If you are a SaaS business, then you must read this article for the following reasons:
- What is Revenue Churn Rate?
- How to calculate Revenue Churn Rate?
- Why is it important for a SaaS business to calculate this financial metric and how to optimize it?
Revenue Churn is one of the key metrics of a recurring income or subscriptions based business like Software as a Service (SaaS). No business wants to lose revenue. But when it comes to SaaS companies, subscription cancellations or downgrades are unavoidable.
Of course, you can’t retain 100% of customers. Neither can you stop a few of them from downgrading to a smaller subscription plan? But, tracking and controlling the revenue churn can certainly help you to get some valuable insights about issues your SaaS business is facing that need your immediate attention. Many SaaS companies simply overlook revenue churn and focus only on getting more customers.
Whereas, revenue churn is one of the important SaaS KPIs. This is because it gives you valuable insights on the revenue you are losing due to customers who stop using your products and the customers who go for plan downgrades.
This helps you to know the type of customers you are losing (as in what plan were they using), why they go for cancellations or downgrades, and what you can do to resolve those issues.
What is Revenue Churn?
Revenue Churn is the percentage of revenue you lose for a given period due to customers who stop using your products or services as well as the ones who go for plan downgrades.
To understand what revenue churn is, it is important to first understand churn in the case of SaaS companies. Customer churn is the percentage of customers who go for products cancellations. That is they stop using your products or services.
Revenue churn is a broader term that refers to the amount or percentage of revenue you lose in a given period. This includes the loss of revenue due to subscription cancellation, subscriptions downgrades, and involuntary cancellation.
i. Subscription Cancellation
This includes the revenue your Saas company loses in a given month, quarter, or year on account of customers who do not use or product or service anymore. That is they cancel the subscription of your product or service.
ii. Plan Downgrade
This is the revenue loss due to customers who shift from a high-cost plan to a lower-cost plan. That is a reduction in monthly, quarterly, or annual revenue due to customers shifting from a higher-priced (say a premium plan) to a lower-priced (say basic plan) plan.
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iii. Involuntary Cancellation or Passive Churn
This is a revenue loss for a given period due to those customers who wanted to continue using your product or service. However, they could not do so due to their subscription ending passively. That is, they intentionally did not want to cancel the subscription. However, it happens due to issues like payment failure which are never solved.
Thus, they are not able to renew their subscription.
Customer Churn Vs Revenue Churn
Customer churn is different from revenue churn. However, many SaaS providers get confused between customer and revenue churn.
|S.No.||Basis||Customer Churn||Revenue Churn|
|1.||Definition||Customer churn refers to the percentage of customers you lose in a given period. That is the percentage of customers who cancel subscriptions or stop using your product or service||Revenue churn refers to the percentage of the revenue lost in a given period. This includes loss of revenue due to cancellations, downgrades, and involuntary cancellations.|
|2.||Formula||(Customers lost at the end of the period/Total number of customers at the beginning of the period)*100||(Revenue lost in a period/Revenue at the beginning of the period) *100|
|3.||Relevance||The number and type (customers with what plan) of customers you lose in a given period||How much revenue you are losing in a given period (monthly, quarterly, or annually).|
|4.||Purpose||SaaS companies track customer churn rates to know if customers are leaving before they actually cover the average customer acquisition cost incurred to take them on board. Thus, higher churn rates impact the bottom line of a SaaS company if customers don’t stick around until the company covers its CAC.||Revenue churn rate helps to know the segment of customers that have the largest share in the customer churn. For instance, customers with premium or advanced packages contributing maximum to the churn rate can mean a huge loss to the company.|
|5.||Examples||Voluntary and involuntary churn like subscription cancellation and cancellation die to payment issues not resolved||Voluntary cancellation, involuntary cancellation, and downgrades|
Gross Revenue Churn Vs Net Revenue Churn
|S.No.||Basis||Gross Revenue Churn||Net Revenue Churn|
|1.||Definition||Gross revenue churn refers to the percentage of revenue lost in a given period due to cancellations and downgrades.||Net revenue churn refers to the amount of revenue lost in a given period due to downgrades and cancellations but after taking into account the upgrades from expansions.|
|2.||Formula||(Revenue lost in a given period due to cancellation and downgrades/Total revenue at the beginning of the period)*100||(Revenue lost in a period – Expansion Revenue in the given period/Revenue at the beginning of the period) *100|
|3.||Example||Say you had a Monthly Recurring Revenue (MRR) of $10,000. The MRR loss due to product cancellations and downgrades amounts to $1000. |
Thus, Gross Revenue Churn Rate = ($1000/$10,000)*100
|Say you had an MRR of $10,000. The MRR loss due to cancellations and downgrades is $1000. However, the revenue gain from expansion is $1500. |
Thus, the Net Revenue Return Rate = ($1000 – $1500)/$10,000)*100
= – 5%
|4.||Purpose||Gross revenue helps you to keep track of decrease in MRR due to product cancellations, involuntary cancellations like payment failure, and subscription downgrades. |
Thus, you can keep track of revenue loss from your current customers. Further, you also get to know why your customers are leaving or downgrading. By communicating with your customers, you can know some critical business challenges. For instance, issues with the product, customer support, product pricing, value created by your product, etc.
|Net revenue churn rate tells you if your business can continue to expand given the current churn rate. |
In fact, as calculated in the above example, SaaS businesses strive for negative churn. This is because it helps them to cover the revenue loss due to cancellations by expanding to existing customers.
Negative Revenue Churn
As a SaaS company, you experience a negative churn if the expansion revenue from the existing customers exceeds revenue loss due to cancellations or downgrades in a given period.
Many SaaS companies strive for a negative churn. This is because it helps them to cover for the revenue loss from cancellations and downgrades from new revenue from the existing customers.
Negative Revenue churn helps you to know if you can continue to grow given the existing churn rate. It is unrealistic to retain all the customers. However, the lower the churn rates, the better it is for your SaaS business.
Net Negative churn rate is calculated using the following formula:
Net Negative Churn Rate = (Churn MRR – Expansion MRR)/MRR at the beginning of the period.
Why is Revenue Churn Important?
Revenue Churn is an important metric for subscription-based businesses. This is because each customer lost is lost recurring revenue for the firm. As a result, lost customers can have a significant impact on the bottom line of the SaaS business.
That’s why many SaaS businesses have customer success teams who leave no stone unturned to reduce customer churn. Reduction in customer churn rate leads to enhanced Customer Lifetime Value (CLTV).
Note that it is important for a SaaS business to calculate both the customer churn and the revenue churn.
Revenue churn reports on the performance as well as the financial health of a SaaS business. Whereas, customer churn is important to calculate from the point of view of the customer success team executive as he can manage only a limited amount of customer accounts at a time.
Note that calculating customer churn without calculating revenue churn is of no use. This is because revenue churn lends a context to customer churn. It is important for a SaaS business to know how many customers are abandoning the SaaS subscriptions each month.
But calculating just this number will not help the business to understand what strategies to undertake and which customer segments to target to reduce the customer churn.
For instance, it is important for a SaaS business to know whether it is losing higher-paying customers more than lower-paying customers. If this is the case, then it is a huge loss for the business. To avoid such a loss, the SaaS business will take the requisite steps to ensure that the higher-paying customers stay with the firm.
Also, determining revenue churn forecasts are important for a SaaS business to know how much customer churn is costing the SaaS business. These insights will further help business owners to understand how their firm’s revenue and runway will get impacted.
In addition to giving insights on the performance, the type of customers business is losing, and the cost of customer churn, revenue churn also gives insights on the product pricing.
There are many SaaS firms that offer a host of price plans to customers, depending on their business requirements. Revenue churn will help the business owners to know customers belonging to which price plan are leaving the firm.
For instance, if customers who have subscribed to lower price plans are abandoning the product more, this can mean that the product is priced too low. Hence, it is not attracting the target customers towards the product.
On the other hand, if the customers who have subscribed to high price plans are abandoning the product more, then the SaaS business must provide more value. Likewise, it will be able to justify the prices to the high-paying customers for the services offered.
What is a Good Revenue Churn Rate?
Profitwell curated revenue churn benchmarks by studying subscription companies of all shapes, sizes, and verticals.
It concluded that the Gross Revenue Churn Rate (GRCR) of a SaaS business does not have a definite correlation with the company’s Monthly Recurring Revenue (MRR) considering the size of the firm. The GRCR range fluctuates between 5% and 16% on the lower end of MRR. Whereas, the GRCR range fluctuates between 2% and 8% on the higher end of MRR.
However, based on company age, older companies have significantly lower as compared to younger firms. For instance, companies less than three years have a GRCR range that fluctuates between 4% to 24%. Whereas, companies 10 plus years old have GRCR range between the 2% to 4%.
Then, considering the pricing of the SaaS product, companies with low ARPUs have higher churn as compared to those with larger ARPU. For instance, companies with ARPU below $100 are likely to experience monthly gross dollar churn rates between 3% and 16%. The average churn for such companies is between 6% and 9%. Likewise, companies with ARPU over $500 are likely to experience less revenue churn range between 2% and 6%. The average churn for such companies is between 3% and 4%.
How To Calculate Revenue Churn Rate?
The following are the ways in which revenue churn rate is calculated for a SaaS business.
i. Gross Revenue Churn Formula
Gross Revenue Churn of a SaaS business showcases how much recurring revenue is lost on existing customers in a given time period due to contraction.
The revenue contraction may occur due to customers abandoning product subscriptions, downgrading their service, price decreases on existing subscriptions, and churn.
This is how to calculate Gross Revenue Churn for a SaaS business:
Gross Revenue Churn = (Downsell Committed Annual Recurring Revenue (CARR) + Churned CARR/CARR at the beginning of the period
ii. Net Revenue Churn Formula
Net Revenue Churn of a SaaS business is gross churn minus the recurring revenue gained via expansion on existing customers through subscription activities. The subscription activities may include add-ons, upsells, cross-sells, price uplifts, etc.
Note that SaaS businesses track their Net Revenue Churn to determine if they are effective in reducing the effects of gross churn. This means they want to see whether their company’s rate of expansion is able to outpace the rate of contraction.
This is how to calculate Net Revenue Churn for a SaaS business:
Net Revenue Churn = (Upsell CARR – Downsell CARR – Churned CARR)/CARR at the beginning of the period
How To Reduce Revenue Churn?
There are a host of reasons that are responsible for revenue churn for a SaaS business. These reasons are categorized into three classes: implicit factors, explicit factors, and experiential factors.
The implicit factors are the ones that relate to the SaaS product or service itself. Such factors indicate that the product or service lacks a feature that is probably present in competitor SaaS products.
The next set of factors that are responsible for revenue churn is the explicit factors. The explicit factors relate to the specific promises that the SaaS business makes to its customers. However, the lack of ability of a SaaS business to meet those promises leads to customer churn.
Finally, the third set of factors responsible for revenue churn is the one that relates to the relationship that a SaaS business shares with its clients.
It is important for a SaaS business to overcome all the above challenges in order to reduce its revenue churn.
I. Target Priority Customer Segments
Note that not all types of revenue churn are bad for a SaaS business. As mentioned earlier, if a SaaS business is losing more of its higher-paying customers, then it has a substantial impact on the bottom line of the business.
Thus, it is important for a SaaS business to set priority customer segments that it needs to focus on as a part of its customer churn strategy. Furthermore, it also needs to determine the monthly cost that a firm may incur to serve such customers.
Also, while selling the SaaS product, the business must have knowledge about the customer’s needs and budget.
All such insights help the SaaS business to sell the product and to increase customer renewal rates. For this to happen, the SaaS business needs to keep the data up to date. To do so, the business owners can conduct on-boarding and exit surveys.
In addition to this, the customer success teams can also provide insights as they are in direct contact with the customers. Using this data, the SaaS business can change its inbound and outbound strategies.
II. Provide Automatic Payment Methods
The major benefit of using a SaaS product is that consumers can purchase it according to their business requirements at a far less price relative to the on-premise solutions.
Further, to purchase the SaaS solution, consumers just have to pay for the solution online via automatic payments. They do not have to go through the process of generating invoices and getting them approved through a centralized department at the SaaS business. This is unlike the businesses selling traditional on-premise solutions.
However, the challenge with accepting automated online payments is that a SaaS business has to provide a host of automatic payment methods to consumers. These methods may include credit and debit cards, e-wallet services, ACH, PayPal.
Note that accepting payments through automated online payments helps a SaaS business to improve cash flows and reduce Days Sales Outstanding (DSO).
III. Customized Price Plans
A SaaS business must set pricing plans based on customer usage and engagement with the SaaS product. This strategy goes a long way in reducing revenue churn.
To set customized pricing plans, the SaaS businesses must ensure that the customers using the product heavily are not overpaying for the product according to their usage needs. In addition to this, they must also ensure that heavy users are provided with cross-sell/up-sell opportunities more frequently.
IV. Offer Product Upgrades To Relevant Customers
As mentioned earlier, the customized price plans of the SaaS product play a significant role in convincing customers during onboarding. In addition to this, these plans also play an important role in the case of the customers using the SaaS product frequently.
Thus, the manner in which a SaaS business segments its customers with respect to product upgrades is extremely important in reducing the revenue churn. In addition to this, when the customers are pitched such customized pricing plans is also important.
For instance, a SaaS business should not pitch the product upgrade plans to the customers who abandoned the SaaS product previously. Instead, such product upgrade plans must be pitched to customers who are already beyond the Average Customer Lifetime Value (ACLV).
V. Customer Acquisition Vs Customer Life
A SaaS business should focus on retaining customers for a longer period of time over acquiring more customers.
However, the reality is that many SaaS businesses focus on optimizing conversion rates while acquiring customers. This is especially the case if a SaaS business offers a freemium offering.
Accordingly, the SaaS business monitors KPIs around marketing campaigns that provide such an offering.
However, a SaaS business must track and monitor KPIs around a marketing activity or campaign that leads to retaining customers for a longer period with the business.
For this, the marketing teams at the SaaS business must segment customer groups based on customer life and marketing campaigns. Once this is done, they can then optimize for those acquisition activities that drive the biggest gains in overall revenue, not just conversion rates.
VI. Customer Acquisition Vs Customer Life
Another important reason why customers abandon a SaaS product is due to payment failure. Note that a subscriber’s card may fail due to a host of reasons. This is involuntary churn and the manner in which a SaaS business manages such a churn impacts the bottom line of the business significantly.
However, the reality is that very few SaaS businesses have an understanding of the payment networks and take steps to optimize them on an ongoing basis.
This means that the payment provider plays a significant role during the customer onboarding and renewal phases.
Thus, it is important for a SaaS business to identify a payment platform that offers the necessary f individual care and attention to each of its clients.
Such a payment platform must offer tools that provide flexibility and customize subscriptions around product requirements without system capability restrictions.
In addition to this, the SaaS business must ensure that the payment provider is using cascading payment gateways to ensure recurring payment success.