Although churn is a common topic in the Customer Success circles I frequent, it’s not unusual to hear even an experienced CSM ask “wait, what type of churn are you talking about?”. In fact, it would be more concerning if the speaker wasn’t asked for clarification. Churn comes in many shapes and sizes, and it’s a misconception that churn can or should be classified in a single way. Companies need to be tracking multiple types of churn because not all SaaS churn is the same.
What is churn?
Definition: Churn is the rate at which customers cancel their contract or subscription within a defined time period. Churn represents a failure to meet a customer’s goals and expectations at a fundamental level. There can be contributing factors outside of a company’s control (ie. a customer has new budgetary constraints, has been acquired, etc.), but the vast majority of the time churn can be traced back to a lack of value.
“Churn measures the ultimate failure in SaaS — all of the customers who tried out your product and decided it isn’t worth paying for,” Steli Efti, CEO of Close.io
Why does churn matter?
Churn doesn’t just hurt current revenue, it also puts future revenue at risk. Growth and Marketing teams can only afford to acquire new customers if the revenue those customers will bring in will be more than the cost of acquiring them in the first place. Companies need to maintain competitive Customer Acquisition Costs (CAC), otherwise they risk wasting money on signing up customers who churn before they pay off that initial investment. While referrals are a cheap and effective acquisition channel, negative word of mouth from churned customers can affect new signups in the opposite direction.
Customer retention allows companies to capture additional revenue from their existing customers. This revenue comes in the form of subscription payments (which hopefully increase over time due to value-based pricing), but also through potential upsells and expansions. Customers who spend more with a company over time have a higher Customer Lifetime Value (CLTV). Companies with high CLTVs can devote more money towards CAC, and in keeping their existing customers through investments in Customer Success, and improvements to their products and services.
Companies with high churn rates find it difficult to reach profitability because their efforts to grow through customer acquisition and expansion are undermined by cancellations.
How to classify churn
Definition: The number of customers that cancel their contract or subscription in a defined time period. To determine customer churn take the total number of customers on X date and calculate how many of those customers cancelled by Y date. Customer churn provides a sense of churn by volume, and lends insights into how churn could be offsetting customer acquisition efforts.
Example: Makeup.me delivers makeup samples monthly and operates on a monthly subscription model. On January 1st they have 5000 customers. On June 30th, 4500 of those original 5000 customers have subscriptions. That means their customer churn rate is 500, or 10%. Makeup.me needs to bring in 10% more customers every 6 months just to maintain their existing subscription volume, which is unlikely to be sustainable in the long-term.
Definition: The amount of revenue not earned due to customers cancelling their contract or subscription in a defined time period. To determine revenue churn take the total revenue of paying customers on X date and calculate how much of that expected revenue was retained on Y date. While the success of every customer is important to the long-term viability of a company, it’s crucial that enterprise and high paying customers are seeing enough value to stick around. Most startups operate under the Pareto principle with 20% of their customers accounting for 80% of their revenue. Revenue churn allows companies to track how successfully they’re retaining expected revenue from existing customers.
Example: ProjectManager.ly has a project management software they make available as both a low cost self-serve product and an enterprise level service. On January 1st they have 500 customers and $100,000 in monthly recurring revenue (MRR). On June 30th, they have 495 customers and $75,000 MRR. That means their customer churn rate is 5, or 1%, which is impressively low. However, their revenue churn rate is $25,000, or 25%, meaning that in a 6 month period they’ve lost 25% MRR. Retaining 99% of customers isn’t enough, companies also need to ensure the customers they’re losing aren’t their highest paying customers.
Definition: The amount of revenue earned from current customers compared to expected revenue within a defined time period. To determine net churn take the total revenue of paying customers on X date, then calculate how much of that expected revenue was retained plus any additional revenue made from those existing customer between X and Y date. Companies with negative net churn rates often have healthy CLTVs that support long-term growth. Net churn allows companies to offset revenue lost due to churn with revenue growth via upsells and expansions.
Example: CRMtech.com offers a product to Sales and Customer Success teams that’s priced on a per seat basis. On January 1st they have 200 customers and $200,000 in MRR. On June 30th, 180 of those original 200 customers have subscriptions, and CRMtech.com is making $250,000 MRR. That means their customer churn rate is 20, or 10%, but their net churn rate is $50,000, or -25%. They’re now making 25% more revenue every month than they were on January 1st, despite losing 10% of the customers they started with. Of course a customer churn rate of 10% is concerning and will inhibit long-term growth, but if the only churn calculation the CRMtech.com team looked at was customer churn, they wouldn’t know that they had experienced huge growth across their existing customer base.
Definition: The number of “logo customers” that cancelled their contract or subscription in a defined time period. To determine logo churn take the total number of logo customers on X date and calculate how many of those customers cancelled by Y date. The term “logo customer” is subjective, but generally means that the customer has brand name recognition across the industry the company operates in. Logo customers aren’t necessarily high paying customers, but they help build credibility and referrals, which lower CAC.
Example: HRsoftware.io has an HR software they make available as both a low cost self-serve product and an enterprise level service. On January 1st they have 700 customers, 10 of which they classify as “logo customers”. On June 30th, 8 of those original 10 logo customers have subscriptions. That means their logo churn rate is 2, or 20%. If HRsoftware.io’s CAC increases as a result of losing just these 2 logo customers, the value of those logo customers isn’t adequately captured by other churn calculations.
If you’re ready to go down the rabbit hole of different ways to calculate and classify churn I recommend reading: