October 31, 2022
SaaS churn rate can be the single most important limiting factor in businesses, both new and mature. However, many companies don’t fully understand the range in churn rate that a healthy startup can tolerate and this can lead to decisions being made that aren’t entirely necessary.
Understanding why churn rates differ so much between companies is the first step to knowing what you should be aiming for. Then, it’s a matter of knowing what to do to reduce your churn rate and which SaaS churn metrics to track to monitor your progress.
If you’re wondering about all this and you’re not sure what an average churn rate for SaaS should be, you’re in the right place. We’ve got some great tips on how to reduce churn, and some handy metrics to follow your progress coming up. First, why is SaaS churn so important?
How SaaS Churn can Make or Break Your Business
Simply, SaaS churn rate relates to the number of subscribers you’ve lost over a given time as a percentage of those you’ve got left at the end of it, It essentially tells companies whether they’re losing more than they’re gaining, and gives an idea of whether or not the ship can stay afloat in the long run; so it’s a critical component to doing business of any kind, and one that everyone should understand.
What makes it a little complicated is how different it is for everyone. It’s a dynamic principle, in that it changes with any number of unique business factors, many of which we will go into later on. This makes it hard to set a universal benchmark to follow, and thus, every company must take into account its specific position, business model, and ideal metrics to focus on when calculating its SaaS churn.
And calculate it, they should! Because solving churn is the key to so many elements of a company’s financial success. Improved retention leads to reduced customer acquisition needs (and subsequent costs), improved engagement, more opportunities for upselling, and ultimately it’s what drives customers to referrals, which bring in the highest-value new customers for almost no cost to the company.
A high churn, therefore, reflects lost revenue, and so tracking this metric is a key component to retaining that money. At the early stages of businesses, when customer acquisition costs may be at their highest, churn rate is all the more important. Therefore it is the role of any small business owner or founder to improve the value of each customer to the point of overcoming the losses of churn.
For SaaS, in particular, churn can be even more complex. The accuracy of a SaaS company’s financial projections relies on an accurate measure, not only of customer churn but also churn in revenue. These rates will invariably spell the end of startups and small businesses if they’re too high, so it’s a good idea to know how to track them and how to affect them.
Some of the Key SaaS Churn Metrics to Track
Knowing which metrics to track to fully make the best of your efforts is the key to reducing SaaS churn. We’ve got seven here to go through, but there are plenty more that help make up useful churn-related KPIs, so take these as an introduction:
1. Customer Churn
This probably seems like an obvious one, but it needs to be mentioned. Tracking your churn rate every six months to a year will provide you with some baseline to refer to when it comes to adjusting the policies and practices you’ve set in place to reduce it.
2. Revenue Churn
This is the second part of the churn calculation for SaaS, and it relates to the amount of subscription revenue that is lost over the same period. In SaaS, in particular, companies may retain customers but lose revenue when they downsize their accounts. This means that customer churn alone doesn’t paint the whole picture, and churn has to be looked at from a revenue perspective as well.
3. Number of subscribers
This is another straightforward one, and integral to many of the KPIs you’ll be working with down the line. It’s also one of the easiest to figure out. Simply compare the number of subscribers with a historical point in time to see if you have more or fewer. This metric will be used in other churn calculations.
4. Customer Lifetime Value (CLV)
This is an average of the total value of each customer when all of their contributions are totaled over the course of their engagement with your product. In the early days, this calculation doesn’t have to be too difficult, but as your company grows, it will become more complex as you add more variables.
A certain level of churn is to be expected, and the CMV metric can help you figure out if this level is acceptable, or whether you need to make some changes to reduce it.
5. Customer Acquisition Cost (CAC)
Each time you lose a customer, they need to be replaced, and it’s important to know how much that costs. Your CAC will tell you what you’re losing in terms of how much you’ll spend on a replacement, every time a customer churns. Again, this is a metric that’s great for telling you whether your level of churn is manageable or unsustainable.
The above metrics are handy for monitoring the effect of changes to your approach when focusing on churn specifically, but there is also a good argument to be made to follow customer retention metrics, too. While customer retention and churn are intuitively two sides of the same coin, they can both provide different details that are useful for reducing churn.
Here are a couple of retention-based metrics to follow that might come in handy:
6. Customer Retention Rate
This is the measure of the rate at which your business has managed to keep your customers. It’s basically the flipside of the churn rate, but it focuses on the loyalty side of the coin, rather than the disengagement side. Early on, this metric should cover about half a year and you’ll need some historical data and a period in mind.
7. Repeat Purchase Ratio (RPR)
Customer loyalty is a good thing to measure when it comes to assessing churn and the effect of churn-reduction (or retention-boosting) efforts. This loyalty can be displayed very clearly in terms of whether and how much the customer comes back for more. In SaaS, these aren’t so much repeat purchases, as renewals of subscriptions, but the principle is the same.
This metric is particularly useful when it comes to addressing the behaviors of different demographics. Over time, you’ll get information on customer-product fit based on these metrics, and this will help you add value to what you’re selling, and, ultimately, reduce churn.
But all of these metrics are only as good as the baseline you need to succeed. For example, if you don’t know what a healthy churn rate is, then knowing yours is only half of the equation. So, you’re going to want to know what a normal rate of churn looks like, to know what to work for. And this is easier said than done.
We’ll go into some reference points shortly, but first, here’s how to calculate churn for SaaS.
Putting it All Together: How to Calculate Churn for your SaaS Company
There are several factors you need to take into account when calculating churn for your SaaS company. First of all, decide on the frequency, or the period you want to cover. This will be determined primarily by how many customers you have.
If you have a vast customer base, you’ll probably want to track churn as often as every month. If you have a smaller base, it’s probably okay to track it every six months or even every year. Your business model will also play a role in how much data you should be using.
Once you’ve established your needs, the formula is very straightforward:
Take the number of customers at the start of your assessment period, and remove the number of customers at the end of it. Then, divide this number by the first value. Multiply the result by 100 to get the percentage of customers you’ve lost.
Note: Any new customers acquired during this period need to be left out of the equation.
As an example, let’s say you are doing a monthly churn report. You had 5000 customers at the beginning of the month, and you ended the month with 6000, 1500 of which were new acquisitions, so are discounted. This means you’re left with 4500 retained customers.
The equation then becomes:
Churn Rate = (5000-4500)/5000*100 = 10%
For revenue churn, the same principle applies, except you’ll be comparing your monthly recurring revenue at the beginning and end of the same period, rather than customer counts.
This calculation can be done annually, with the figures representing the beginning and end of the year. But what does this percentage figure mean to you? You’re going to be wondering how it compares with other businesses, and for that, you might want to know what the average churn rate for SaaS is. That’s a fair question, but the answer gets a little complicated.
Average Churn Rates for SaaS
First of all, benchmarks like this are usually subjective. We can assume that a higher rate of churn than the rate of onboarding is probably a bad trajectory in the long term, but after that, what can we be sure of?
It turns out that the answer to the question of average churn rates doesn’t paint a very useful picture. This is because any average is going to be made up of vastly different contexts. Here are three things that affect your benchmarks in SaaS:
Maturity level – Your reputation goes a long way to retaining customers. If you’re a small fish in a big pond, you can expect to have a higher churn rate. Other elements of maturity also impact churn, such as the increased competition and the unrefined nature of a fledgling service.
Business model – in many cases, churn can even be deliberate. Removing inactive accounts could be a cost-saver, but it will also skew your churn metrics. Some models don’t look for long-term retention at all and will expect to have a high rate of churn as part of the plan.
Immediate goals – When focusing on hurried expansion, the focus might be put more on acquisition than retention, and this will naturally lead to higher churn rates. If this is part of a company strategy, it may mean that your rates are going to be higher than they should be at a later stage of the business.
But this isn’t very helpful without some solid figures, so let’s take a look at the stats.
The closest thing we have to an average churn rate for SaaS is around 5%. This figure is considered ‘good’ when it drops to about 3%, but as we mentioned it varies a lot depending on numerous factors.
A healthy rate may be between 3% and 8%, but if you’re starting up and your figures are significantly higher, this might not be such a problem. Companies under 3 years old can see churn rates of up to 24%, and don’t typically fall within the average until about ten years have passed.
Well-established companies with an average revenue per user of $500 or more should aim for a target of 2-4%, however, the average churn rate in the SaaS sector is 4.79%. This figure is going to be skewed by outliers for the reasons we mentioned above, so it really is only a guide, and your mileage may vary.
Remember also, that as your customer base grows as will your churn in absolute numbers, so don’t be put off by absolute churn. Whatever your churn rate comes out to be, there are some ways to work on improving it and keep your business in a healthy and scalable state. Let’s take a look at some of those now.
Next Steps: How to Reduce SaaS Churn
The first thing to mention is that your churn rate will likely drop as your company matures. Companies that have been around for a while have a better understanding of the needs of their market and get more skilled at setting up their brand in places where their prospects are looking.
This improvement in both service design and implementation naturally leads to higher-value customers, and these are the people who stick around for longer. Don’t be fooled though; it’s a deliberate process, not an organic one. The fact that mature companies have lower churn rates is also skewed by the fact that those who didn’t bring their churn rates down are no longer around to compare to.
Here are our top tips to help you make sure you’re not one of the latter groups:
Measure your churn – you’ve read this far, so you should know how to do that by now. This is, of course, the first step to understanding where it’s coming from, and consequently what to do to change it.
Focus on retention metrics – As we mentioned above, retention and churn give different perspectives on the reasons why people stay and why they leave. Focusing on both is the key, and learning where in the customer journey people tend to drop out can come in really handy
Improve your onboarding – If you’re seeing that you get a lot of churn in the early days of the customer journey, your onboarding process might need some work. Look for friction points that don’t need to be there and try to streamline the integration between the customer and the service as best you can. Good onboarding leads to greater retention, so it’s important to understand how your customers want to reach their desired outcomes with your product.
Step in early – try to follow engagement metrics in a way that might give you an early warning that your customers are about to churn. This can provide you with the chance to step in and ask if they need any help, or nudge them back on track if they appear to be disengaging.
Be personable – Where possible, show up! Make direct contact with people, or have some customizable email templates to help keep your customers engaged. Ask them about their experiences, offer to find solutions, and generally be present for them.
As with every element of doing business, a bit of trial and error won’t do any harm. Follow these basic principles and be ready to adjust where necessary, and as long as you’re tracking the right metrics, you’ll be able to spot what works and what doesn’t.
By now you should hopefully have a good understanding of why churn is so important, and how to go about tracking and changing it. It’s worth repeating that in SaaS, churn metrics should be measured at the customer level and at the revenue level to get a better picture of your company’s overall financial health.
For more help with planning your new SaaS or future SaaS financial performance, check out these specially-designed SaaS financial projection templates can help complete your business plan and are made specifically to look good to investors.