The real cost of a subscription business: a payment gateway comparison

The real cost of a subscription business: a payment gateway comparison

As a result, businesses are changing the way they sell their products and services. New business models have emerged to cater for this trend and focus on repeatable, recurring relationships. The emphasis is on Customer Lifetime Value.

This is the subscription economy.

 “At the heart of the Subscription Economy is the idea that customers are happier subscribing to the outcomes they want, when they want them, rather than purchasing a product with the burden of ownership.” Zuora

Think about how about your relationship with Netflix, Spotify, Dropbox, Dollar Shave Club. You sign up once and ‘set and forget’. You can’t remember what life was like before them.

Benefits of a subscription based business

Subscription businesses provide great benefits to both the business and the customer.

For the customer, subscriptions provide flexibility – no lock-in contracts and packages that simply scale up and scale down based on features or usage.

From the perspective of the businesses, subscription models provide predictability of revenue, resources (staff) and administration cost savings (e.g. by not having to chase customers, not dealing with banking and cheques).

The greatest benefit we have as a subscription based business is cashflow. Because our clients have direct debits setup for our service, we have no debtors. Profit trickles directly to Free Cash Flow (FCF). This the holy grail – every business should strive to maximise FCF.

Subscription based business however, does come at a financing cost. That is the payment gateway provider.

Merchant fees

As subscription economy businesses facilitate trade over a digital medium, cash and cheques are out of the equation. The only way to do business is via a merchant facility, or what are coined payment gateway providers.

Payment gateway providers charge a fee on every transaction. There are a myriad of payment gateway providers in the market, all which have varying rates and tax jurisdictions. Amongst the most popular in the market include Stripe, Paypal, Braintree, EziDebit and EWay.

Many of these payment providers now integrate directly into cloud accounting software, allowing customers to pay via these methods instead of by cash or cheques.

A comparison of payment gateway providers in Australia

Below is a summary of the most common (and a few less common) payment gateway providers, ranked by price per transaction (factoring the GST input credit available to be claimed by Australian businesses).


Factoring the eligibility to claim GST credits on the transaction, Stripe and PinPayments are the providers which provide the most ‘bang for buck’.

Opportunity cost of online payments

Now you’re probably thinking that 1.58% of every transaction is relatively cheap right? On face value it sounds immaterial. However, this is not true.

To understand the real cost of Payment gateway fees, this rate needs to be converted to an annualised effective interest rate. This allows us to benchmark this cost against other forms of capital costs.

Cost benefit analysis

The table below summarises the effective interest rate of using a payment gateway provider and factoring in a series of varying payment terms.


In real terms, the interest rate you’re paying is a whopping 19% if your average debtor days are 30 days. Compare this to your typical bank overdraft rate at ~7% and the contrast is clear.

So this lead us to an important question – at what point does it make economic sense to have your customers pay via a payment gateway in order to reduce the cash conversion cycle?

Your cost of capital

You firstly need to compare the payment gateway fee against your weighted average cost of capital (WACC). Without going into detail, the cost of capital is calculated on a mix of the debt capital cost (e.g. a bank loan) and the cost of equity capital (investor funding). For many small businesses, the cost of capital ranges between 15 and 30 percent. It could be less for an established, well-capitalised business in a stable or growing market, or much higher for a risky one, i.e. a startup.

If your cost of capital is less than the effective interest rate, then it does not make theoretical sense to utilise a payment gateway provider. This is because the cost of receiving the money now outweighs the cost of funding that working capital via other financing facilities (bank debt, shareholder equity).

If effective interest rate > Cost of Capital, then don’t use merchant facility

If effective interest rate < Cost of Capital, use merchant facility.

Now this isn’t always practical and there are other financial and non-financial considerations that will modify this logic.

Opportunity cost of funds

Irrespective of your cost of capital, paying a premium for a shorter payment cycle doesn’t make sense if you haven’t got immediate use for that money.

For example, you may have considerable surplus cash (lazy capital) sitting on your balance sheet doing nothing. On the other hand, if you have a clear use of funds – i.e. using the cash to reinvest back into your sales and marketing function to produce more sales, then you should consider paying for this liquidity to fund growth.

In other words, whilst it’s not a cheap form of funding, merchant facilities are suitable if you are aggressively trying to grow your business. This is one reason why high growth startups utilise payment gateways and not invoice on trade terms – cashflow is everything when you’re going for world domination.


Payment gateway fees eat directly into your profit margins. If you have solid profit margins – great, you can afford it. If you’re already on skinny margins, by careful the fees don’t eat away at what’s left.

Slow paying clients

Offering merchant facilities can help you get paid faster, particularly in a subscription based ‘set and forget’ model. This can help to push those slower paying clients over the line.

Other considerations

There are other considerations to be made when implementing a payment gateway provider. These include:

  • Administrative cost savings
  • Customer experience
  • Your mental state (everyone hates chasing people for money).

In summary, offering alternative payment methods to customers has a range of pros and cons. Before deciding on whether you should make these alternate payment methods available to your customers, do the math and use data to inform your decisions.

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