Netflix. You pay an annual fee for access to all of its streaming content. This content grows much faster than it would if people had to purchase individual movies and shows at full price!
This article will talk more about how to start a successful subscription business and some things to consider when deciding which type of business to launch.
Another way to define recurring revenue is an annual service that you offer members or customers every year, with no break in your relationship. This can be done through a membership site, a subscription box product, a yearly book you write, or anything else that lasts a specific amount of time each year.
Most business models fit this definition at some level. For example, most online courses have a one-time payment for access, so they don’t qualify as recurring income. A monthly fitness class, though, does because you are paying money each month for classes.
A lot of people make their living off of creating new content and offering it via paid subscriptions on websites and apps. This article will focus mostly on the latter. Creating a website or app full of useful information that people want to buy a license to view or use is a great way to earn passive income through recurring sales.
There are several ways to go about doing this, but the two main types are what I will refer to as The Niche Website Method and The Best Selling Book Method. Let’s look at both of these!
The niche website method
This one requires very little start up capital. You will need a domain name and web hosting, however. Most people are able to get all three of those things free from sites like Google, BlueHost, and Amazon, respectively.
Yearly services are ones that require repeated engagement to use effectively. This is not necessarily a bad thing, but it can be difficult to measure success with this model if you're looking for quick results.
The recurring revenue model depends on there being repeat customers or clients who purchase the product or service regularly. This monthly or weekly sales cycle makes calculating ROI more challenging because you have to look beyond how much money was spent on the products/services during the time of sale to determine what influenced the buying decision.
Typically, people will agree to pay slightly higher than they would for a one-time only transaction due to the constant reassurance they get from the product or service. This internalized sense of security helps them feel comfortable spending additional money, making periodic purchases possible.
Because these individuals continue to spend heavily outside of one initial transaction, it creates an ongoing income stream for the provider. The providers earn their keep through continuous investment in the product, steady referrals, and marketing strategies.
The second type of recurring revenue is called “monthly subscription” or “annual subscription.” A monthly subscription model requires you to charge your customers a fixed amount every given month, usually from one month to the next.
For example, if you are selling web hosting, then you would pay your customer an annual fee for access to their website. This way, your customer does not need to worry about paying another yearly fee later in the season due to lack of use of the site!
This type of income can be quite steady, especially if you have many products that require a monthly payment. Many companies rely heavily on this kind of income as it does not fluctuate much.
However, like with free content websites, this may not be the best strategy for all businesses. If your business is on fire at times, these less expensive strategies may help keep you stable.
Most major credit cards (VISA, MASTERCARD, AMERICAN EXPRESS) have an annual fee that is not per use but rather annually. This means that every year, whether you have a lot of transactions or none at all, they will charge your account a fee.
This can add up quickly if you are a frequent traveler with multiple accounts. The best way to prevent this loss is to either go bare-bones on spending or find ways to reduce your overall debt.
Alternatively, there are some recurring free services you can switch to get the same benefits. For example, many people enjoy online shopping so much that they do not put limits on how many items they purchase.
You can create an account with a website like Amazon where you can buy almost anything! There is no cost for this service aside from the shipping.