How often do your customers come back to you? The answer can define the value of your business.
Such is the case at Wpromote, an online advertising agency that manages its clients’ online marketing and social-media promotions. Wpromote founder Michael Mothner is not looking to sell, but he did let my colleague Mark Tepper, the founder of Strategic Wealth Partners, and I have a look under the hood of his business to see just how sellable the company would be if Mothner ever wanted to get out.
We found a business that will have the big agency holding companies salivating if and when the time comes for Mothner to sell. Wpromote derives 99 percent of its $11 million in annual revenue from six-month contracts that renew at a rate of 96 percent.
“An acquirer could look at Wpromote’s business and project its performance many years into the future,” says Tepper. “Acquirers pay a premium for a business when they can see where the revenue will be coming from for years.”
A Business Model That Works
There are at least three ways to build a recurring revenue model into your business:
1. One-year re-up: This is a basic contract. The buyer has to make the proactive decision to repurchase from your company every year.
2. One-year auto-renewal: The buyer is committed for a period of one year but then has a window (usually 30 or 60 days) during which he or she can get out. If the buyer doesn’t cancel within the renewal window, they are committed for another year.
3. Greenfield: The customer is assumed to have renewed unless the customer states otherwise. Most cloud-based software applications, such as Wufoo forms, SurveyMonkey, and Constant Contact, use a Greenfield model.
How Strong Are Your Renewals?
Regardless of the model you choose, your renewal rate is the number that will drive the sellability of your company. Track your renewal rate on a rolling 12-month basis so you can spot trends early. How are you performing?
- 90 percent-plus annual renewal rate: Line up the Brinks truck. Your business is going to be worth a fortune.
- 80 percent to 90 percent: Excellent. Most businesses have some natural attrition within their customer base (some customers go bankrupt; others move), so you’re probably renewing the vast majority of businesses that you would have a realistic shot at renewing.
- 70 percent to 80 percent: A very good renewal rate. Take a look and see if there are some customers that renew at a lower rate than others. By deprioritizing these promiscuous buyers, you can get your company into the coveted 80 percent-plus zone.
- 60 percent to 70 percent: You’re performing well, but you’re probably spending a lot of time finding new customers. It’s time to understand why customers are leaving and to plug the holes in a leaky bucket.
- 50 percent to 60 percent: At this rate, you’re replacing close to half your customers each year. Take your foot off the gas pedal and focus on tweaking your offer until you can get your renewal rate north of 60 percent. Once you have your renewal rate up, you can refocus on top-line revenue growth.
- Less than 50 percent: It’s time for a full makeover. Go back to the drawing board and develop an offering that resonates more with your customers. Look at everything from your servicing model to your pricing to the product or service itself.
“Strive for an 80 percent-plus annual renewal rate,” says Tepper, “and you’ll have a line of buyers ready to buy your company when you’re ready to sell it.”