Churn Rate

So, churn rates. Lets talk about it.

Have you heard the song ‘Killshot’ by Eminem? I thoroughly enjoyed it, like most Eminem songs. It isn’t at all relevant to churn rate, in case you were wondering. It is just that as I started writing the title of this story, the second I typed “Lets talk about it” the song popped into my head, and now it’s going to be one long day of Eminem songs playing around the house. Our minds work in mysterious ways indeed.

Anyway. Before I digress any further, lets get this show back on the road and talk about churn. I wanted to talk about it yesterday, but then I came across an article that just irritated me enough to talk about how churn rates isn’t a problem just for SaaS businesses, but businesses of all shapes and sizes. I ended yesterday’s story with a promise that I would be talking about churn today, so here I am. Keeping my promise. Let’s get on with it then.

Churn. The devil we know, and understandably, fear

I am not going to go into the details of what churn is. Simply put, it is the rate at which you are losing your existing users/customers/revenue. In case you aren’t already aware of churn rate, you should read up a bit about it, since it is arguably the single most critical metric all businesses should keep an eye out on. Here are a couple of screengrabs from a quick Google search.

churn 1 churn 2

As a business, you want your churn rate to be as low as possible. But in order to do that, you need to have a better understanding of the churn landscape. That’s where we come in.

Why are we talking about churn?

Because according to a data analysis by Bessemer Venture Partners, one in three SaaS businesses have an unacceptable level of churn. That’s a substantial number, and that becomes a problem when you are trying to grow. The more customers you acquire, the more money you spend, and yet, since your churn rates are high, the more customers (and hence revenue) you lose out on - every single month. Essentially you end up spending money to lose customers. So unless you are keeping a close eye on churn and making efforts to keep it down, you would be on a downslide, and it won’t be lack of customers walking in your front door that would be killing your growth - it would be a slew of customers sneaking out the back.

Let’s also not forget the fact that the sample size of this particular analysis would have been restricted to relatively known and larger businesses. For the less known, and the early stage businesses, the churn rates are often worse. So the real numbers would be even higher.

A high churn rate is not acceptable, and it is not the norm.

Lately, with more and more businesses getting massive cash infusions from investors, it is not unusual to come across businesses that have a high churn rate. And yet, they keep on growing, they keep on making rounds in the media, and they keep on getting more and more investor interest. So it is easy to assume that a high churn rate is not that big a deal, and it is just the price of growth.

Well. It isn’t.

What is a good churn rate? 5%, maybe 7% - annually.

That one word at the end is extremely important. If your annual churn is 5%, you are losing out on 5% of your customers every year. But if it is monthly churn, in a year, you would have lost almost half the customers you started the year with.

Achieving a 5% annual churn rate is not an easy task to achieve, and it may take you a while before you achieve that number, but that is definitely something you should continue working on. If you settle down and be content with a 5% monthly churn rate, as we just witnessed, you would need to acquire almost 50% new users every year just to end the year with the same number of customers you started the year with. What that means - you acquired 50% more customers, and yet, your annual revenue growth would be ever so slight.

What should you focus on - acquiring customers or reducing churn?

This is my favorite question, because it is tricky. See if you acquire customers but have a high churn at the same time, you are likely to drive your business in the ground. But if you focus on churn alone, and are not acquiring customers, the result would probably still be the same.

So what’s the answer?

Context. That’s the answer. You need to ask that question in the context of the health of the business, the state you are in, and a number of such factors.

If I am starting a business today, my focus is on acquiring that first customer, that first dollar. Then, I would likely be focused on acquiring 50 more of those. I would be pressed for time, resources, bandwidth and cash-on-hand at this stage, so I would understandably be stretched thin and I would need to pick my battles. So while I will make my best efforts to retain every single customer I acquire, I would always be focused on acquiring a few more customers every week. And I would continue doing that till the point of solvency - where my monthly expenses are safely lower than the money the business is bringing in. At this stage, I would start gradually increasing my focus and time-spent on understanding churn better, and implementing ways to reduce it.

Why? Because now that I don’t need to be worrying incessantly about paying my monthly bills, I would be focusing on growing my business, and the key component to that growth would be retention. Off of every $100 the business makes, I would like to retain as much of it as possible. The more I succeed in that endeavor, the more pressure I would be able to apply to the gas pedal without worrying about revenue leaking out. The lower my churn is, the more I would be able to spend on acquiring new customers because now every customer coming in has a calculable dollar value they would be adding to the business. It’s all in the numbers.

So why do customers churn out?

It is a much nuanced topic, and I could cite countless reasons why customers are leaving you, but lets keep it simple and club them into macro-categories. Taking the liberty to oversimplify things, your customers churn out primarily because of two reasons:

  1. They go out of business themselves
  2. They failed to receive the expected value out of your product

This is the way I would describe the factors for B2B SaaS businesses, but even if you are a B2C fashion retailer, the crux of your factors would be the same - just some minor modifications is what you would require.

So. #1 seems out of our hands. After all, once the customer has gone out of business, there really isn’t much you can do about it, can you? True, you can’t. But keep in mind, if your customer did find your product valuable, the percentage of people who start a new business would be coming back to you. So even in #1, #2 plays a crucial role.

Look at it as a customer. Let’s say you don’t have any money right now, so you would be cutting down on costs. You would be going out less, spending less money on clothes and shopping, and cooking your meals instead of dining out, or ordering in. But, this situation could be temporary. Finances are tight right now, tomorrow they may not be. So when you have cash to spend again, where do you spend it? You spend it on restaurants you had a nice dining experience in, brands you love for the comfort of their clothes etc. Because they had, in past, delivered to you a good experience, i.e. you had received value out of their product/service. B2B shoppers aren’t much different.

#2 is what you have a lot of control over, so it is fixable. And that is what we would be diving in, in slightly more detail in the next story.

That’s it for today, see you tomorrow.

Cheers

Abhishek

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