Updated: 22/05/2023
The definition is as simple as we can make it: a revenue model is how a business makes money. A revenue model is not to be confused to be the same thing as a business model. Read more on What Is A Business Model here and how a revenue model is a subset of a business model.
This article outlines some of the most commonly used revenue models startups use to sell their offerings, along with the advantages and disadvantages of each to help you pick the best revenue model for your company. Note that this article should not be used to make a final decision and is a mere guide only.
What Is A Revenue Model
Arevenue modelis a part of the business model that explains different mechanisms of income generation and its sources. This is a high-level answer to the question that asks how we will generate revenue from the value we bring to a certain customer group.
Startups firms are more likely to struggle owing to costs that they will not be able to sustain without a clear and well-defined revenue model and a clear plan of how to generate revenues. A firm can focus on a target audience, fund product or service development plans, create marketing plans, start a line of credit, and obtain financing by having a clear revenue model.
The revenue model is just like a fuel system to a car. While the engine or the operating model is a necessity, a car cannot move for long if its fuel system is damaged. Hence, a well-defined revenue model is important for any business to:
- Operate and expand the business in the future and plan accordingly
- Remain in the market for long to ensure the survival
- Make and keep track of profits
The revenue model is a sub-component of a business model. It is an important feature of the business model because it deals with the money side of things. It is made up of two major components -
- Revenue Streams. This refers to all of the business's revenue streams, including direct and indirect.
- Cost Structure. The cost structure of a company is made up of all the fixed and variable costs that it incurs in order to run its operations and produce revenue.
Types of Revenue Models
There are numerous types of revenue models, so this list in no way attempts to list them all, especially since so many of them go by other names in the business community. However, below are some most popular and effective revenue models employed by companies, both big and small.
The type of revenue model a company can use is largely determined by the activities it undertakes and how it charges for them. The following are some examples of revenue-generating models. Below is a list of the most widely used revenue models:
Transaction Model
Countless companies, both tech-oriented and otherwise, strive to rely on the transactional revenue model, and for good reason too. This method is one of the most direct ways of generating revenue, as it entails a company providing a service or product and customers paying them for it.
A pro for this type would be simplicity. This is because of its simplicity and a broader range of alternatives, consumers prefer this experience. However, because of the transactional revenue model's directness, many corporations utilise it themselves, resulting in increased competition and price erosion, and hence less money to be generated for everyone who utilises it.
Subscription Revenue Model
Subscription revenue models are built on the idea of selling a product or service in exchange for recurring subscription money, which might be monthly or yearly. They place a greater emphasis on customer retention than on new customer acquisition.
Instead of paying a hefty upfront one-time purchase, subscription business models focus on how money is generated so that a single consumer pays recurring payments for extended access to a good or service. For automobiles, software, entertainment, and shopping, the economy is now shifting toward subscriptions rather than ownership. This raises the customer's lifetime value (LTV).
Subscriptions are usually automatically renewed and enabled using a pre-authorized credit card or bank account. Subscription business models provide the advantage of recurring revenue, which helps to build strong client connections. Because this business strategy is so reliant on a huge customer base, maintaining a greater subscribe rate than an unsubscribe rate is crucial.
Direct Sales
In a direct sales revenue model, a business's own personnel demonstrate and offer its items directly to the end consumer under a direct sales strategy. This is in contrast to retail marketing, in which a company sells huge quantities of its items via distributors and stores rather than directly to end users.
Direct sales enable a small business to develop and manage its own personal relationships with clients. A small business adopting the direct sales model obtains the capacity to integrate its sales interactions with its production and marketing plans since it controls its sales team. The company can ensure that sales professionals who contact clients face-to-face utilise the same marketing language and presentation as its media advertising efforts.
Small businesses that use the direct sales model have a lot of control over their price and distribution. As a result, the company is better able to ensure that its products are reasonably priced. The company can also ensure that the people who represent its products or services are knowledgeable and effective.
A direct selling campaign allows a small business to reach customers it would otherwise be unable to contact. Customers do not all receive or respond to media advertisem*nts. Similarly, some customers may avoid shopping at retail stores that sell a company's goods. The direct sales model is a method of directly approaching these customers and initiating a deal.
Channel Sales (or Indirect Sales)
The channel sales approach entails agents or resellers selling your goods on your behalf, with either you or the reseller delivering it. The affiliate revenue model is a wonderful complement to this one, particularly if your product is a virtual one. If you’re planning to adopt a channel sales model over a direct sales model, it’s important to consider the state of your company, product, sales process, and more.
- Company Size and Maturity. Small businesses can build their business by partnering with others rather than hiring and training their own salespeople. When they're bigger, they'll be able to hire their own salespeople.
- Product Maturity. If your product is still in its early phases, you may want to use a direct interaction with your customers to quickly and efficiently assess what's working, what isn't, and what to do next.
- Location of Your Customers. Your distribution should be targeted to where your target customers are located.
A third party is involved in selling the goods to the final consumer in channel sales. A third-party could be a company-hired distributor, a retailer, or a wholesaler. Direct sales, on the other hand, are when a manufacturer sells a product to a customer directly.
Freemium Revenue Model
The freemium model is one in which a company's core services are provided for free, but users must pay for premium features, extensions, and functions. Linkedin, the most popular business/social networking site, is one of the largest organisations to adopt this strategy.
The phrase "freemium" is a mix of the words "free" and "premium," and it refers to a business strategy that provides basic functionality to consumers for free while charging a premium for extra or advanced functions. A corporation that uses a freemium model gives users basic services for free, frequently in the form of a "free trial" or limited version, while charging them for more advanced services or extra features.
A freemium model is one in which a company provides services to customers at no cost in order to develop a basis for future transactions. Companies create relationships with clients by providing free core services, then charging them for further services, add-ons, increased storage or use restrictions, or an ad-free user experience.
For Internet-based enterprises with low client acquisition costs but high lifetime value, the freemium model works effectively. Freemium is a business strategy that allows consumers to access basic aspects of software, games, or services for free before charging for "upgrades" to the basic package. It's a common strategy used by startups to entice users to try out their software or service.
The video below discusses some other revenue models that are in use in businesses today as well.
Business Model vs. Revenue Model
The majority of businesses create a roadmap for how they will run their operations. A model is the term used to describe such designs. These templates can be used for a range of things and exist in a range of shapes and sizes, including business and revenue models. Despite their similarities, the business and revenue models serve different purposes and define various areas of the firm.
| Revenue Model | Business Model |
| Focuses on answering the question of how the business will generate revenue | Overview of the whole business itself, key partners, customers, suppliers and more |
| A subset of the business model itself | Has further components than just revenue, i.e. cost structure, customer relationships, key activities |
| Corporations review their revenue model to make financial forecasts | Companies draft a business model and present it to financial institutions in order to get a loan |
To Conclude
Remember to conduct your homework and think about which revenue model is best for your startup because it can be difficult to switch once you've decided on one, especially if you're still in the early stages. As previously stated, this blog post does not cover every revenue model used by startups; nonetheless, by emphasising the most common ones, you should have enough information to assist you to choose the revenue model that is right for you.
However, by identifying the most popular, you should have enough knowledge to choose the revenue plan that will catapult your firm into the big leagues.
References
10 Popular Startup Revenue Models
