Customer churn is like a leaky bucket that you're filling with water. You add water into the top, but it keeps pouring out the sides. If you can plug up a few of those holes, your bucket will fill faster.
On the surface, customer churn is easy to understand. It's just the percentage of customers your company lost over a specific period of time. To calculate customer churn, follow this simple formula:
Take the total number of customers lost at the end of a specific period, and divide that number by the total number of customers you had at the beginning of the same period.
Pretty simple, right? Where it gets difficult is identifying the causes of your customer churn and then figuring out how to reduce your churn.
Eliminating churn altogether is nearly impossible, but reducing it is crucial to the success of your company because churn can be very expensive. Churn affects everything from your ARR to your profitability, and it touches every department within your company from accounting to engineering.
Reducing customer churn is a significant problem to tackle. To solve it, you need to first understand how severely it impacts your bottom line. From there, take some time to understand the causes of churn. Once you have a solid understanding of customer churn, you can then start to find ways to reduce it.
Impact of churn on the bottom line
The health of your company can be boiled down to three numbers: Customer acquisition cost, lifetime value, and churn rate.
Customer acquisition cost (CAC) is the cost of acquiring one customer. Lifetime value (LTV) is how much revenue that customer brings in before they churn. When you combine those two numbers with churn rate, you can essentially figure out how much your churn is costing your company.
I'll walk you through a few examples to show how expensive churn can be.
Let's say you run a company called Taco Analytics. The company has 10,000 customers. Each of those customers pays $100/month to use your software. That gives you an MRR of $1,000,000.00.
You know your CAC is $500 and your LTV is $1500. That gives you an LTV:CAC ratio of 3:1.
All of those numbers are great. You clearly have a successful company. Or do you? It turns out your churn rate is 12%, which is a high number but not unreasonable. That means each month you lose 1,200 customers. Just to break even on customers each month, you need to gain 1,200 new customers every single month.
Since you know your CAC is $500, it's going to cost you $600,000/month to gain those customers. But remember, your monthly recurring revenue is $1,000,000, so you only have $400,000 left for actual customer growth, software development, and administrative. Profit at this point is a pipe dream.
Now, let's say you've taken some major steps to reduce your customer churn rate. After one year, you've gotten it all the way down to 5%.
That means you only need 500 new customers to break even for the month. Since your CAC has remained the same, it'll only cost you $250,000 to get those 500 new customers. That gives you $750,000 per month for all the other expenses it takes to run your company. That's much more manageable.
Customer churn can be incredibly expensive and even prevent your company from becoming profitable. It's one of the reasons that Uber is struggling so much with profitability.
What causes customer churn
Customer churn can be caused by a number of different factors — some of them will be out of your control, but some of them are within your control and fixable. Even with the ones that are out of your control, you can still work to influence them.
The top causes of churn are typically one of these five things:
- Product problems — Customers will leave if your product doesn't do what they expected, or if there are constant glitches with it. If you provide negative customer experiences, they will churn. This is within your control and fixable. Fix it.
- Market changes — Competitors might make a big splash with their product that causes customers to jump ship. This one is partially out of your control. It's also partially in your control if you're listening to your customers, taking their feedback, and constantly improving your product.
- Bad customer support — Customers will definitely leave your company if your customer support is bad. This one is within your control and fixable.
- Lack of budget — You'll run into this one a lot if you haven't proven the value of your product. Users who churn because they don't have enough money sometimes actually do have the budget. They're just not going to use it on your product. You can help mitigate this one by offering discounts, but that's only a temporary fix. You need to take steps to prove the value of your product to your users.
- Loss of your champion — This is when your main point of contact leaves his/her company. The person hired by that company to replace the old POC might have a different tool he or she likes to use. To help prevent this from happening, take a proactive approach by reaching out to your former POC's boss, or the POC's replacement. Make it known that you're there to help.
There are, of course, hundreds of other reasons for churn, but these are the ones you'll likely see the most often and also the ones that are the easiest to solve. Understanding the reasons for churn is one step to reducing it, but predicting customer churn in the first place can give you a huge leg up on reducing it.
Customer churn prediction models
Customer churn prediction is an inexact science. You'll almost never be able to accurately predict when a customer is going to churn, but you can use your own data to determine if a customer is likely to churn. Once you've figured that out, you can take steps to stop them from churning before it happens.
Customer lifetime value-based churn prediction model
This one is simple, but requires that you know the average LTV for your customers. As customers approach that average LTV, you should take steps to encourage them to stick with you.
For example, if your LTV is $1,000 and it takes ten months to get there, when a customer hits $900 at nine months, get proactive. This customer is likely to churn just based on LTV.
Offer that customer a discount for signing up for a full year, have a customer success manager reach out and see how they're feeling, or do something else that makes the customer feel noticed and appreciated.
Event-based churn prediction model
This one is more complex and takes some data analysis. The gist of it is that you need to look at all of your churned customers and find event-based commonalities. You'll be looking for things that churned customers have done prior to churning.
You might find that the majority of churned customers reached out to customer support three or more times in one month before churning. Or, maybe you find that churned customers don't open your emails for two months prior to canceling.
Once you find those event-based commonalities, set up some sort of automation to alert you when it happens. From there, you can take steps to prevent those customers from churning.
How to figure out why your customers are churning
The problem with a churn prediction model is that it won't tell you why your customers are churning. That's where a churn analysis fits in. It will help you understand why your churn is happening. Once you uncover it's happening, you can take the necessary steps to reduce it.
The best way to analyze churn? Ask your churned customers. You see this all the time when you unsubscribe from a company's emails. You click 'Unsubscribe,' and the page says something like, “Sorry to see you go! Can you fill us in on why you left?”
Even though that example is based on email unsubscribes, you can take the same concept and apply it to your product. That simple question can provide you with a ton of data. You might quickly find out that your product is too expensive or your customer service isn't as helpful as you thought.
You won't always get a response, but even if users fill out the form 10% of the time, you will eventually get enough information to make actionable decisions to reduce churn.
Tactics to reduce churn
This goes without saying, but we're going to say it anyway: one of the best ways to reduce churn is to have great customer service. Assuming your company has sorted that out, there are a number of other things you can do to reduce churn:
Build a customer community
ProdPad, a product management platform, decided to create a customer community on Slack to develop closer relationships with their customers. Over time, they noticed that 99% of churned customers were not members of their customer community.
According to ProdPad, their community reduces churn for a few reasons:
- It allows ProdPad to be more open and transparent with customers.
- Customers help each other with problems. That reduces the load on ProdPad's customer support team.
- The community helps customers feel like they're part of building the product.
While Slack is a great place to build a community, you can also build one on Facebook or LinkedIn.
In Rand Fishkin's book, Lost and Founder, he writes that his company, Moz, reduced churn rate by using customer success managers to help with the new user on-boarding process. During a new user's first month using Moz, a customer success manager schedules a phone call and uses that time to walk the new user through all the features of the product and answer questions.
More importantly, the customer success manager helps the user understand how to solve problems and hit goals by using Moz.
According to Rand, “Subscribers who talked to a customer success representative for thirty to forty-five minutes stayed with the product for 30 percent longer than those who didn't.”
Prove your value
Proving your value can be difficult the longer a customer uses your product. Over time, they'll get used to the tool and take it for granted. That's why you need to constantly reinforce your value.
Sleeknote, a SaaS product that helps companies engage with website visitors, proves their value in a simple way. When a customer's campaign is doing better than average, the customer receives an email congratulating them on a great campaign.
Sleeknote believes that praising their customers goes a long way to reducing churn.
Don't take no for an answer
When a customer cancels but still has time left on their subscription, you have a golden opportunity to win the customer back. ProfitWell, a metrics platform for SaaS products, uses this small window to reach out to customers and make a last-ditch effort to save the relationship.
ProfitWell found that many customers canceled when they didn't actually need to. Sometimes a downgrade in service-level is a better solution to the customer's problem. Customers don't always know about these options, though. That gives you a chance to jump in and let them know.
Fix your leaky bucket
Churn is like a leaky bucket. You keep adding water in and it keeps pouring out. If you can plug a few of those holes, you won't have to add as much water.
Plugging a few of those holes in your churn bucket will lead to higher LTV, higher MRR, and better profit margins. Even if your churn is low, taking a few steps to reduce it will go a long way for your company.