Recurring revenues: Oil or glue?

Some types of businesses generate more and more recurring revenues over time, often growing to a size where recurring revenues pay all of the overhead of the company – an enviable position.

The surprising recurring revenue trap

There is a phenomenon I have observed time after time with mature companies receiving over 75% of their revenues from recurring sources.  Management undertakes a simple exercise of calculating the increased profitability of shutting down all R&D, sales and subordinate operations, and universally notes with shock the high net profit that results – from shutting down all operations except customer service to recurring customers (as in software support operations.)

Legacy system recurring revenues

Depending upon the type of business, customers are loyal often because they are creatures of habit, enjoying the existing relationship and service, not wanting to disrupt a working resource.  In fact, I am involved with one such company whose customer base extends back to the 1980’s when first purchasing their systems, still paying a regular quarterly maintenance fee to a company that services them well but has no remaining sales staff or R&D functions. The customers are happy and the company profitable.  What’s not to like?

The result of “profit only” thinking

[Email readers, continue here…]     Well, there are two problems here. The company dooms itself to a slow death over the passage of time as customers desert to newer products.  So, the decision to “go into maintenance mode” is known as “milking the cash cow” for a reason.  And second, there is no excitement in such a company to retain employees looking for advancement.  Employees who leave are replaced with people who are likely not “A” players, often causing future levels of customer service to decline.

The enterprise value of recurring revenue-based companies

And yet, there are many companies where the cost of product renewal and R&D are just too high to keep up with competition.  Companies in this predicament often can be sold for their recurring revenue stream, but the multiples they command are not high.  In such a case, milking the cash cow may well be the best decision for management rather than selling the company.

An exception: SaaS companies

We started this conversation looking at legacy companies with recurring revenue.  Companies that have built their revenue streams upon software, hardware, or other products delivered as a cloud service are a more recent phenomenon – saving capital outlays for their customers and delivering services more inexpensively using cloud-based systems.  These companies have the same R&D issues and cash cow tendencies as legacy businesses, but there are two exceptions:  new sales fall right to the bottom line in most cases, making these businesses more profitable than most capital expenditure propositions – attracting more customers without the need for financing or large up-front costs.  And the enterprise value of these businesses at the M&A or IPO stage is almost always much higher than other types of businesses because of this.

The conclusion:

Recurring revenues are oil for companies growing, reinvesting in R&D and expanded sales efforts. Those same revenues are glue to those choosing the alternative route of milking the cash cow.  In those cases, they are attractive slow, sticky streams of glue, slowing a company until it ultimately dies of old age.

Posted in Growth!, Hedging against downturns, Protecting the business | Leave a comment

Looking to be acquired? Think the 10/40 or 20/20 rules.

Public companies looking to acquire your growing enterprise usually have a few financial measures that help them weed out those candidates that will be too expensive in terms of effort or of too little financial attractiveness.

The first rule: 10/40:

One of my company CEOs recently described his rule for acquisition success, and it resonated with me as a great goal for planning during acquisition exercises.  This CEO states that he has made it work twice when acquiring companies, and that is enough for him to make it his rule for all future acquisitions.

If the target company can show a ten percent EBITDA (earnings before interest, tax, depreciation and amortization), then the acquisition team should be able to create a way to make the resulting acquisition yield forty percent EBITDA after re–engineering the combined entity.

That’s quite a goal to achieve.  But there are obvious and not–so obvious ways to make it happen, even if over time.

The second rule:  The 20/20 rule

If you are experiencing 20% annual growth and 20% net profit before depreciation and tax, or any combination that adds to 40% (such as 10% profit and 30% growth), you are a prime target.

How to “sell” expense reduction and growth prospects

[Email readers, continue here…]   Here are some of the checklist items your acquirer will consider.  Dual layers of senior management remain only during the transition period and transfer of institutional knowledge from acquired to acquirer.  The best performers from the acquired become candidates to outrank or replace their counterparts, showing that a business combination is not all one–sided.

Accounting and HR operations are combined as quickly as possible, as are customer service call centers, retaining specific product skills on the front line from the acquired company.  R&D efforts may remain separate for a period or forever, but R&D management is consolidated as soon as possible to avoid territorial disputes and retention of inefficient development processes.

Sales organizations may or may not be combined, but senior sales management is consolidated so that commissioning, territorial management and product management functions all harmonize.

Facilities may become redundant or oversized after these efforts, allowing for consolidation of facilities as well.

If we follow the reasoning of our CEO who proposed the rule, we can drop an additional 30% of the net revenues (after cost of sales) from the acquired company to the bottom line.  Not a bad goal, and certainly not a bad result.

Posted in The liquidity event and beyond | 1 Comment

Clues: How to think like a growth CEO

Growth CEOs differ from those who merely station–keep their way into the status quo, protecting the enterprise by reducing risk and cost – without creating a vision and action plan for growth.

Here is how to test yourself.

Here is a way to test yourself with a tool useful for any leader seeking to create positive change. Authors Jeanne Liedtka and Tim Oglivie have created a framework for creation of a new product or service – one worth spending at least a cycle of time for review.  From their book, “Designing for Growth,” they iterate a four-question matrix, each with steps for creation through launch.  We’ll use this loosely to frame our process.

Your four WHAT questions…

What is?  What is the problem, the marketplace, the value added?  What is the urgent need, the reason people will pay, the positive effect upon the enterprise by making this happen?

What if?  What if we could do it better, do it in a new way, do it to attract new customers, do it to distance ourselves form the competition?

What wows?  Can we rapid prototype this idea into a product and try it out on potential customers?  Would it wow them to action or anticipation?  Are we missing something those customers think they need, or want so badly they will wait and later pay? Then let’s design it so it will wow.

What works?  Do we need to co–create this with a “teacher–customer?” Can we launch this with a limited audience to see if it works as expected?  And if the response is less than we expected, what can we do differently?  Should we start the “what” cycle again to refine the concept?

[Email readers, continue here…]   Let’s refer to this as managerial ideation.

There is a word for the initiation of this process, used successfully by the best CEOs and the best companies: “ideation.”  The word encompasses the entire design process from conception to prototype and sometimes beyond.

Another great way to think like a growth CEO:

The Stanford Design School teaches ideation as a five-step process, fitting nicely into the four questions above.

Empathize –learn about the audience for whom you are designing.   Define – construct a point of view based upon the user’s needs and insights.   Ideate – brainstorm creative solutions.   Prototype – build a representation of one or more of the ideas to show to others.  And test – return to your original user group for feedback.  Two ways to think like a CEO.  And easy to instigate.

You’ve just got to remember to discipline yourself to follow the process.  The rewards will surely follow.

Posted in Finding your ideal niche, Growth!, Positioning | 1 Comment

Customer loyalty comes in four special forms.

Repeat customers, raving fans, angry backlashers, commodity shoppers.  Wow, what a range of loyalty these represent.  And in your years, you may have experienced all of these.

First, negative kinds of loyalty:

Here’s another way to look at the ladder to an ideal customer loyalty relationship.  But first, let’s examine the three kinds of loyalty you don’t want to engender…

How about forced loyalty?

This could easily happen if you happen to have a monopoly in your niche.  Customers hate this, especially when they have a complaint.  I am not suggesting that you create a competitor, only that if this is the case, you should find a way to exceed customer expectations greatly.  Often.

Loyalty by habit works, until it doesn’t. 

Think of the supermarket you use regularly.  You know the layout well, are comfortable with the selection, and even recognize the checkers, sometimes by name.  That’s habit–shopping.  A competitor could find easy pickings here, with direct marketing to habit shoppers with coupons, special prices, and exciting promotions.  You don’t want your customers to buy strictly because you have become their “habit of comfort.”

Then, you can buy your customers, usually an expensive and very tenuous proposition.

[Email readers, continue here…]   Consider this attempt to be a bribe at best.   Your discount coupons, use of Groupon or other third party source, predatory pricing, or the high cost of ad word purchases is rarely sustainable.  Worse yet, customers attained through these sources are rarely loyal at all.

So how do we create real, emotional, easily measured loyalty? 

We engage the customer at the time and place most appealing to that person. We under–promise and over–deliver – every time. We react positively to suggestions, reward their loyalty with recognition, and make this important cohort not just seem to be, but actually be the ideal example of our mission personified.

It takes work. 

And the reward will surprise you.  Engaged customers spend more, generate higher margins, and become passionate influencers.  Free advertising. High margins.  What’s more to like?

Well, how about the satisfaction that – at least for some of our customers – we have achieved that lofty mission we set out to create way back when all this started.  And that must be priceless.

Posted in Finding your ideal niche | Leave a comment

Rinse and repeat: revitalizing your business

Here’s a statement that you never thought would apply to your business planning. 

Sometimes we get stuck in the muck with our marketing, product, management focus, and in keeping up with trends. It is natural for executives and entrepreneurs with lots on their plate and little extra time – to just keep up the same activities that have made the company a success.


Isn’t this a good time to look again at these processes, refreshing those that work – and working on replacing or repairing those that don’t?  Keep on doing what works and that grows the company (rinse and repeat) and actively work on the rest?

Innovation should be a goal…

Customers feel better about a company always showing its innovation with new products and ideas to help increase customer revenues, decrease costs or better serve their customers.  Is it time to enhance, replace or invent toward achieving that set of goals?

…for the employees too.

[Email readers, continue here…]    Employees love progress and excitement when involved in something refreshing and new.  Good ones tend to stay with the company longer. Everyone tends to give more effort when we refresh or revitalize.

The industry takes notice when you change up the same old marketing methods and message.  A company that uses the best and enhances or replaces the rest will be noticed and rewarded with increased revenues.

Rinse and repeat. What’s wrong with a thorough cleaning and then showing off a bit of innovation, even with older offerings?

Posted in Depending upon others, Finding your ideal niche, Growth! | 1 Comment

Meetings insight: Just three actionable items!

How do you get your team to focus and move forward effectively? 

A fellow CEO recently told me of her method of assuring positive movement within her team.  She holds a weekly meeting of her direct reports and asks them to find three important but actionable items for the group to work on if not complete during the following week.  This works for live meetings or those using video team meetings.

It’s all about focus.

She claims that, by reducing the number of issues to three, her team is better able to devote mental and physical resources to a solution than if she allowed her meetings to address a laundry list of issues faced by each of its members.

There’s a term for this: “Agile leadership.”

There is a theory about agile leadership that has been advanced by a number of business book authors, and this CEO’s method fits within that concept.  A group moves in a much more agile manner if it can be directed to focus all of its resources on just a few issues.

How to make it work for you:

[Email readers, continue here…]   Our CEO encourages her group to make fast, fact–based decisions on which alternatives to pursue, prioritizing their actions and those of their direct reports toward achievement of a goal or a solution quickly and efficiently. We all can benefit from this lesson.

There are three kinds of agile focuses for such group meetings: 

Market agility, in which potential opportunities are being created by changes in the market (such as cloud computing for technology companies);

Decision agility, where members generate creative alternatives to attack problems or opportunities quickly and innovatively; and

Execution agility, where members of the group inspire the organization to execute in a new direction and adjust course as events unfold.

The lesson is powerful but simple. 

Keep your management meetings focused upon overcoming no more than three actionable problems or opportunities each week.  Delegate to empower those members to work in the most agile and effective manner.  Follow through with a check of progress to show support and interest.

Posted in Depending upon others, Surrounding yourself with talent | Leave a comment

A Lesson: It’s what you ask, not what you know.

A true story with a moral for all of us

A friend recently told me a story that had nothing to do with business, but unintentionally had a great lesson for all of us.  He had asked his arborist if he could move a mature tree from one part of his property to another – to make room for an addition to his home.  “Yes,” replied the professional.    “And how much would it cost?”  To which the arborist responded, “We’d charge $18,000 for that.”

Surprised by the high cost of simply moving a tree several hundred feet, the friend weighed cost against benefit, having a difficult time deciding whether to say ‘yes.’

As an afterthought, he asked, about how many years does this old tree have to live?  And the surprising answer from the arborist was “I’d say, about two to five years before it dies.”

… and the moral is…

[Email readers, continue here…]   That incidental afterthought of a question clarified the decision, and certainly saved money and later unhappiness.  And it points out to all of us that asking the right questions may be more important than having the right amount of knowledge.  Our friend could have been an architect attempting to protect the look of the homeowner’s property or view from a window.  He would have known the positive visual effect of relocating that tree would have created.   But he might never have known the consequence of that knowledge if never asking the critical question about the life of the tree.

Are we guilty of knowing so much but not asking the critical questions that might undermine our limited knowledge?  It is more than curiosity at work when solutions become much clearer when we have the skill and motivation to ask the right questions.

Posted in Protecting the business | 1 Comment

Should you battle the dragon? Or just avoid the encounter?

Frustrated by a competitor that wins when you should have?

Sometimes a competitor is just too entrenched, too strong, too well equipped to directly face in battle.  At least that is the conventional wisdom.  Yet, there are constant examples of new entrants into a niche that do grow, prosper and sometimes even become dominant.

So, when do we know which course to take?  Quietly abandon a niche?  Refuse to engage?  Or charge in full speed?

Here’s a story I know too well.

In one industry I know well, the dominant player with 22% market share was acquired by one of the largest companies in the technology world.  Everyone, including those connected with the newly acquired dominant player, wondered what changes would affect their company and their personal lives and fortunes.  Well, even though that acquisition is still playing itself out on the field of battle, it appears quite clear that the new parent has directed its new subsidiary to abandon the lower end of the market and focus upon the larger sales, corporate customers, and major brands.

Opportunity can come when least expected.

And if that new strategy is proved to be true, the five-hundred-pound gorilla in that niche just moved out of the way of many of its smaller competitors, leaving a market that will surely see a scramble for new competition in the near future.

What if you had abandoned that market, reallocated your resources, and focused instead upon other non–competitive geographical or industry segments?  There’s an example of avoiding the encounter and losing the lead position when an opportunity to compete surfaces unexpectedly.

How could you compete with the gorilla?

[Email readers, continue here…]    But doesn’t it take seemingly unlimited resources to compete against the gorilla in a niche?  The answer is found in defining the niche itself.  Has your competitor left a geographical area virtually untouched?  Forgotten about selected vertical markets within the niche?  Been skewered for slow customer service?  Each of these discoveries would provide an opportunity to compete and perhaps win, defend and build from a distant base to fight the larger battle.

The issue of mature companies as competitors

One more thing, absolutely common to technology companies:  generations of technology do not transition easily. Leading players in one generation often do not transition well into the next, as they carry the burden of a large existing user base with demands for support, feature–functionality and attention that drain the resources of even larger companies.  I’ve seen these waves of technology first-hand in one niche, counting six such waves during the past 35 years, and watching new entrants arrive during each transition to attract customers with new products using new tools, sometimes to grow larger over time than the last generation’s dominant player.

So, how do we answer the question?  Battle or avoid? 

We look for the underserved niches, avoid the direct encounter until dominating at least one of those niches, and use the profits and reputation from that small victory to take on ever–larger niches once dominated by the gorilla.  We’ll call that clever avoidance for the sake of a much fairer but later battle.

Posted in Finding your ideal niche, Positioning | Leave a comment

What do you wish you’d known yesterday?

Posted in Protecting the business, The fight for quality | Leave a comment

How to avoid “death by meeting.”

Zoom, Teams, phone, or in person?

Imagine yourself with a calendar requiring you to be in six meetings in a day.  Day after day.  It doesn’t matter whether you’re required to be there in person or virtually, you get worn out after a few of these. Your attention span sorely reduces to nil, and your quality of input and insights fall as the long day progresses.

When to call it a day and become personally productive?

How long would it take to induce you to rethink your use of time – and that of the others Zooming, phoning, Teaming, sitting (or standing) beside you?  More important, how long would it take to realize that there is something wrong with the enterprise when it takes constant meetings to get the job done?

Slowly in many cases.  And expensive. 

The best performers and managers dislike meetings and show their disdain by being abrupt or at the opposite end, distracted.  Often the most attentive ones involved in constant meetings are those who feel protected, shielded from measurement of personal performance, or at times less self–motivated to perform.

And the cost to the company of those meetings? 

Staggering, if you take into account the lost production time of those present, not just the salary cost.

And yet, there are times when co–ordination between people and groups requires a meeting, whether in person or over those digital channels.

So, let’s examine ways to make meetings more efficient – those that are actually required.

[Email readers, continue here…]    The concept of a scrum is a good one to use in many cases of immediate need to coordinate a working group.  In the office conference room, attendees stand rather than sit, reinforcing the urgency and need for a short meeting.  Leaders of virtual meetings reinforce the urgency by keeping those anxious to elaborate in check.

The purpose of the Scrum

Individuals address issues that are blocking them from completing their tasks, requesting help from others in removing the blockage.  Scrums are effective and should be short, scheduled, and supervised.

Board meetings are often killers. 

Hardeners of the arteries of progress.  Most devolve into a series of reports from each constituency, spewing facts that could have been printed and passed to the board ahead of time.  Board meetings should revolve around issues, not progress.  Reviewing sales account by account is not an effective use of a board’s collective time.  Attacking critical issues after providing background information and perhaps a list of alternatives is a good use of board time.

And the ultimate alternative?

If there is little to discuss, perhaps the wisest decision of all is to just cancel the meeting and bank the time saved for more critical use.  Certainly, most of us would applaud the decision to return a bit of lost time to its rightful owners.  And to avoid the occasional (slow) death by meeting, so common in companies today.

Posted in Depending upon others, Surrounding yourself with talent | 1 Comment