What is SaaS Churn Rate and How to Decrease It?By Jamie Toyne
As a Software as a Service (SaaS) company, customer attraction is always top of mind. But did you know it can cost you up to five times as much to gain a new customer as it does to keep an existing one?
That’s right — not only does losing a subscriber mean you’ll miss out on their revenue, but replacing them will also eat up your time, your resources, and most of all, your bottom line. All the more reason to focus on keeping your existing customers, no?
For SaaS companies, losing customers is called “churn” — and the rate at which you do so is called your churn rate. This is one of the most important stats to keep an eye on while growing your SaaS business.
In this article, we’ll dive into how to calculate your churn rate, average churn rates for different SaaS companies and tactics you can put into practice today to decrease your churn rate.
What Is A Churn Rate?
Before we go further, let’s take a step back: what is a churn rate?
“Churn” refers to customer attrition (loss of customers), and your churn rate is the percentage of your customers that cancel a recurring subscription to your software service within a certain amount of time (generally monthly or annually).
How Do You Calculate Your Churn Rate?
Calculate your churn rate by taking the number of customers who cancelled during a chosen time frame, and dividing that number by the number of customers you had beforehand. You can then multiply by 100 to get a percentage.
For example, let’s say you want to calculate your churn rate for May 2020. On April 30, 2020, you had 250 subscribed customers, and by May 31, 10 of those subscribers had cancelled.
Your churn rate for May can be calculated as:
= (10/250) * 100
Thus, your churn rate for May is 4%.
Of course, this number in a vacuum doesn’t help you too much, but later in this article, we’ll look at average churn rates and good churn rates for different SaaS companies.
Why Do You Want to Keep Your Churn Rate Low?
While growing and maintaining your SaaS company, you want to keep your churn rate as low as possible to minimize the amount of customers — and revenue — you lose. After all, it is much more onerous for you to gain new customers than it is to keep your existing subscribers. Also, the lower the churn rate the higher it will be valued by SaaS brokers. This means when you’ll get more money when you decide to sell your SaaS business
Keeping your existing customers (i.e. having a low churn rate) is critical to your “customer lifetime value” — the estimated length of time your customers stick around.
You can calculate lifetime value the following way:
= 1 / Churn Rate
Looking at our May 2020 example above, where your churn rate was 4%, or 0.04, your company’s customer lifetime value after that month would be:
= 1 / 0.04
= 25 months
But, let’s say you had a lower churn rate — 3%, or 0.03. In this case, your company’s customer lifetime value would be:
= 1 / 0.03
= 33.33 months
Now, let’s say you’re charging a customer $100 per month. In the first example, one customer would provide you with $2,500 of revenue, whereas in the second example, one customer would provide you with $3,333 of revenue — a difference of $833 per customer.
Thus, the lower your churn rate, the larger your customer lifetime value — which is a critical sign of a healthy SaaS.
Customer Churn Vs. Revenue Churn
Now that you have a basic understanding of how to calculate your churn rate, let’s take a look at a second type of churn rate — revenue churn rate.
While some SaaS companies have just one service, with one fixed price, chances are you have several different options with different prices (such as basic vs. premium, or one user vs. multiple users).
You calculate customer churn using the formula we discussed above (dividing the number of customers who have cancelled during a specific time frame by the number of customers you had beforehand, then multiplying by 100 to get a percentage).
However, you calculate revenue churn — the amount of revenue lost in a specific time frame — by taking the amount of revenue lost by cancelled customers in this time frame and dividing it by your revenue from that same time frame.
For example, say you had 250 customers at the end of April 2020, and your monthly revenue was $30,000.
In May 2020, you lost 10 customers — 2 of them were paying $100/month, and 8 of them were paying $200/month.
Your customer churn rate would be calculated as:
= (10/250) * 100
Your revenue churn rate would be calculated as:
= ($1,800/$30,000) * 100
Why is your revenue churn rate higher than your customer churn rate in this example? Simple: the majority of your lost customers were paying a higher level, so losing those customers was actually worse than if you had lost more customers paying the lower rate.
In many ways, measuring your revenue churn rate will actually provide you with more accurate data, especially as your company (and customer base) grows.
Why Do Customers Churn?
Now that you know what churn is, and how to calculate both your customer churn rate and your revenue churn rate, let’s talk about why customers churn — i.e. why do you lose customers.
While ideally you’d never lose subscribers, this is inevitable when running a SaaS company. There are some reasons why customers churn that you have no control over, such as:
- They can no longer afford your service
- They are changing the direction of their own company and no longer have a need for your service
- They were bought out by another company that uses a different service
However, there are other reasons that you may lose customers, such as:
- They no longer see or understand the value of your service
- They forgot about your service
- Your service is not meeting their expectations
- They are switching to a competitor’s service due to better price, customer service or value-add
Based on the type of customer you are targeting, some of these reasons may be more relevant than others. Next, we’ll take a look at why that is, along with some average churn rates based on your target market, before getting into some tactics you can implement today to lower your churn rate.
Average Churn Rates For SaaS Companies
Throughout this article, you’ve probably been trying to mentally calculate your churn rate and wondering, what is a good churn rate for your SaaS?
While the most ideal churn rate is 0%, we all know that is neither attainable nor realistic — there will always be customers who drop off, for the reasons we outlined above.
Of course, there are other factors to consider. When assessing your own churn rate, keep in mind:
a) How new are you to your market?
b) Who are your customers?
How new you are to market is a huge factor in what a good churn rate looks like. If you are a startup and in your first 0-2 years, you are likely to have much higher churn rates as you work out kinks, beta test your service and build your customer base from the ground up.
Losing 10 customers when you only have 50 in total is very different from losing 10 customers when you have 250 in total — so if you’re just starting out, don’t panic. Before long, you will build out a larger client base and your churn rate will drop.
Now, let’s think about factor B: who are your customers? The average churn rate for a SaaS varies greatly depending on your target market, due to different risk factors surrounding different customers.
If you target individual operators or small businesses, you are likely to have a high churn rate, even if you are well established and offer great service. The reason? These customers are high risk: the market for small businesses is already so volatile that there is always a high chance they will shut down, change directions or need to cut costs (and thus your service) dramatically — and often without warning.
As well, in order to attract small businesses, you likely kept your fees low — including your switching costs. Because of this, you run the risk of your customers shifting to a competitor’s platform because the cost is not prohibitive to do so.
Now, things start to change when you target businesses in the small-to-medium range (SMB/SME). These companies are likely more established, and thus the risk that they close down shop or have to cut off services due to budget issues is lower.
If your customer base is filled with small-to-medium enterprises, an average monthly churn rate will fall between 3-7%.
If you’re targeting large enterprises, you’re likely offering products that cost $1,000+ a month, along with high set-up costs and switching fees. Because of these higher costs — and the fact that large enterprises tend to be slow to change — a good churn rate will be around 1%. (Of course, if you are a start-up targeting these large enterprises, you can expect that number to be a lot higher in your first couple of years.)
What Is Negative Churn?
Whatever your churn rate — both customer and revenue — turns out to be, the net result from any churn is you have lost revenue. However, there is such a thing as negative churn.
Negative churn is when the amount of extra revenue earned in a month from your remaining customers exceeds the revenue you lost from customers who cancelled their subscriptions. For example, if you lost $1,800 through churn in May 2020, but made $2,000 of extra revenue from your remaining customers in that same month, you’d have negative churn.
As this extra money is NOT from new customers, but rather from your existing customer base, where does it come from? It can come in a few ways, including:
- If your existing customers upgrade to a higher pricing tier (i.e. a more premium product, more user options, etc.).
- If your existing customers purchase additional products/services you offer.
- If you have a pricing model that increases with added usage, and your existing customers are charged an additional amount for using your service more within that month.
For instance, if you lost $1,800 in May 2020 through churn, but you have 20 existing customers upgrade from the $100/month tier to the $200/month tier, you would have made an additional revenue of $2,000 — and thus achieved negative churn in May 2020.
Of course, while negative churn is a great ultimate goal, in the early stages of your company, it is more important to focus on building out your customer base and keeping your churn rate low. Down the line, when you have an established customer base, then you can experiment with different pricing levels and products in an effort to achieve negative churn.
How to Reduce Your Churn Rate
At this point, you know how to calculate your churn rate and what a good churn rate looks like for different SaaS companies. Now, let’s focus on how to reduce your churn in order to achieve a good churn rate.
The simple fact is the higher your churn rate, the more revenue you lose. While you can earn back that revenue by gaining new customers or achieving negative churn, the most effective way to earn it back is simply by not losing it in the first place — i.e. reducing your churn rate.
There are many different reasons why customers will cancel your services, but here are some ways you can mitigate this:
- Improve your customer service. Customer service is a crucial element of any SaaS: having someone — a real person — on the phone or in a chat function to quickly solve problems is one of the best ways to keep customers from getting frustrated, which often leads to churn. (Bonus: with a good customer service team, you’ll also be able to identify and tweak larger issues, which can prevent churn from other customers.)
- Track your customer engagement — and follow up with them. One of the best ways to prevent churn is to identify unhappy customers early on. By tracking your customer engagement, you’ll be able to tell if a customer who previously engaged with your service every day has now fallen to once a week, or once a month. Follow up with them directly to see if there is a way you can help provide more value, well before they start thinking about cancelling their subscription.
- Make your service sticky. A sticky service is one that is so necessary to your customer that cancelling is simply not an option. How do you do this? Offer a product no one else is offering, remind your customers of their benefits and follow up with them often with ways they can better utilize your service. In short: don’t stop showing your value once you’ve secured a customer; rather, continuously show your value.
- Focus on your onboarding. The first few weeks are crucial in making sure your new customers understand your service and are able to use it easily and properly. If your product is too complicated to set up, or your customer doesn’t fully understand how to implement it into their workflow, they are more likely to cancel their subscription early than someone who had a seamless transition. Make sure your onboarding process is smooth, efficient and personalized — and then track engagement to make sure new customers don’t fall through the cracks.
- Try out different pricing and renewal models. Especially when you are just starting out, don’t be afraid to play around with different prices or tiers to see what features resonate with people, and what price hits the sweet spot. Test things out to see which option resonates with your customer, and don’t forget that every email — even an invoice email — is a touchpoint with your customer. Stay engaged with them so they will stay engaged with you.
Some Final Thoughts
Your churn rate is a great litmus test for your SaaS and whether you can successfully maintain and grow your revenue over time. As you’ve learned from this article, you’ll never be able to achieve a 0% churn rate, but the key is to keep it as low as possible.
At the end of the day, the best way to do this is to stick to the basics: offer a quality product and quality customer service, build up your customer base and continuously check in with your subscribers to make sure you are providing them with superior value.
By doing this, you’ll be able to keep your customer retention rate higher than your churn rate, and ultimately keep your revenue growing.
Do you have tips for reducing your churn rate? Let us know in the comments!