How Recurring Revenue Affects Business Value
Recurring revenue is the portion of a company’s revenue that will continue into the future. It is important to note that these are not the revenues that are just expected to continue, but the revenues that can be counted on to occur in the future.
Recurring revenue is the portion of a company’s revenue that will continue into the future. It is important to note that these are not the revenues that are just expected to continue, but the revenues that can be counted on to occur in the future. Having recurring revenue is a good for the business's value as the company’s income sources are better known and not just assumed based on one-off sales.
Recurring revenue can be accumulated in various ways depending on the type of industry a business operates. Below are the two most common types of recurring revenue.
· Long-Term Contracts
One common way recurring revenue is accrued is through long-term contracts. Companies that operate in the information technology and/or manufacturing industries will oftentimes sign long-term contracts with their customers that last for multiple years and often have cancellation clauses written within them. Long-term contracts like these protect a business's revenues over a prolonged period, even if a customer chooses to cancel the contract.
· Subscription-Based Model
Another way that companies can earn recurring revenue is through a subscription-based model. Software companies tend to be very good at building subscription-based models. When a business has a subscription-based model it generates monthly or yearly income by offering its service to its customers. Yes, these customers can cancel their subscriptions. However, if the software product is reliable enough, then the customer may stick around for a few years if not longer.
With more recurring revenue, it becomes much easier to project the businesses future earnings as opposed to random, sporadic or one-off sales. This, in turn, results in less company specific risk and will help increase the value of a business.
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