Why a subscription model like Amazon Prime? #PrimeDay

(This article by me was first published in The Drum magazine UK as a guest column here)

Amazon Prime day is just around the corner on 16th July. Each year, amazon tries to keep the faith among its loyal subscribers by unleashing never before deals available only to Prime Members, and gets the most signup done for its Prime Subscription.

Prime promises free and fast delivery of selected products, regardless of order value and gives you access to Movies and Music. Every year you do the mental math if you should renew it, and guess what, you do renew it.

But why a subscription called prime? Why a subscription at all for such a service?

Ever thought that why is every other business trying to sell you a subscription?

Business which are selling subscriptions to you

Here are the businesses which are selling subscriptions for products which were generally subscription free up to 10 years ago.

1. Milk and newspapers : When newspaper as a business started, it used to be sold on streets and people used to buy them everyday. Now almost all the sales are via subscription.
2. Games: Games were traditionally a one time purchase. MMORPG including World of warcraft changed that. You could keep playing as long as you paid the monthly dues.
3. Disposables & FMCG : Razors used to be one time purchase, but with Dollar shaving club, that changed. Now Amazon and others push discounts on subscriptions of Pads, Diapers, Razors, soaps, Bicuits and virtually everything where your rate of consumption is predictable.
4. Software: You used to buy your OS and Spreadsheet and word processing software.Most of it is now subscription based. Microsoft even has moved to microsoft 360 and if you want to buy a standalone version, well you will feel like a fool paying that price. SaaS and cloud based services are everywhere.
5. Services: Insurance used to be one time buy, even now to some extent it is, but feels like subscription. Any electronics product now you buy will try to subscribe to their version of AMC. Uber and Ola have created Passes which look like loyalty programs, but are subscriptions of products called Rate-cutters. Remember when you had a telecom pack and you could just take this additional pack and bring down your overall call rates? When you took a loan and paid an EMI, that too was a subscription.
6. Entertainment: You used to buy movies and songs and books. Now more or less all of them are a subscription. Kindle has Kindle unlimited, Movies and music are on Prime and other streaming services. Offline movies are being disrupted with subscription services like Movie Pass.
7. Investment: Have you heard of SIP. Means keep buying the same stock automatically every month. They have named it "Systematic Investment Plan", but is nothing but a subscription.

Its almost like every business out there is trying to see how can they hook on the customer to a subscription and creating products for it. It has become one of the most modern phenomenon.

So why is Subscription taking over the world?

Because it works. But i know you are not reading the piece to know this easy an answer. Well subscriptions work because it leverages a very particular human bias called FLAT RATE BIAS.

If we are not shown a statistic, we as humans are very likely to make an error of judgement on how much are we likely to consume or how much have we consumed in the past. This is why new scuba divers buy a scuba equipment than rent one, and New GYM goes buy an annual subscription than a monthly one.

This has been very nicely put forward in a year 2000 paper by University of South California study by Joseph C Nunes here.

Nunes in his study was able to show that people are unable to predict their future usages accurately. When people are asked to compare between a subscription and a flat fee structure, they don't go back and look at the history of their consumption to make a call.

Instead people start looking at the number at which the subscription will break even, and then start calculating their probability//likelihood of crossing it. At this stage, if they feel that if they are even remotely likely to cross the breakeven point, they go into savings mode and buy the subscription.

Illustration: How are you likely to evaluate your prime subscription

In terms of Prime subscription, if i ask you to pay INR 1,000 for faster and free delivery, you are NOT likely to analyse your purchase history to see if

1. How many times was your order below INR 500, as above this free delivery anyways from AMAZON.
2. How many times did you need the product urgently enough to have paid for a premium delivery slot.
3. How many times did you buy products which were anyways not under prime
4. How many times did you listen to Prime music and how many programs did you watch on Prime videos which you would have watched on television.

How many times have you bought prime. How many times have you actually gone and checked your entire purchase history to make a decision.(You can do that BTW)

You are more likely to think about

1. The large number of products that are available for free delivery for which you MAY have to pay a delivery charge, while this will make it convenient.
2. If you buy X amount of product on amazon, which had paid delivery, you will break even and get Prime Video and Audio for free.

Well you might not be thinking even that much, because right now Prime is just INR 1,000. Well remember that all this was available for INR 499 a couple of years ago.

The same prime had launched in US in 2005 at USD79 and has taken 13 years to reach a price of USD 119. Simply means that the prime service in India are under priced, and will quickly escalate to a normative price of say 3,000.

What other reasons make a business chase subscription model?

1. Flat Rate Bias : We saw flat rate bias above, where something giving you unlimited access just plays with your mind and lets it overestimate the usage of the product.
2. Predictability : A subscription declares your future intent today, which brings predictability and reduces wastage allowing to save more. If you have bought a subscription of 2 diapers a month, it is safe for a business to assume that you will be buying 2 units every month for some time.
3. Reduces number of Decision making instances : The number of times you pay is the number of times you do a last check evaluation on your decision. Reduce the number of payments, and you have effectively reduced the number of times you will audit a purchase decision with a cost benefit analysis.
4. Price Control : If the dynamics of the business change, with a subscription model, you can immediately shift your prices from the next billing for the entire user base. You can also.
5. Improved Cash Flow: You are getting some cash every month, rather than tonnes of money every two years when launching a new product and then sparse sales (Gaming, software etc)
6. Increases purchasing power of consumers: I have been a linkedin member since 10 years and might remain for another 10 (say).If a product like Linkedin was to be priced for a flat out pricing to get a cash flow of INR 2,000 for 20 years, they would have charged about INR 2,40,000 for that membership (approx). Would you pay a 2,40,000 Rupee lifetime membership for any social media? But by charging you 2,000, Linkedin makes it easy for you to have a basic account. Also when you don't need the account, you can cancel it.(HOW? We will have to calculate the time value of money by creating an annuity that pays INR2,000 for 20 years and interest rate 8%. This is simplistic calculation and doesn't take inflation into account. This value comes to INR 2,40,000 deposited today with linkedin so that they get INR 2,000 for 20 years. With inflation, it will be even more.) So once your purchasing power is increased, you become more relaxed in spending.
7. Inadvertent subscription : One of the most popular ways subscription is growing businesses is by the "first month free" paradigm. Countless number of consumers sign up for a service and then forget that they were going to be charged for it at the end of the month. By the time they realize and cancel, a couple of months have gone by.

Conclusion

Subscriptions are here to stay. With economy in the dumps and the growing income gap between rich and poor, all the points above including point 6 become very important to get an increased number of customers. There are some downfall as well for subscriptions. One of them for instance is its capability to provide a financial shock to a business.

Imagine you run a subscription based service, and suffer a hack. No revenue next month as your user base will be able to move out as quickly as they came in. Therefore while implementing subscription businesses keep a mix of flat out and subscription pricing.

And if you are a customer and reading it, before subscribing, look at your usage history BEFORE subscribing. Don't estimate. Look at the actual numbers, and you will be surprised.

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The views expressed here are my own and don't reflect the views of my employers present or past.