Churn is a concept specific to subscription businesses. It signifies the rate at which a business is losing customers and/or revenue through subscription cancellations. The formula to find your churn rate is simple, but there are several details you need to consider when calculating it. It’s also slightly different depending on whether you’re calculating customer or revenue churn. The most important information on churn is from a definition and formulas to benchmarks and discussions on how to use churn. In this blog post, we’ve also added a collection of links to the most valuable churn resources.
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Have you ever wanted to ruin a SaaS party?
Now you know — just mention churn.
So much has been written on the topic, yet many people in the industry, even experienced practitioners, still feel uncomfortable talking about it.
This is where this post comes in.
We’ve collected the most important information on the topic — from a definition and formulas to benchmarks and discussions on how to use churn. In addition, we’ve also added a collection of links to the most valuable churn resources on the internet.
Let’s dive right in!
Definition of churn
Churn is a concept specific to subscription businesses. It signifies the rate at which a business is losing customers and/or revenue through subscription cancellations.
When thinking about churn, it is important to discern between its 2 main types:
- Customer churn is the rate at which you are losing specific customers/accounts.
- Revenue churn measures the overall volume of recurring revenue lost in a given period.
This distinction wouldn’t matter much if all your customers were the same, but that’s rarely the case.
Imagine a case where you have 10 customers, but one of them is responsible for a quarter of your monthly revenue. Losing that customer would put your customer churn at 10%, but your revenue churn would be a staggering 25%!
That’s why we always recommend that you keep an eye on MRR churn first and foremost.
How do you calculate churn?
The formula to find your churn rate is simple, but there are several details you need to consider when calculating it.
It’s also slightly different depending on whether you’re calculating customer or revenue churn.
Customer churn rate formula
Example: Scrooge McDuck, Inc. has 100 customers on March 1. 5 people cancel their subscription plans during March. The company’s customer churn rate is 5% (5/100).
To add a touch of complexity to the example, let’s consider the case where 3 customers started a subscription in March but canceled before the end of the month. Should you add them to your churn calculation?
The answer is No.
We believe there’s a different dynamic for those customers who only stick around for a couple of weeks. And since the formula above uses customers at the beginning of the period, including new customers who joined and left during the same month would throw your numbers off — it’s like comparing apples to oranges.
A specific example of this are programs like the 30-day moneyback guarantee.
MRR churn rate formula
Example: Scrooge McDuck, Inc. has $1,000 in MRR on March 1. The 5 people who cancel during March (see the example in the previous section) account for $125 in MRR. That means the MRR churn rate in March is 12.5% ($125/$1000).
Again, we’ll add another layer of complexity by making a distinction between Gross and Net MRR churn.
The formula above delivers the Gross MRR churn rate — i.e. it’s just a measure of the revenue that was lost without including the accounts that expanded and reactivated their subscriptions.
The Net MRR churn formula accounts for those:
(SUM of Churn & Contraction MRR – SUM of Expansion & Reactivation MRR) / MRR at the start of the period.
Example: In addition to the $125 Scrooge McDuck, Inc. lost in March, they also added $25 from existing customers who upgraded to a higher subscription plan. This means the company’s Net Churn rate is 10%: ($125-$25)/$1000.
A note on annual and monthly contracts
How do you calculate churn when you are also offering annual subscriptions to your customers?
Annual contracts should be excluded from the calculation of monthly churn. So, to use the same example from above, if Scrooge McDuck, Inc. has 100 customers, but 20 of those are on annual plans, then their monthly customer churn rate is actually 5/80 = 6.25%.
Types of churn
Although churn appears as a single (customer or revenue) number, there are several different types depending on the overall reason why a customer is canceling their subscription.
Some churn is inevitable, but many customers leave because they can’t solve the pain they have with your product. That’s why it is important to understand and classify churn correctly — it allows you to understand where your product falls short and what you need to do to improve it.
The main categories of churn that are recognized are:
Proactive churn
This covers all cases in which a customer chooses to cancel their account deliberately.
A sub-set of this is the so-called happy churn — those are the people who cancel because they don’t need your product anymore. Typically, that happens when they have fulfilled the job they hired your product for.
Happy churn is common in some niches — for example, for seasonal products or those that are used to perform a one-time task (like a database migration).
Passive churn (aka Reactive or Delinquent churn)
This type of churn occurs when a customer forgets to update their credit card details.
Passive churn is a lot more common than most people expect. We’ve seen cases where it accounts for as much as a third of all churn and where companies succeed in recovering a large proportion of that through simple dunning campaigns.
Nevertheless, delinquent churn should be kept in place and addressed before it gets out of hand. Reactivation campaigns are your best friend when it comes to dealing with this type of churn.
Churn that’s not really churn
The 30-day moneyback guarantee and other similar tactics have become a popular way to acquire customers and allow them to experience the value of a product. But that doesn’t necessarily mean those customers should be included in your churn calculations.
Negative churn
Unlike the churn discussed in the previous section, negative churn is the only type that can be considered positive.
It occurs when the amount of new revenue added from the existing customer base (through expansions and reactivations) during a specific period is larger than the amount lost from cancellations and contractions during that same period.
In other words, negative churn occurs when your Net churn rate (see above) is a negative number.
At this point, it means that even without adding new customers, your business would continue to grow.
Negative churn is symbolic of most of the SaaS companies that have made the news in the last decade.
Negative churn is considered the Holy Grail of SaaS growth and a symbol of a very strong product and a business model that supports it.
While it is great to have negative churn, you should always look at both your net churn rate and your gross churn rate. Focusing too much on the net number can make you blind to other reasons for your customers churning that can be addressed by your product and/or commercial teams. So, if you’re not looking at churn from all sides, and working to address the things that can be fixed, you are missing an important opportunity to grow.
What’s a good churn rate?
As always, this is the hardest question to answer, because it depends so much on the specific circumstances of your company and team.
- Have you found product/market fit?
- Is your product a painkiller or a vitamin?
- Are you selling to large enterprises that are much less likely to change products once you have them on board or to consumers who come and go as they please?
All these factors put a range on what’s possible when it comes to your churn. On the other hand, you can create a viable business in any of these environments, if you understand what churn can be managed.
Still, there are some useful benchmarks you can look at when trying to figure out if you have a churn problem.
Why should you care about churn?
There’s a reason why funnels (and buckets) are so popular in SaaS. If you don’t make sure that yours isn’t missing a bottom, it wouldn’t even matter how much juice you put from the top — you’ll always end up with an empty bucket.
Deep cuts:
Some churn is inevitable. But that doesn’t mean you shouldn’t try to save every customer and every dollar of revenue.
Previously published at: https://chartmogul.com/blog/saas-churn/
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The Ultimate SaaS Churn Guide
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