If you are a SaaS business, then you must read this article for the following reasons:
- What is Negative Churn in SaaS?
- How to calculate Negative Churn in SaaS?
- Why is it important for a SaaS business to calculate these financial metrics and how to optimize them?
We see SaaS providers losing sleep over the churn rates of their business. And why shouldn’t they for it is one of the important KPIs of their SaaS or a subscription-based business? Losing customers or revenue every month is certainly very scary for your SaaS or a subscription-based business. Customers canceling or downgrading subscriptions plans may impact your Monthly Recurring Revenues (MRR) big time. But when it comes to negative churn, SaaS providers are rather thrilled and not unhappy about such figures.
Now, there can be a couple of questions in your mind as a SaaS provider. These could be as follows:
- Can the churn rate be negative?
- Is negative churn good?
Well, churn can be negative and is good for SaaS businesses. To understand why SaaS providers are happy seeing a negative churn, let’s first have a look at what is churn and why is it an important KPI for SaaS companies.
What is Churn?
Churn is nothing but the customers or revenue lost during a given period. For SaaS companies, it translates to the number of customers canceling subscriptions or downgrading the plans in a month or a year.
Further, churn is calculated both in percentage and dollar terms and is calculated using the following churn formula:
Churn Rate Formula (or Customer Churn Rate) = No of Customers Lost/Total number of customers at the beginning of the period.
For example, let’s say you are a SaaS provider and you want to calculate churn for January. You had 200 customers at the beginning of January and lost 10 customers during January.
Thus, your customer churn rate in % = (10/200) * 100 = 5%
Similarly, you can calculate the churn in dollar terms. Say, you have a tiered pricing model and want to calculate churn for January. Out of the 5 customers you lost, three had a Plus Plan that cost $40 per month and 2 customers had an Advanced Plan that cost $100 per month.
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Accordingly, the customer churn for January would be = (3*$40) + (2*$100) = $120 + $200 = $320
Now, if you see carefully, tracking churn rate or rather a customer churn rate alone isn’t of much use. This is because you may not know how the customer churn rate is impacting your business revenues. For instance, you may know the number of customers canceling the subscriptions. But, you may not know the amount of revenue you lost for a given period.
The above example captures only the revenue loss associated with the customers canceling the subscriptions. However, it ignores the revenue loss due to customers downgrading from the current plan.
This is where revenue churn comes in handy.
Customer Churn Vs Revenue Churn: What’s the Difference?
Churn is further divided into two types.
i. Customer Churn
Customer churn refers to the number of customers lost in a given period. For SaaS companies, it includes the number of customers lost due to cancellations or passively. Passive churn may include cases where the customer does not voluntarily cancel the subscription.
Instead, his subscription ends due to issues like payment failure, non-renewal due to some unresolved issues.
ii. Revenue Churn
Revenue churn, on the other hand, refers to the total revenue loss in a given period. This may include cancellations, customers downgrading from the current plan, as well as passive churn.
Accordingly, Revenue Churn is certainly an important metric for SaaS companies. This is because it gives useful insights into the impact on the Monthly Recurring Revenue (MRR) of the company.
Now that we have a clear understanding of the different types of churn, let’s understand the negative churn definition for SaaS companies.
Negative Churn Meaning for a SaaS Provider
If you are a SaaS provider, you experience a negative churn when the fresh revenue from the current customers exceeds the revenue loss due to cancellation or downgrading. That is when your new MRR from existing customers is more than the revenue lost due to cancellations or plan downgrades. The fresh revenue earned every month from existing customers is called Expansion MRR.
Many SaaS companies focus aggressively on increasing revenues by getting more customers on board. However, another critical way in which you can increase your company revenue is by selling more to existing customers.
There are several ways in which you can sell to existing customers. We have discussed these tactics in the section ‘How to Achieve a Negative Churn’
Accordingly, the net negative revenue churn is calculated using the following formula.
Net Negative Churn Formula or Net Negative Revenue Churn = (Churn MRR – Expansion MRR)/MRR at the beginning of the period.
Let’s take an example to better understand the Net Negative Churn.
Let’s say you are a SaaS provider whose monthly revenue per customer is $40. You have 200 customers in total and an MRR of $8,000 at the beginning of the month. Now, you lost 3 customers in a particular month, having a churn MRR of $120 in that month. However, two of your existing customers upgraded their existing plans to $100 per month. This led to increased revenue from the existing customers of $200 in that month.
Thus, your expansion MRR exceeded your churned MRR for that month by $80. Thus, whenever your expansion MRR is more than churned MRR, you have a net negative revenue churn.
Whenever this is the case, you earn more from existing customers than what you lose due to cancellations or plan downgrades.
Accordingly, the net negative churn, in this case, would be as follows.
= ($120 – $200)/ $8000
= – $80/$8000
= – 1%
Thus, after losing 3 customers and expanding to existing customers, your MRR for this month would be $8000-$120+$200 = $7920
How to Achieve a Negative Churn in SaaS?
Let’s carefully look at the net negative revenue churn to understand how you as a SaaS provider can achieve a negative churn. There are two major components of negative churn. One is the revenue churn and the other is the expansion to the existing customers.
Thus, you can achieve a negative churn in SaaS in the following two ways.
1. Reduce Revenue Churn
You can begin by reducing the loss of revenue on account of subscription cancellations and product downgrades. The lesser the revenue churn, the lesser the effort you need to make to expand to existing customers to cover up the loss due to revenue churn.
For instance, if you are losing $1500 each month for
The simple way to reduce the revenue churn is by asking the customers why they are canceling a subscription or downgrading from a premium to a basic product.
For instance, you can ask for their feedback and know the reason behind them downgrading or canceling. The valuable information collected from such feedback can be used in your company’s favor. For example, you can identify the trends in respect of customers canceling the subscription. Similarly, you can use this information to make necessary improvements in the product or focus on aspects that need your attention.
For instance, there may be challenges in respect of product pricing, features, user interface, etc.
2. Increase Expansion to Existing Customers
The other way to achieve a negative churn is by increasing the expansion to existing customers. Now, this can be achieved in several ways. Some of them are as follows:
Cross-selling is one of the great ways in which you can expand to existing customers and increase your MRR. It refers to offering something that compliments your core product to your existing customers. In other words, customers are pitched for the products or services that are related to your core product.
Let’s take an example here to understand how companies do cross-sell. Quickbooks online accounting software has various plans for its core product, that is, a cloud-based accounting application.
Once you select the plan you want to go for, the SaaS provider also asks you to add a payroll plan to your selected online accounting subscription plan. Thus, you can either simply purchase the online accounting application plan of your choice. Or buy an online accounting application plan together with a payroll plan to meet your payroll needs. As you can see, payroll is an offering that is related to Quickbooks flagship online accounting software.
Quickbooks Flagship Product – Online Accounting Software
Quickbooks Related Product – Payroll Software
Thus, if you buy a Quickbooks online accounting software plan, it asks you to buy a related product like payroll software before you checkout.
Add-ons are different from cross-selling. These are extra features that add to your existing product plan. These include additional features, extra user access, additional reports, etc.
The best example that we can take here is Canva, a SaaS design tool for businesses to create their social media posts.
Although it has a tiered plan structure that offers various features according to the plan you choose. However, you get a fixed number of users in those palms. To get access to Canva for more users, you need to pay them extra under each plan.
This is one of the common ways in which SaaS companies increase their MRR. They expand to existing customers by selling them a higher grade plan. Typically, most SaaS businesses have a retired pricing model, where they offer different plans containing different features. Such SaaS companies aim to enable customers to upgrade from a lower to a higher grade plan. You can consider Slack, a SaaS-based business communication tool.
As you can see, Slack has three pricing tiers including Pro, Business +, and Enterprise Grid. Each tier gives you additional features like unlimited workspaces, designated customer success teams, backup support, etc.
If you see carefully, these plans are only for single-users. But, they also have business expansion figured into their pricing plans. That is, you can always increase the number of users by upgrading.
Some companies only offer increased features in their upgraded plan and do not include business scalability in the pricing model. Both the strategies pay, however simply offering increased features in the upgraded plan requires extra effort for sales.