Recurring revenue: maintenance agreements, contracts and routes

Some companies start every year from zero: each sale has to be found, quoted and won. Others start the year with much of their revenue already on the calendar: quarterly pest control visits, weekly pool cleanings, monthly IT support, a linen route that runs every Tuesday. That second kind of revenue is called recurring, and it's one of the things buyers and lenders value most.

It's also one of the things sellers most like to talk up. Here's how to tell what's real, and how to keep it after you buy.

What counts as recurring

Not all repeat business is the same. From strongest to weakest:

• Signed agreements with a set term and regular billing. A three-year support contract at an IT services company, or a uniform and linen service agreement billed monthly.
• Maintenance agreements renewed each year. HVAC tune-up plans, pest control service plans, fire sprinkler inspections. Every year, the customer decides whether to renew.
• Routes without contracts. Weekly pool service or lawn care, where the customer can cancel any time but usually doesn't.
• Loyal repeat customers. People who call the same plumber every time something breaks. They're valuable, but nothing is scheduled and nothing is promised.

Be precise about which kind you're looking at. A seller who says "most of our revenue is recurring" may be counting all four.

Why it's worth more

• Predictability. You can plan crews, trucks and cash months ahead.
• Lower selling costs. Keeping a customer usually costs less than finding a new one.
• An easier handover. Customers on a schedule are used to the service simply showing up. They're often less attached to the owner than customers who call the owner directly for every job.
• Steadier earnings for your lender. A lender judging whether you can make the payments likes revenue that repeats.
• A base to build on. Each new agreement adds to next year's starting point.

That's why a company with strong recurring revenue often sells for more per dollar of owner earnings (profit plus what the owner pays themselves, before loan payments and taxes). A similar company that wins its work one job at a time usually sells for less. It's also why you need to check it carefully: if you pay extra for recurring revenue, it had better recur.

How to check that it's real

1. Get a customer list with billing by month for two or three years. One row per customer: what they pay, how often, when they started and, if they left, when. Ask for it straight from the billing software, not a spreadsheet typed up for you.
2. Read the agreements. Look at a sample, including the biggest customers. Note the term, whether it renews automatically, how much notice the customer must give to cancel, whether prices can rise, and whether the agreement can be transferred to a new owner. Our post on contracts that may not transfer explains what to look for in that last clause.
3. Match billing to the bank. Recurring revenue that never shows up as deposits isn't revenue. Proof of cash walks through checking reported revenue against bank statements month by month.
4. Count agreements over time. How many were active at the start and end of each year, how many were added and how many were lost.
5. Look at who pays. If one or two customers pay a large share of the total, losing either would hurt, however steady the rest looks.

Measuring renewals

The simplest measure: of the agreements active at the start of a year, how many were still active at the end?

Here's a hypothetical pest control company:

	Year 1	Year 2	Year 3
Agreements at the start of the year	380	420	430
New agreements	90	80	60
Agreements lost from those at the start	50	70	85
Agreements at the end of the year	420	430	405
Kept, out of every 100 at the start	about 87	about 83	about 80

If the owner raised prices each year, revenue might look flat or even growing. But the count tells a different story: fewer customers are staying each year, and fewer new ones are signing up. Something is changing. Maybe a good technician left, a competitor arrived or service slipped. Ask, and ask for the evidence.

Two more views help:

• Revenue from the same customers, year over year. If it rose only because of price increases while the number of customers fell, the increases may be pushing people out.
• Month by month, for services billed monthly. A run of cancellations in the months before a sale is worth a direct question.

There's no universal "good" renewal number that applies to every industry, so compare the company with itself across several years, and ask how the owner measures it.

What can make it disappear after a sale

• Agreements that need consent to transfer. If a customer has to approve the change of owner, every one of them gets a natural moment to reconsider.
• Relationships tied to a person. On routes especially, customers often know the technician or driver better than the company. If that person leaves, some customers may follow. Find out who services the biggest accounts, and plan to keep those people.
• Automatic renewals that get a second look. A new owner's name on the invoice can prompt customers to read what they're paying for, and some will cancel.
• Price increases just before the sale. They lift this year's revenue and can cost you customers next year. Check when prices last rose and what happened to renewals afterwards.
• Missed visits during the handover. Nothing loses a recurring customer faster. Plan your first months around keeping the schedule exactly.
• Prepaid agreements. If customers paid for a year of service up front, the seller already has the cash and you'll owe the visits. Add up the service still owed at closing, and settle it in the price or in what stays in the business. Our post on working capital at closing explains how.
• Month-to-month customers, who can leave with no notice at all.

Questions to ask the owner

• How many active agreements do you have now, a year ago and two years ago?
• How many customers cancelled last year, and why?
• When did you last raise prices, and how did customers react?
• Who services your largest accounts, and how long have they been with you?
• How do renewals happen, and who reminds customers?
• Have any customers paid ahead for service?

What to do this week

• Ask for a billing export by customer and month, covering three years if possible.
• Build the renewal table above from it.
• Read ten agreements, including the largest, for transfer, renewal and cancellation terms.
• Match a few months of billing to bank deposits.
• Before you rely on any contract, ask an attorney to review its transfer terms.