Warren Buffett would be happy to know I got up this morning and shaved with my trusty Gillette razor. Given the little blue stripe had faded to a faint ribbon, I treated myself to a brand-new blade from the five-pack I had just purchased at Walgreens for $22.99.
There are millions of people around the world who will wake up tomorrow and snap their own new blade into a Gillette razor, which is why Berkshire Hathaway’s investment in Gillette has performed so well in the past and will continue to grow now that Gillette is part of Proctor & Gamble.
In my experience, the single biggest thing you can do to increase the value of your business, no matter how big or small, is to create a recurring stream of revenue an acquirer can count on into the future.
Although all recurring revenue will have a positive impact on your company’s value, some forms are more desirable than others. Here is a hierarchy of different types of recurring revenue ranked from least to most valuable:
7. Irregular purchases: TV
Recently I finally caved and bought a flat-screen Panasonic TV. I had been clinging to my old Panasonic tube despite relentless teasing from my wife and anyone who came to our house to watch a big game. For me, a TV is an irregular purchase triggered by a breakdown or intense pressure to keep up with the neighbors.
Businesses whose customers repurchase in an unpredictable pattern are usually worth the least.
6. Regular, open-architecture purchases: deodorant
I swipe under my arms every morning with Degree Invisible Stick Cool Rush deodorant, and I buy a new stick every month or so. There’s nothing tying me to Degree, but I have been a loyal repeat customer for years.
Start tracking your repurchase rate from existing customers as it will be a number an acquirer will use to calculate your projected sales into the future -- and how much they’re willing to pay to buy your company.
5. Regular closed-architecture purchases: toner cartridges
More valuable than open-architecture consumables like deodorant are closed-architecture consumables like my Gillette sensor blades or my Xerox printer cartridges. I’ve made an investment in the platform, and that makes me more reluctant to switch providers.
Expect to fetch a premium for your business if you can demonstrate a loyal group of customers who have made an investment with you to become a regular customer.
4. Renewable subscriptions: magazines
One better than having loyal customers who repurchase is revenue that is guaranteed into the future. For example, I am a loyal subscriber to Men’s Journal magazine. Each year I get a re-up letter, and I send a check to cover my next 12 issues. Men’s Journal recognizes one-twelfth of my subscription fee the month it receives the check and each of the next eleven months.
Magazines are cheap compared to the subscriptions analyst firms like Yankee Group, Forrester Research or Gartner Group sell their customers, which can run into the hundreds of thousands of dollars, making them more valuable companies than their competitors who offer one-off consulting.
3. Renewable subscription, closed-architecture: the Bloomberg terminal
Bloomberg is such a valuable company because it combines a closed-architecture (you have to buy the Bloomberg terminal) with a subscription to the financial information Bloomberg publishes.
2. Auto renewal subscriptions: document storage
When you store documents with Iron Mountain, you are charged a fee each month until you ask for your documents to be shredded or you agree to pick them up. Unlike a magazine subscription, for which you have to make the conscious decision to re-up, Iron Mountain just bills you until you tell it to stop.
Iron Mountain tracks its cancellation rate down to the decimal point and can predict its future revenue well into the future, which is why it enjoys such an attractive valuation.
1. Contracts: wireless phones
The only thing more valuable than an auto renewal subscription is a hard contract for a defined term. AT&T pushes so hard to get you on a three-year plan for that new iPhone because its stock rises and falls based on revenue it can bank on into the future.
As you ascend the recurring revenue hierarchy, expect the value of your business to go up in lock step.
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John Warrillow is the author of Built to Sell: Turn Your Business into One You Can Sell. He has started and exited four companies. Most recently John transformed Warrillow & Co. from a boutique consultancy into a recurring revenue model subscription business, which he sold to the Corporate Executive Board (NASDAQ: EXBD). In 2008 he was recognized by BtoB Magazine’s “Who’s Who” list as one of America’s most influential business-to-business marketers.