Melissa Clark-Reynolds keeps a spreadsheet where she keeps track of companies that she is interested in investing.
There is a wide range of opportunities on her list, but there is one common feature to them all: every single one is a subscription business.
Clark-Reynolds is a New Zealand entrepreneur and futurist with a formidable track record. She is also a recipient of the Officer of the NZ Order of merit, one of her country’s highest awards.
She has over 25 years of experience in the business startup scene and was trained at Harvard with Clayton Christiansen in his approach to Disruptive Innovation.
Now, her experience tells her that many of the business models which have proved successful in the past may not be successful in the future. It also extends to how one values companies as capital expenditure fades in importance and operational expenditure takes over.
Subscription Makes Business Sense
“Subscription business models are the fastest growing business models in the world,” said Clark-Reynolds.
"Instead of buying a big lump of something for so many years, you rent it monthly. We all saw that this changed with software about 20 years ago, but it is now at the point where in the U.S. you can [drive] a Mercedes you want with a subscription and change it on a regular basis,” she added.
Clark-Reynolds pointed to agricultural machinery maker John Deere as another example. The company is extending its subscription for its software and data services to its range of capital equipment.
Farmers might never have to buy tractors, and John Deere’s business model might not be that different from Netflix.
When it comes to capital equipment, the subscription model has benefits on both sides of the equation. For users, the asset-light approach means they do not have to budget for expensive items which then sit on the balance sheet and depreciate over time. For suppliers, the model provides regular and monthly income that can solve cash flow issues.
Clark-Reynolds is aboard a global wave of opinion. In his 2018 book Subscribed: why the Subscription Model Wil Be Your Company’s Future …and What to Do About It, U.S. entrepreneur Tien Tzuo said that if businesses did not shift to this model, in a few years, they might not have a business to shift.
It sounds like a dramatic quote, but Tzuo believes that “ownership is dead” and that in the 21st century it is all about access as the new imperative.
“It’s not about the physical product; it’s about what the customer is trying to do,” he told a Stanford University website in an interview last year.
“And that inversion is at the root of everything.”
He observed, “Using cement as an example, you realize that flooring is the actual need. There’s a whole revolution of industrial carpets right now. That’s a service contract; you simply pay some monthly fee plus overages and usage, so you can actually subscribe to a floor.”
Clark-Reynolds pointed out that as businesses move to this model, there are enormous implications for accountants and business analysts who would need almost wholly to review the idea of value. “We are looking at a future where CapEx has almost disappeared, and everything becomes OpEx.”
“So, when I look at the core valuation, I am no longer interested in the way my P and L is set up. I am interested in my annualized run rate and what that is going to look like if I start adding new clients,” she said.
"I want financial modeling which shows me what that annual run rate looks like over a very short period of time, and my old statements which showed me what I did last financial year are not much use to me,” she added.
These businesses, Clark-Reynolds opined, will have a fundamentally different set of Key Performance Indicators to those that we have used in the past. While entrepreneurs are rushing in the subscription direction, she does not see accountancy or financial modeling following fast enough.
The shift is well understood in the venture capital community. However, accountants, in particular, have not yet made the switch. While they are busy discussing how technology and automation will change their business, they are yet to change their mindset and understand the implications of the changes.
“The sector needs to move to an understanding of how these new business models work,” said Clark-Reynolds. “What does it mean for my bank financing if I am on a subscription model? What equipment is worth buying or renting?”
“My balance sheet might look better if I spend CapEx, but if I spend OpEx that won't build the balance sheet the same way because the main asset is cash flow in the future."
It means that businesses are going to need a very different kind of advice to that they are currently receiving, proving once again that business transformation is as much about people and their mindsets as it is about the technology they deploy.