This is a 7-minute read, but it’s worth it!
Most of today’s companies execute multiple methods of bringing their product to market and creating revenues. In this post, I’ll describe the nature of those paths to revenue and the pros and cons of each.
Of course, you might be interested to know which path to revenue is best for your business and my answer will be it depends on multiple factors that are unique to your business. In reading thoughts you’ll get a sense of my opinion, but I’ll highlight most of the key considerations at the end of this post.
This approach to the market requires the creation and management of a team that interacts directly with end user customers. As such, all elements of Revenue Operations (“RO”) are required to be running in order to achieve optimal results. That being said, the sequence of RO levers to implement can vary depending on stage of company, availability of capital and product-market fit.
The direct sales approach can achieve faster results than other revenue channels but this is entirely dependent on your team and the ability of RO to identify the key pain points of each Ideal Client Profile and have an offering to fix these problems at a price that would be easily accepted. Most of the time though, all of these elements are unknown (ICP, ICP Pain, Offering, Pricing) and thus the speed to fully ramped revenue growth can take significant time.
This approach is best for young companies who have launched their first or second product, and are seeking market feedback on the goodness of fit to their Ideal Client Profiles.
- Fastest way to achieve market feedback
- Capture all economic rents from transactions (ie. No middlemen)
- Direct feedback provides ability of product team to iterate product, leading to (theoretically) faster product-market fit
- Ability to test business and go to market models and markets
- This method is a big flywheel that requires a lot of heavy lifting, continuous review and complete alignment of the entire organization
- Ramp up time to fully scaled Revenue run rate is dependent on:
- Product-market fit
- Right approach to market
- Sales personnel & management skills, aptitudes and compensation model
- Requires the key elements of RO in order to have a chance to be effective.
Channel Partner or Affiliate Sales
There are many companies operating in local markets that already service your Ideal Clients and Prospects. They generally provide services and products similar or complimentary to your offering.
Generally these partners have both the relationship access to your target prospects and the technical skills to provide local service. And if they’ve got great internal sales processes they can provide you with significant market penetration, presence and leverage. If your offering requires local presence (due to language, culture or product complexity) then using channel or affiliate partners may be the easiest way for you to gain access to these markets.
- Quicker access to Enterprise or Complex buyers
- Existing technical expertise shortens technical ramp up
- Low capital costs or expenditures
- Leverage affect possible
- No direct access to prospects and customers hampers ability to confirm product-market fit
- To create real leverage, you need to occupy the mindshare of the partner
- Requires same enablement and training programs and “in-house” sales personnel
- Won’t know if the partner or affiliate is serious about marketing your offer until many months after execution of the relationship
Private or White Label Agreements
A private label agreement is one in which you agree to provide your product to an independent third-party with some minor modifications. These modifications are generally related to branding and/or packaging, but could also include something materially different from your existing product including code or physical modifications. In most cases, you’re still producing the modified product in your production facility or with your development team.
Most private label arrangements are governed by a legal agreement which covers a variety of matters including, but not limited to, joint marketing efforts (who pays for what), minimum sales commitments, progress payments for modifications (NREs), Intellectual Property protections, cancellation terms, and service & support programs.
One of the key differences between private label and other indirect revenue channels is that because product owners maintain control of the production, it’s easier for them to maintain control of the IP.
- Access to potentially larger market without implications to existing brand
- Large volume commitments from the private label partner
- As a secondary revenue channel, these agreements create incremental revenue and gross margin
- With this offering you can attract complimentary market leaders and operators
- One of the lowest sales and marketing costs of revenue channel options
- Requires its own channel management strategy and tactics within your organization
- With no direct access to end user market, you gain less information about product-market fit
- In most cases, there is little intertemporal accountability on sales volumes beyond contractual commitments
- Market confusion can be created if the private label product looks similar to your branded product
- If you have too many agreements outstanding your offering can become commoditized
Original Equipment Manufacturers (OEM)
Imagine that a large, multi-national Fortune 1,000 company with well-established revenue channels wants to purchase some component of your offering for its own products. No muss, no fuss, just sell them the code, API or components and they’ll just write cheques. Sounds easy, no? Not exactly.
While the OEM client is the holy grail of revenue for technology focused companies, OEM deals are filled with trapdoors and intricacies that need to be navigated in order for them to be effective.
In addition to the IP protections that are required (most OEMs have their own R&D groups so workaround language is important), you’ll need to ensure that your new client doesn’t use competitive products in their end user solution (which could replace yours), engage in predatory purchasing policies to drive away your margins or request abnormal co-marketing support dollars in relation to the total “whole product”.
You’ll also need to ensure that the term of the agreement is of sufficient length so that you can reap some economies from the initial work that you’re going to be doing to comply with your OEM client’s product specifications (each deal is unique). You’ll also need to watch out for “easy” termination clauses that would allow your OEM partner to cancel the agreement without implications.
- Your components are embedded with a market leader driving increased component unit sales
- Increased component sales volume can result in gross margin improvement as your Bill of Materials or cost of development per unit decreases (ie. You benefit from economies of scale)
- Allows you to focus on technology more than the go to market strategy and other revenue channels
- OEM agreements can take a long time to execute (think years, not months)
- Depending on market, ramp up time to revenues can also be longer than expected (and you’re not in control of this)
- Zero control over the go to market strategy or end user visibility
- Your component or offering may be considered a commodity by the OEM and thus marginalized as the OEM’s strategy changes
- Price becomes a major factor in negotiations as the OEM attempts to keep their whole product BOM within a target range
A licensing transaction is when a third-party agrees to purchase the rights to use your IP for their own purpose. In most cases, buyers who choose a licensing agreement (“licensees”), build and produce the end product or component as part of their “whole product” offering.
While OEM agreements are the “holy grail” for those manufacturing product, licensing agreements are the rocket fuel that can drive and monetize Research and Development efforts if you don’t have a go to market strategy as described above. These deals can be complex but lucrative, and share some of the components with their OEM counterparts.
- Highest gross margin revenue
- Can create high lifetime value per end-user
- Based on historical R&D performance
- Trust but verify – you’ll need to have appropriate audit rights to ensure that you know your IP is being used and sold
- Agreements need to have strong workaround language or need to be able to evolve as technology changes
- Agreements can take a long time to execute
- The number of licensees is limited to those for whom your technology has strategic importance
- As the number of licensees increase, this Revenue Channel will require its own manager
Joint Ventures or Revenue Sharing Agreements
These relationships require careful thought and planning as they are generally designed to be long term in nature.
Joint Ventures are generally separate legal entities incorporated in the location where the business is to take place with their own (local) corporate governance guidelines. In contrast, Revenue Sharing arrangements are not separate legal entities but a contractual agreement between two or more parties.
The nature of each agreement is customized for their respective market but you’ll need to agree on, at least, who covers what expenses, current and future product offerings, what type and how much technical support will be provided, product transfer pricing and legal liabilities.
Joint ventures are often created when the parties are bringing a new product or technology to a new market. Revenue Sharing agreements are usually created when there is a decent product market fit in the primary market, but the operator is seeking to expand beyond is current target market or geographic borders and doesn’t want to commit its current go to market resources to this new target market.
While both strategies have an element of reduced execution risk because there is at least an additional invested party in making the business work appropriately, don’t be fooled. If you want to make this arrangement successful then you’ll need to work as hard or more than any other revenue channel. This seems counterintuitive because, while your partner is “invested” in this relationship (monetarily or otherwise), they’re not going to be as emotionally invested as you.
- Startup funds shared between partners reduces financial risk
- Local presence in market assists end-users and legal requirements (local “tenders”)
- Creates a legal buffer between parent company and the operating entity, thereby reducing legal liability
- Requires significant investment in personnel, training and support at the outset of the relationship
- Senior leadership must be part of the governance, decision making and audit process as part of its daily operations taking away focus on core operations
- Vetting and review process – as you’re gearing up for a long term relationship, make sure you know your partners and any challenges they might have
- Increased administrative costs – as JVs are separate legal entities they’ll have some of their own latent administrative costs
So Which Revenue Path is Right for You?
After reading this lengthy discussion you might be left with asking this question. My answer is that it depends on several factors including:
- Product & business model maturity
- Capabilities of your team
- Desire to approach new markets (industries or geographies)
- Current financial situation
- Scope and size of addressable market
Bringing it all together
Because any dollar of revenue is a worthwhile pursuit, it’s easy to understand why you’d want to concurrently pursue all paths to Revenue as you’re launching (or relaunching) your business. As you’ve come to appreciate from the above analysis, this simply isn’t true.
The initial and ongoing effort required to achieve your first dollar on any of these Revenue channels varies and is dependent on a number of factors including your current product-market fit, your internal team’s capabilities to manage the Revenue Channel and your current financial situation.
I’ll address each of these in a separate post in the near future, stay tuned.
Blair Carey is passionate about using data to help companies meet their mission and purpose which is why he created Insidecro.com as a place where CROs can collaborate on anything they’re thinking about.
You can find him on his LinkedIn profile here.