Churn rate for SaaS : What is it and how can you reduce it?

Oftentimes it is easier to understand a concept by defining its opposite. In our case, "Churn" is diametrical to "Retention". If you are running a business - especially a SaaS or subscription based-business - you want more customer retention and less churn.  

Churn can thus be defined as the amount of business you lose over time. 

Want to know how to calculate your churn rate and how it relates to your business? And what factors increase the churn rate, and how could you preempt the customer loss? We will be discussing everything in detail.

Understanding the value of SaaS Churn metrics

In our competitive industry, metrics related to retention and churn are paramount. You've worked hard to acquire new customers. The last thing you want is for them to leave. And if they do, it is wise for you to figure out why they did and how to remediate the issue.

A customer's departure can take many forms:

  1. Canceling a contract (voluntary churn)
  2. Not renewing a subscription (involuntary churn or voluntary churn)
  3. Payment lapse (involuntary churn or voluntary churn)
  4. Downgrading a service (voluntary churn)

In all cases, customer churn manifests as a loss of revenue for your business. Which is terrible news. But more importantly, a high churn will require you to dig deeper into the underlying causes of loss:

  1. Is there a problem with your product or service?
  2. Is it a customer service issue?
  3. Are your prices too high?
  4. Are you delivering too little value?
  5. Do your customers have issues with their payments? 
  6. Are you losing business to the competition?

The list can go on, but as you can see, further examination of your churn numbers forces you to reevaluate your business proposition and model from the ground up.

Churn and its associated metrics (churn rate, renewal rate, etc.) are critical profitability metrics for a SaaS company. It would be beneficial to understand the differences and correctly interpret them for the better management of your SaaS company.

SaaS Churn Rate Metrics

  • Churn Rate is the rate customers drop off their subscription plan over a defined period. It tells you how many customers you have lost over a specific period.  
  • The Renewal Rate is the rate (in percentages) of customers that renew their subscription at the end of a period. 
  • Retention Rate (the opposite of churn) is the portion of customers that continue to use your product or service after a defined period. 
  • Customer Churn (or attrition) is the rate at which you lose existing customer accounts. Analyzing this metric allows you to determine if you are good at keeping customers. 
  • Revenue Churn examines the loss of revenue. You may have a low customer churn (meaning you are not losing existing accounts), but each remaining customer is spending less on your business. Thus the revenue churn rate is still high. 
  • Gross Churn is the total monthly revenue lost through service cancellations. 
  • Net churn is the revenue lost by existing customers that downgrade their subscription or pay less than usual.

As you can probably see from the definitions of churn-related metrics above, nuances exist. 

Each metric tells a different story and leads you to consider varying aspects of your business. 

For example, for a SaaS company, a loss of customers does not always equal a net loss of revenue. Some of the revenue lost by departing customers can be offset by new customers that sign up for more expensive services or larger accounts. 

Delving deeper into the different aspects of churn will thus help you gauge your overall profitability and, most importantly, determine the causes of departure. 

So, in light of its importance, how do you calculate your churn rate?

How to calculate churn rate

In essence, the math is simple for the churn rate formula:

  # of customers canceling their account during a set period x 100  
  # of customers at the start of the same period  

For example, if you started the month of April with 500 customers and, by the end of the month, 150 of those left, your churn rate for April would be (150/500) x 100 = 30%

If you decide to calculate an annual or quarterly churn, the formula remains the same. Simply plug in the numbers that are relevant to your preferred time period. 

Interpreting the numbers

Now, try spending time on your spreadsheets and figure out your annual, quarterly, and monthly churn rates. The numbers may surprise you. 

Churn is inevitable for a growing business. You lose some, and you win some. 

That being said, your churn rate should be within an acceptable range.

According to Lincoln Murphy, the founder of Sixteen Ventures, for typical SaaS companies, the average annual customer churn rate should range between 5% and 7%.

As for the startup fundraising platform Visible VC, they suggest an annual churn rate below 10%.

Note that the metrics quoted above are annual figures. A 5% annual customer churn is acceptable. A 5% monthly churn compounds and becomes catastrophic for your business.

There can be a disparity between your customer churn rate and revenue churn rate. If the revenue churn rate is higher than the customer churn rate, this would mean that, on average, customers are spending slightly less on software and services rather than quitting altogether. 

If your company is still in its early stages and making baby steps, having a higher churn is acceptable to a point. Of course, it takes time to refine your unique offering, marketing, product design, and operations systems. Your churn rate should go down with time as you gain the favor of your customers. 

On the other hand, if your company is already established and starts to have a higher churn rate, that is a bad sign. You will have to investigate the matter further as this can reveal serious underlying issues with your products or services, or a lack of competitiveness. In any case, it means the company is bleeding out, and you will have to take strong measures to put a stop to the losses.

Revenue Churn Vs. Customer Churn

Running a SaaS company could be more complicated than anticipated. Churn obviously bothers you. There are two possible ways of churn analysis. You can either study customer churn on revenue churn. Both saas churn rate metrics may be related, but they convey a whole different story.

For SaaS companies, all the customers are not the same. Some may purchase a basic plan, while some use a premium. Customer churn, in simplest terms, is the number of customers lost over a specific period of time. It does not take into consideration the value customer brings into the business. 

Before we dig deeper, let's take a look at some basic terminologies that relate to churn.

  • Monthly recurring revenue: It is the predictable total revenue SaaS companies collect from their active subscription during a month. 
  • Monthly recurring revenue per account: It is simply the amount a user pays on average monthly to your SaaS company. 
  • Customer Lifetime: Customer lifetime is a measure of how long, on average, a user sticks to SaaS companies. 
  • Customer Lifetime Value: This metric is really important. It usually determines what a user will pay eventually to your company before they cancel the subscription. 

Customer Lifetime Value = Monthly recurring revenue per account * Customer Lifetime

Now, let's get back to the Customer Churn vs. Revenue Churn debate.

Revenue churn is indifferent to the number of lost customers in a defined period. You may feel the need for revenue churn analytics if you have a wide outreach. In this way, you are focused on retaining the loyal customers who provide you value rather than those who don't want to purchase your add-ons. All energies are synergized so that you don't lose revenues. 

What is the average churn rate for a SaaS company?

You might have some questions in your mind. 

What is a good churn rate? 

What makes a churn rate high? 

What makes a churn rate low? 

Generally speaking, an annual 5% or below is a good churn rate. Anything over 20% annually can make you sleepless. Note that we are only talking about annual rates. A monthly churn rate of 5% compounds in the long run and could be a disaster for you. 

However, there are some other factors. An acceptable churn rate over a given period of time depends on whether the customers that are retained provide you value. That they purchase your add-ons, market your services, and stick to you for the long-term. If they do, even 20% annual customer churn won't affect you. 

We say that the least possible churn is the ideal churn rate. The existing customers choosing not to do business with you is a bad omen. The customer acquisition costs are generally too high. So, the immediate solution is to lower the churn. However, we do not recommend you to be obsessed with churn at the cost of missing out on opportunities to grow your business. 

Growth Rate Vs. Churn Rate 

The growth rate and churn rate are diametrically opposite. Growth rate indicates the number of new subscribers, whereas churn rate refers to the lost customers. For SaaS companies, the positive growth rate does not always mean company growth. 

Customer churn needs to be smaller than customer growth. That is how we can say that a company is growing. If the churn rate exceeds the growth rate, that implies the company is declining and needs some serious introspection. If the churn rate equals the growth rate, the company will be at a constant state.

Growing a customer base could be an exhausting job for many businesses. It requires high customer acquisition costs. Therefore, your company needs to be on guard always and should not let the churn rate go up. Customer churn is not a thing to be trifled with. 

How to reduce churn rate SaaS 

Each situation is unique. That being said, all solutions invariably revolve around a simple concept: keeping your customers happy.  

Keeping your customers happy is not a simple step. Competition in the SaaS sphere is stiff, and you would always need to go the extra mile for your customer's satisfaction. Customer feedback means a lot to SaaS companies. All roads must lead to customer satisfaction.

Before we start listing the points to reduce churn rate SaaS, it is crucial to look into the causes why customers leave. As a problem well-defined is already half solved, we need to define the problem. 

Why do your customers churn?

Cutthroat competition

You have always got competitors. The competition in the SaaS industry is fierce and cutthroat. It is inevitable that some of your customers who think they are not getting enough value will leave. You do lose your customers to competitors. You need to figure out what went wrong. 

Lack of technical know-how among customers

Your customers may not get the value from your product. It is because the customers don't know how to optimally use the service. This can be a fault on your side, too, that you have not trained them to use your product. These types of customers are not going to stick to you and will leave anytime soon. 

Impersonal User Experience

The retention rate depends on how happy the customers feel with you. To make them happy, the SaaS companies provide them with personalized experiences. A user is not happy if a saas company does not offer them custom solutions to his custom problems. Too much generic nature of your service may contribute to customer churn. 

Change in subscription charges

The customer retention rate plummets when you start charging a service that you have been providing for free. Now that your brand has gained recognition. And you have expanded your services and thus increased subscription charges too. This would affect your retention rate and churn rate. You may put yourself at risk of losing customers by changing subscription charges. 

Bad-fit customers

Your salespersons, just to complete their quota, have taken on board bad-fit customers. This is going to hurt you in the future. Bad-fit customers don't get value from your product. Nor do they feel attached to your product, service, or brand values. They could make the churn rate high and the retention rate low. You should always avoid bad-fit customers. 

Account Closure

You have been doing business with an account for years. Suddenly, the account gets closed. This may also lead to customer churn. Reasons for account closure could be many. An enterprise customer you have been doing business with may lose revenues and close down. We study account closure/ business closure specifically for B2B SaaS companies. 

Poor Customer Service

Your sales team has done wonderfully. They have gotten you, saas customers. Everything is going well. But you have not placed a well-trained customer service team. You are not at risk of losing customers in this way. You will definitely lose them. There could be an uptick in monthly churn rates. 

Now when we have seen factors contributing to customer churn, let us study the strategies to reduce the churn rate and increase the retention rate. 

Monitor the behavior of the users

The change in behaviour of a user is discernible and can be tracked when he plans to unsubscribe from your service. There are always some precursors. For example, the customers may start spending less time with your company before they finally quit. We could study customer engagement scores to isolate the users least interested in our product and service. 

Approach these customers, and talk to them in person. Gather feedback, and tell them we could do more for you. Proactive communication could preempt customer churn. To monitor the users' behavior, establish some metrics after doing homework. 

Now that we understand why some customers churn, let's look at ways to lower churn.

How to retain customers and lower churn

Communication is the key

Proactive communication is one of the essential features to do business. It is as important for customer retention as it is for customer acquisition. If you do not often talk to your customers, you put yourself at risk of losing them. You must set up an excellent customer service team for this task.

Approach your customers for different surveys. Send them questionnaires. Ask them for their feedback. Listen to them. Allay their concerns. Tell them we care for you, for customer acquisition costs are much higher than customer retention costs. 

Enhance user experience and provides them with value

If the customers get value and enhanced user experience, there is no reason for them to leave you anytime soon. The SaaS industry is competitive. If you fail to provide the customers with value and experience, your competitors will capitalize on that. 

For customer retention, ask your customers often how you could enhance their experience. Make sure they are getting value from you. Take their feedback seriously and update your UI/UX and algorithms proactively for preemptive strikes. 

Sensitize your users

Many saas customers leave you because they don't know how to use your service. Your service is unique and one of its own. This comes with challenges. Users might need guidelines and manuals in this case. To reduce customer churn, we suggest you enhance your virtual presence. 

Sensitize and teach your customers through newsletters, blogs, videos, and social media. It could serve as a marketing tool too. Never leave your customers on their own. They will be swindled by your competitors. 

Create Negative Churn

Negative churn is when your revenue from retained customers increases despite customer churn. It is all about up-selling your products or services. SaaS companies may introduce premium packages and add-ons. 

To focus on creating negative churn, study revenue churn analytics. Prioritize your customers and cater to the customers with high lifetime value first. The blow of customer churn is less severe when you manage to create negative churn. However, you need additional efforts for that.

Conclusion

Churn, in simple words, is the loss of customers. We have studied in detail what churn is and what it implies for business and saas companies. Understanding churn is easy, but analysing and processing churn analytics to gain some useful insights is difficult. You would need to set up a whole team just to enable you to make the right decisions.

Fortunately, with gini's SaaS benchmarking tools, you can easily use our models to calculate the relevant metrics. Quickly skim through the results and correctly interpret the numbers. It doesn't hurt to be as prepared as possible for your next investor presentation or team meeting.

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