How To Build a Revenue Model in Five Steps
When starting your own company, one of the biggest decisions you’ll have to make is deciding your revenue model. The revenue model is part of the overall larger business model and it details how a company generates revenue. The odds are that you won’t be profitable in the beginning, in fact, on average it takes two to three years for a startup to become profitable. To secure funding, you’ll need to be able to demonstrate that your product or service has the model to become profitable in the long run.
There are five key steps to developing your revenue model:
1. Find a good fit
The type of product or service you plan to offer will guide the type of revenue model you need. Often times, multiple revenue models can make sense so you need to analyze which is the best fit for your product, not just in the short-term but in the next 3-5 years.
For example, is your offering a “freemium” service (a basic free version with upgrades available for a cost)? Is it subscription-based, referral-based, or pay-per-use? What is special about your offerings? Your revenue model should be positioned as a selling point for whatever you’re offering. These are some of the most popular models.
2. Identify potential investors
If you’re seeking funding, it helps to identify investors who are active in your sector and may be willing to invest. Make strategic decisions that will appeal to your investors and build your pitch around these. Don’t just think short-term but outline the big picture ideas for like-minded financiers and investors. The best investors are those that are willing to wait for the ROI to be realized, rather than seek a short-term profit.
3. Make Projections
Investors want to know what the future outlook is for your model. They also want to know when they can expect their money, what the major milestones are and most importantly when are you going to start generating revenue? While this is important to you too, you can’t realistically make predictions further than 12 to 24 months. The further out you get, the less certainly you will have.
4. Prepare for Change
Your overall approach may not change much drastically over time, but you should continually be refining your model and re-forecasting. Remain flexible and understand that you may need to pivot your revenue model at some point to better serve your business.
5. Identify the key variables
You’ll need to find the variables that have the greatest impact on your revenue—and figure out what they are most sensitive to. A sensitivity graph is a great tool for looking at each separate value and graphing its potential impact on revenue as that value changes.
The goal is to get your variables to a point where you can mitigate them. You want to be confident in your numbers—this means seeing them realistically. There’s no benefit to hiding risk, your investors will hunt for it and sooner or later you will have to manage it. You need to identify, understand, and directly address it. Doing this creates transparency, which is good for you and your potential investors.
There is a lot of choices to make and obstacles to overcome when developing your revenue model—but it lays the foundation for your company’s success.
Want to learn more? Check out EIA blog!
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