Not having to chase new sales at the beginning of every month, being able to sit back instead and enjoy a passive income-like revenue stream while thinking of ways to upsell and cross-sell to your customers... One can dream, right? It is dreams like this one that have entrepreneurs adopt the subscription model as the basis of their businesses.
However, not every subscription scheme succeeds. For every Dollar Shave Club story that made a successful exit, you can find tens of failures that left behind wiser entrepreneurs, less wealthy investors, and frustrated customers. Understanding how seemingly good business ideas went bust can be instructive for all of us.
Sometimes, an offer sounds too good to be true. That might be because it really is. That was the case for MoviePass, a subscription plan that gave people a movie ticket a day regardless of the market and theater for a monthly fee. The plan's detractors argued that it was unsustainable, which turned out to be correct.
But there was a time when the future looked bright for MoviePass for a while. After Ted Farnsworth and Mitch Love bought 51 percent of the company in 2017, they lowered the monthly subscription fee from $50 to $9.95. This move created the much-needed buzz, and MoviePass was adding a quarter-million new subscribers every month by the end of the year. The company had three million paying subscribers by June 2018.
However, there was a problem: Cash burn. An average movie ticket costs somewhere between $9 and $17, depending on the market. Since MoviePass paid the full price of a ticket to the distributor, it was losing money on every ticket. Heavy users used the service more than ten times a month, inflicting serious damage on the company’s finances.
Bleeding money on every movie ticket, MoviePass found it extremely difficult to hold up its end of the bargain. It sought ways to lower the usage rate of its most active users in an effort to control the damage. So it cheated its customers:
- 75,000 power users had their passwords invalidated,
- These users were allowed to see a maximum of three movies per month,
- Screening for movies was limited to certain movie theaters and time slots.
Customers do not like being cheated. MoviePass's moves to deceive its customers triggered a class action lawsuit, hastening the end for the already cash-strapped company. The company ceased operations in September 2019. Nowadays, the brand is attempting a renaissance with a new business model.
How could MoviePass executives hope to make money with such a business plan? Actually, their subscription plan was just a ploy to create a vast, devoted customer base. They thought they would be able to use that customer base to negotiate lower ticket prices with movie theaters, cut revenue-sharing agreements with them, and get a portion of the food and drink sales.
The Moviepass executives believed that the bigger the customer base, the more leverage the company would have vis-à-vis other stakeholders in the industry. Positioning itself as a data mining company, MoviePass banked on the idea that advertisers would fight each other for the privilege of accessing this customer base, which never happened.
It turned out that established movie theater chains like AMC did not want to be bullied around by an upstart. They refused to share revenue with MoviePass. Upon realizing how easy it was to copy the idea, those chains launched their own subscription services like AMC Stub A-List or Regal Unlimited.
MoviePass took the disruptor role to an extreme. It failed to blend into the Hollywood ecosystem, where many different players make money from the existing business model. Instead, it attempted to overthrow the established order on a wing and prayer. It was a shame that it forgot it was selling another company's product and had no extra revenue streams.
ScaleFactor's rise to fame had all the elements of a feel-good story: A tech startup from Austin, Texas, leveraging a trendy technology, artificial intelligence, to solve a problem affecting a large group of people, bookkeeping for small businesses. Founded in 2014, the company claimed that its technology would allow the automation of accounting processes after a brief consultation with clients. This promise may sound too good to be true now, but it was deemed credible by investors. ScaleFactor raised $100 million in funding from June 2018 to July 2019.
Despite its lofty promises, ScaleFactor proved to be a scam of epic proportions. As was revealed by former employees of the firm, ScaleFactor's operations had nothing to do with AI. It was just good ol' manual bookkeeping carried out in the background and obscured by financial tricks. Part of the job was even outsourced to an accounting firm in the Philippines.
Although nobody could have predicted this dark secret about how ScaleFactor conducted its business, the poor quality of the service spoke for itself. Unimpressed by the quality and suffering from costly accounting mistakes, ScaleFactor customers began to quit in droves in 2019. The churn rate was so high that the company set up a "Churn Desk" to prioritize the cancellation requests so that the financial outlook of the company wouldn't take a big hit.
Having realized there was no hiding the truth, the company announced in January 2020 that it was adopting a marketplace model to bring together small businesses and accountants (one could argue that was what ScaleFactor had been doing all along). This decision was followed by a hike in subscription fees as customary for startups about to go under. The firm finally ceased operations in July 2019.
ScaleFactor's bookkeeping product did not possess the capabilities advertised. The AI technology at the time was not mature enough to help develop an AI-powered accounting suite capable of delivering real-time updates, and it still is not.
Moreover, it turned out that accounting did not lend itself particularly well to AI-powered automation due to the high level of human judgment required and the potential cost of any mistakes. Accounting processes might seem tedious, boring, and quite straightforward to us. But it takes a good deal of professional experience and a deep understanding of legislation and Generally Accepted Accounting Principles to decide how a transaction should be categorized. This certainly is not the kind of job you assign to AI and walk away.
Munchery was a meal delivery startup that sold meals prepared by chefs in one of its kitchens in San Francisco, Seattle, and New York. It charged its customers a monthly membership fee of $8.95, which gave them a 20 percent discount on every meal they purchased. One of the early movers in the meal delivery business, the company raised a total of $125 million from investors.
Right before its $85 million funding round in 2015, Munchery's weekly revenue had reached almost $600,000. That funding round took Munchery's valuation as high as $300 million. However, this surge resulted from extraordinarily intense marketing efforts—the number dipped below $400,000 after the funding round. Faced with increased competition from startups with similar business models and losing money on every customer, Munchery ceased operations in 2019, nine years after its foundation.
Munchery suffered from the usual problems that plague every food delivery startup: Having to excel in the supply and delivery side of operations at the same time. Buying, transporting, and preserving different kinds of chicken, fish, meat, vegetables, and herbs; preparing the meals and delivering them in the most efficient way possible is a logistical nightmare a startup can hardly cope with.
That's why meal delivery startups are always hungry for cash and entangled in supply chain issues. Morgan Springer, the co-founder of Sprig, another meal delivery startup, sums it up nicely:
"…[It's] not necessarily the food that was difficult, but the challenge was more on both delivery and food, which are lower-margin businesses that are tricky to get right."
For meal delivery startups, building brand loyalty among customers is an almost insurmountable obstacle. Customer loyalty is virtually non-existent beyond six months as customers want to try new brands and are lured away by cheaper options. Therefore, customer acquisition cost tends to be really high for a meal delivery startup.
Because competing on price in the subscription-based food delivery (meal-kits or microwaveable meals) segment is a race to the bottom and expanding into new regions exacerbates the logistical problems, the best case scenario these startups can hope for is to be acquired by a retailer. Plated was acquired by Albertsons in 2017 and Home Chef by Kroger in 2018. Others like Chef'd and Munchery weren't that fortunate and had to shutter.
Making promises you can't deliver, lying to your customers about the capabilities of your product, and trying to execute a business model far beyond your means can support are surefire ways for a subscription business to shoot itself in the foot. Having a bright idea never suffices. Turning a good idea into a sound business plan is what differentiates a unicorn from a flop.
Instead of gauging its success by its popularity, a subscription-based startup should focus on attaining a defensible position in the market and keeping track of the number of its customers that will be there in a few months. Any short-term success is doomed to be elusive without a moat around your business. The CEOs of MoviePass, ScaleFactor, and Munchery can attest to that.