This week, Ed Laczynski from Zype asks us a key question to understand an important mechanism in growing a subscription company: How do you increase expansion revenue, and quickly?
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Yet, expansion revenue isn’t the easiest metric to increase, so to answer this question we looked at just under four thousand subscription companies. Here’s what we found.
Increases in your average revenue per user can stem from many places. You can raise your price, get higher end customers, or coax more upgrades from your current customer base. Regardless of where expansion revenue comes from, it’s absolutely crucial to your success, especially in the world of subscriptions, because you want a healthy amount of expansion revenue to offset any churn that may creep into your business.
First up, we should understand what’s good expansion revenue from a benchmark perspective. The most efficient companies, when looking at lifetime value (LTV) to customer acquisition cost (CAC) ratios, are fueling that efficiency mainly off expansion revenue.
Note that companies who have an LTV to CAC between three and five are seeing a median of just under 20% expansion revenue as a proportion of their total revenue. Those with an LTV to CAC above five are pushing above 30% in terms of expansion revenue.
Essentially, more expansion revenue is definitely better, but we want to get into a world where we’re seeing 20% or more of our revenue coming from expansion. A bedrock way to make this happen is to use what’s known as a value metric as the center of your pricing. A value metric is what you charge for – per user, per 100 visits, per thousand videos – it’s a measure for some proxy of value that you’re providing your customer.
The beauty of a value metric is that customers are only paying for what they’re using, so churn tends to be lower with companies using this type of pricing model. Expansion revenue tends to be much higher, as well.
Those companies using a value metric are seeing 30 to 100% higher levels of expansion revenue than their feature based pricing counterparts. Note that this gain occurs for both functional based value metrics, which would be a pricing model like per user, and for outcome based value metric, which would be like per conversion.
A bit more tactically, customer success also has a pretty significant impact on expansion revenue. Those companies utilizing either scalable or dedicated customer success teams are seeing 60 to 120% higher levels of expansion revenue than those who have no customer success indicating that the use of humans communicating value and spurring upgrades can actually greatly impact your bottom line.
While there are certainly very tactical offers and gimmicks you can use to increase your expansion revenue, the truth is that great expansion revenue requires you to put value at the core of your operations. Using a value metric in your pricing is a very specific decision that requires some careful thought. Making sure customer success exists in your business costs time and money. Yet, if you remember that subscriptions are all about relationships, these decisions become easier, because you’ll want to continue to do things that get as close to customer value as possible.
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