(There’s No) Accounting for the Subscription Economy
You may remember the subscription economy from previous posts. It’s one way to make sense of cloud computing and the many new and very different ways of doing business on the Internet. We’re most familiar with software as a service and how different it is from conventional licenses; so familiar in fact that I don’t need to describe it for you here.
But subscriptions as a way of doing business are just about everywhere; they’re not just in tech anymore. For instance, if you want you can get your clothing as a subscription, and not only that but men (who as a group are notoriously lazy shoppers) have sites dedicated just to them. You know the trend has arrived when something like men’s clothing is available as a subscription.
Nonetheless, we’ve more or less glossed over everything below the waterline in this new approach to business. It’s taken over ten years to get the idea of the subscription economy into our noggins but we’ve barely started internalizing what it takes to support it and report on it as a business.
This all came into sharp focus for me last week when I reviewed Salesforce.com’s Q4 and annual earnings call with Tien Tzou, CEO of Zuora, a company that specializes in what’s below the subscriptions waterline. Tzuo is also an alumnus of Salesforce having been its CMO and chief strategy officer before starting Zuora.
As you know, subscriptions operate through customer payments on a periodic basis. The industry became known by its per seat per month pricing but that doesn’t happen much these days because monthly billing got to be a challenge with big deals. Today customers sign contracts for a fixed length of time and vendors invoice periodically. A typical example might be a three-year contract with annual or quarterly billing. Here’s where it gets interesting.
The financial analysts and other Wall Street types—whom I have absolutely nothing in common with—are very accustomed to companies selling products rather than subscriptions and collecting the money net 30 or whatever and moving on to the next opportunity. Subscriptions have a mixed bag of revenue recognition ideas that challenge the status quo (which has very well defined ways of recognizing revenue) significantly. Product companies don’t have much when it comes to reliably forecasting future revenue streams but subscription companies are just bristling with information.
Take the Salesforce revenue numbers from last week’s earnings call as an example, and here is where I am indebted to Tzuo for his insights:
- Quarterly Revenue of $632 Million, up 38% Year-Over-Year
- Full Year Revenue of $2.27 Billion, up 37% Year-Over-Year
- Deferred Revenue of $1.38 Billion, up 48% Year-Over-Year
- Unbilled Deferred Revenue of $2.2 Billion, up from $1.5 Billion Year-Over-Year
If you are reading this (thank you very much) you have at least an intuitive understanding of revenue but deferred and deferred and unbilled revenue deserve explanation because who really cares about unbilled deferred revenue—isn’t that complete vapor?
As Tien Tzuo said to me, think of it this way. You do a deal with a company in which you agree to supply your service for three years for $36k or one thousand dollars per month and you agree to invoice once annually, in advance, for $12k. At the very beginning then you have $24k in unbilled deferred revenue and, since you bill in advance, you also have $11k in deferred revenue and $1k in real live revenue which you can recognize.
This $1k is also known as MRR or monthly recurring revenue. Theoretically, if you add up all the MRRs on the books you can get very close to the forecast for the quarter. But there’s also an upside possibility that you’ll sell something else. If you do and you invoice for it, you’ll add to that pile of money. Unfortunately, there is also a possibility that some of your MRR will go away either because the customer quit or because they didn’t renew or whatever. We know this as churn so you really need to discount the MRR by the churn rate to get a better sense. Life would be simpler if we could all agree on using a metric called the annual recurring revenue but, curiously, ARR doesn’t exist yet.
So, all this has the potential to drive Wall Street types nuts. They’re good with the $1k in MRR and they can tolerate the $11k in deferred revenue because it’s in hand, and the $24k in unbilled deferred revenue is sort of OK (but not really) because there’s a contract in place that defines the annual billings. But this does have one effect that many financial types like—it smoothes out the revenue stream for months in advance. Bookings might fluctuate but the monthly revenue stream should be rather predictable.
Nevertheless, it’s bookings that have recently made some people skittish. Sales has always been a lumpy affair. Some months many deals get booked and other months not so much. Early on the software industry trained its customers to wait until the end of the quarter to make purchases because that’s when they had leverage. Finance guys didn’t like this but they got used to it.
Today, the quarterly incentive is largely gone due to monthly recurring revenue but people still obsess over bookings. What if bookings go down for a few months? The logical answer is that future revenue would eventually feel it but it’s equally true that bookings could recover before real revenue took a hit in which case the fluctuation in bookings would not be seen. Call it seasonality.
Let’s summarize all this. Salesforce has $1.38 billion in deferred revenue, which I presume will be realized in the next 12 months. During that time they are advising us that the company will have revenues of between $2.92 and $2.95 billion. This means that they have about 47 percent of next year in the bank. They also have $2.2 billion under contract to be invoiced (unbilled and deferred) and some of this invoicing will be done at some point beyond the next year. In the last quarter Salesforce had $632 million in revenue which grew at 38% year over year. At some point in the next twelve months Salesforce could have a quarter in which it books revenue of $750 million which would give it a forward looking run rate of $3 billion.
It’s still an uphill battle explaining revenue recognition and the difference between conventional companies and subscription companies but at least there’s a lot of black ink to do it with.
Dave? Dave? What are you doing, Dave?*
It’s been almost thirty years since Steve Jobs visited Xerox PARC and saw the prototype for the GUI. That paradigm worked so well that it has been around ever since succeeding numerous generations of hardware and graphics processors.
Perhaps the main reason that today’s GUI has had such staying power is that it works but also, there has been little demand for radical change because our business processes have stayed relatively unchanged. But if you wait long enough change happens. In this case, the demand for what a GUI does is changing and may at some future date make it irrelevant.
A GUI works well in a decent size screen environment where you have access to pointing and positioning devices, but what happens when everything compresses as it does with mobile devices?
Many of us have some experience with thumb typing and other efforts to use the micro screen like it was a computer. It’s not pretty. Apple realized this a while ago when it incorporated voice processing into its iPhone and who knows where that will go?
Perhaps voice recognition is another example of the personalization of IT. Voice interfaces have been around for decades but they’ve been clunky and not always reliable. For the best results many also need training and that means, the voice recognition becomes the computer equivalent of a one man dog. That’s all slowly changing.
Today two companies, EasyAsk and BrainSell announced an agreement to deliver EasyAsk Business Edition for SugarCRM with a voice interface. So in the not too distant future you might see road warriors and C-types talking to their mobile devices like Dick Tracy.
Don’t laugh. The iPod form factor could support a wrist watch-like device format. But wrist watches are not good at supporting GUIs and holograms (as long as we’re speculating) have their own drawbacks for pointing and clicking. Voice recognition makes sense as an important piece of a future puzzle, if you ask me. To get all the details visit this link.
The PR makes reference to the IBM Watson-like natural language interface used by the all time Jeopardy! winning computer. IBM has been knocking at the front door of the front office lately and it would not surprise me if there’s more to come. And with a good natural language interface, the company might have quite a differentiator.
*NOTE: The Dave reference is to 2001 A Space Odyssey. Some times I am too obscure.
Beagle Research Group 2012 Short Tale Awards
Beagle Research Group is pleased to announce the winners of the 2012 Short Tale Awards for excellence in the use of short video in front office sales, marketing and service.
Video is a superior medium for delivering complete information to customers, employees and partners. In the hands of experts video can communicate far more effectively that other forms of media that businesses have relied on for many years. Unlike, written documents that can take longer to absorb or slide presentations that can be cryptic, video combines visual, audio and even music to deliver a rich experience that is informationally complete. This award shows that it does not take big budgets or expensive outside assistance to generate great video. Most of these winning videos were developed in-house.
Created in 2011, the Beagle Research Group Short Tale Award was designed to showcase some of the best efforts in short video created by front office software companies in the year just ended. The awards process is open to companies of all sizes and entries are limited to five minutes or less. Pleasee visit BeagleResearch.com for the full report.
The 2012 award winners include the following:
Category |
Title |
Grand Prize—RightNow Technologies | “The Future of CX” |
Best Series (Multiple Videos On Same Subject)—Salesforce.com | Social Enterprise videos |
Best Sales Video—Salesforce.com | “NBC” |
Best Marketing Video—Salesforce.com | “Burberry’s” |
Best Customer Service Video—Salesforce.com | “Comcast” |
Best Use Of A Character—CRM Search | “Amazing Mikey” |
Best Story Telling—RightNow Technologies | “The Future of CX” |
Best Animation—CRM Search | “Social CRM” |
Best Video Made Exclusively From Graphics—Oracle | “What Do You See When You Look at a Cloud?” |
Best Video For Explaining A New Concept—Crowd Factory | “CRM Idol Finalist Video” |
Best Video Under One Minute—Marketo | “I’ll Have What He’s Having” |
Best Customer Testimonial—Brainshark | “Brainshark: Con-way Customer Testimonial” |
Cutting Edge Award—Get Satisfaction | “CRM Idol Finalist Video” |