BACK TO
Customer Churn: What Is It? And How Do You Reduce It?
   

Customer Churn: What Is It? And How Do You Reduce It?

Churn is the number most entrepreneurs don’t like to talk about.

But it’s an incredibly important growth metric for SaaS businesses! It might seem like it has a small marginal effect on MRR every month, but once churn gets out of control — it can tank your entire business.

Reducing customer churn should be a top priority for any SaaS company, so let’s dig into how to calculate churn rate, why it’s important, and how you can approaching lowering it.

So, what is customer churn?

Customer churn (also known as user churn) is a reflection of how fast users are leaving your service. It’s a brutally honest metric that relates whether you have a viable business because high churn hinders your potential for growth.

In SaaS, it’s the fast-growing companies that reap the spoils. As the consulting firm McKinsey puts it, SaaS companies either “grow fast or die slow.” This reality is also reflected in the name of our podcast, which deals with all things growth, Scale or Die.

How to calculate customer churn rate

In order to calculate customer churn, divide the number of customers you lose over a given period of time by the number of customers at the start of that same time frame.

Here’s a quick customer churn rate formula you can use:

customer churn formula

Customer churn is generally calculated and tracked in terms of a percentage change over a month or year. For example, if you started January with a customer base of 100 and 20 customers left over the course of the month, your monthly customer churn rate was 20% (see churn rate calculation below):

customer churn filled

Customer churn vs revenue churn

Before we go any further, it’s important to clarify between the two main camps in which churn can be defined: customer churn and revenue churn.

  • Customer churn: the ratio of customers that you lose in a time period over the total number of customers at the beginning of that time period
  • Revenue churn: the ratio of revenue that you lose in a time period over the total revenue at the beginning of that time period

Both types of churn are drastically important for building a sustainable business model. But in this article, we’re focused on the impact of customer churn on your business.

Why customer churn is so important

Churn is a critical metric because it measures how much users like you and how efficiently your company can make money.

Customer churn reflects customer satisfaction

You can’t build a viable business if people generally don’t like using your software or service. That might sound obvious, but calculating churn makes it so that business owners can’t hide from reality. A churn rate makes it clear that:

  1. you are either retaining users/customers
  2. you aren’t retaining users/customers — and your business will eventually die

In short, there is no hand waving away high customer churn.

image description
“And then there’s the ultimate proxy for customer satisfaction — Churn. Low churn equals happy customers; high churn means head for the exits. To add a nuance, though, we need to look at churn in relation to the rate of new customer additions.”Scott Kupor, Partner at Andreesen Horowitz

Scott Kupor of Andreessen Horowitz calls churn, “the ultimate proxy for customer satisfaction.” He also adds that, from an investor’s perspective, “low churn equals happy customers; high churn means head for the exits.”

If you want to grow your business and keep your investors happy, low churn is crucial.

Customer churn has a big impact on your revenue

A key tenant of the SaaS world is that it is less expensive to keep your current customers than it is to attract new ones.

It is generally thought to cost five times more to gain a new customer than it costs to keep an existing customer, and research out of Bain and Company shows that boosting your customer retention rate by just 5% leads to a profit increase of 25% to 95%.

This makes intuitive sense if you think about all the steps involved — there’s a high associated acquisition cost with acquiring and educating a new customer. You have to find a customer, learn their needs, position your product, onboard the new client, and then wow them to stay in the first critical months. That’s a lot of steps…

Wouldn’t it be nicer to keep the customers you already have than work twice as hard on the acquisition front? I think so…

A quick example of churn in action

The impact of churn can be made more salient with a hypothetical example. Let’s say your company, Mary’s Marketing, has 1000 customers, each paying you $300 per month to use the service. That means your monthly recurring revenue (MRR) is $300,000.

Let’s also say your customer acquisition cost (CAC) is $1500.

why does churn matter

First, imagine that you have a customer churn rate of 10%. In this case, you are losing 100 customers each month due to churn. In order to get those 100 customers back, and return to baseline, you have to spend $150,000 each month (your CAC multiplied by the number of churned customers).

That’s half your MRR of $300,000!

When half of your incoming revenue immediately goes toward recouping churned customers just to stay afloat, you don’t have a ton of room to focus on other areas of your business. That means fewer engineers to build out new product lines, less time to dedicate to high-value customers, and not as much marketing spend available for new acquisition channels. Your locked up capital creates a flywheel that actually amplifies your customer churn problem.

Not the growth flywheel you want…

But, now let’s imagine you can cut your monthly churn down to 5%. In this case, you only lose 50 customers each month, which reduces the amount you have to spend to get back to the baseline of your business ($75,000). You just unlocked 75 grand to use on personnel, equipment, conferences, and anything else that can help your business level up.

A 5% reduction in customer churn might not feel like a huge shift, but the monetary ramifications are enormous.

How can you reduce customer churn?

There are many factors that can lead a user to churn, some of which are totally out of your control. There’s only so much you can do about budget changes and strategic pivots amongst your customers. But there are quite a few things under your direct control that can directly impact churn. You’ll want to focus some serious effort in those areas in order to improve your retention.

Listen to your users

Conduct surveys and monitor social media channels in order to find what parts of your service your users like, and which parts you need to improve. Your current users are your most valuable resource, and you’ll never truly know how you can keep them happy unless you ask.

Gathering both quantitative and qualitative feedback is a key tenant of growth marketing—and one you’ll want to prioritize as you run split tests and experiments.

Personalize everything

Customers these days expect the products and services they use to be tailored to their specific needs. If you aren’t connecting with them on a personal level, they are less likely to stick around. Think of Amazon’s custom homepage, or Netflix’s curated shows, or Spotify’s playlist suggestions. Those are some of the many examples of big brands that understand how personalization makes for a sticky customer.

netflix customer churn

As Steve Jobs once put it, your company’s goal should be to “get closer than ever to your customers. So close that you tell them what they need well before they realize it themselves.”

Provide great customer service

Poor customer service is perhaps the most intuitive reason people churn. If you feel mistreated, you won’t want to work with that company anymore.

The data bears this out — 89% of people have cut ties with a business after a bad customer service experience.

If you are attentive to your customers, they will reward you. Consider implementing a live chat tool such as Intercom in order to quickly deal with customer issues in real time. You can even flag tickets by plan, and make sure that you consistently deliver fast and delightful service to your highest paying customers.

This prevents larget quantities of revenue from walking out the door on a monthly basis.

Master the onboarding process

23% of customer churn occurs because of bad on-boarding. Maximize your odds of success by scheduling customer success calls early on, creating walkthrough videos, and generally showing a ton of enthusiasm and excitement. A user who feels appreciated and has the tools to understand how to best use the product is more likely to stick around.

Here’s an example of a recent onboarding email I received from the team at Clearscope. I appreciated the offer of a demo to best learn the product — with the option to skip and login to a self-service trial.

Screen Shot 2019-06-24 at 3.58.40 PM.png

A well-executed onboarding email from Clearscope.

Attract the customers you want

A high customer churn rate might be a sign that you aren’t optimizing the way you qualify leads. It’s not all about quantity of leads, but also quality. One way to potentially lower churn is through a lead scoring system.

Examples of actions that could increase a lead score

You can analyze potential leads based on firmographic data (company size, location, etc) and behavioral data (what pages they click on, what blog posts they read, etc) and then assign a weighted score based on how likely they are to become a user. If you target users who are a great fit for your company, they are more likely to stick around.

What is an acceptable level of churn?

Deciding a “good” level of churn can be tricky. That’s because acceptable churn will depend on many factors: the maturity of your business, the type of product you sell, and your ideal customer.

Startups who are still figuring out product market fit and are selling to a wide range of customers will have higher churn, but that doesn’t necessarily doom them. On the other hand, companies that sell an expensive, enterprise product should have much lower churn, as they have a smaller pool of companies to work with should a user churn.

According to SaaS analytics company Baremetrics, SaaS companies selling to small and midsize businesses should aim for 3-5% monthly churn while those selling an enterprise product should aim for a monthly churn of less than 1%.

Don’t let churn sink your business

High customer churn can doom a SaaS business in the same way over-spending can doom a personal budget. Success in both realms comes not from accumulation alone, but from keeping what you bring in. A million dollar nest egg won’t last long if you have a taste for Rolexes and Bentleys, and acquiring new users at a blazing pace won’t lead to sustainable growth if your churn rates sits at 30%.

If you understand churn, consistently measure it, and work to mitigate its effects, you’ll unleash the full growth potential of your business.