Churn Rate

Churn rate is the percentage of customers in a subscription-based business model that stopped using the services of the company. Churn is inevitable. However, since it’s easier and less expensive to retain the old customers, expand accounts and upsell, it is our strong advice to keep the churn low.

Why is the churn rate important?

CR is one of the key indicators of the business’s “health.” It is used to calculate:

• Customer Lifetime (CL), an expected amount of time that one customer will stay with the business
• Customer Lifetime Value (CLV), the predicted amount of money a company will receive from one client during the customer lifetime.

Apart from providing crucial data for any financial predictions, CLV is often used to examine the business by comparing it to Customer Acquisition Cost (CAC).

According to David Skok, the healthy CAC to CLV ratio for start-ups is 1:3. He often suggests investors look into this ratio rather than check the revenues of the company because the revenues of a start-up would rarely represent any reliable data.

We also use CLV to define the maximal cost of one appointment for a business to survive.

High churn rate

A high churn rate is an important signal for the company that something is going wrong. The possible reasons for the high CR include:

• the solution that the firm provides has some major flaws (e.g., constant bugs in a program),
• the customer service is bad (e.g., account managers don’t pay much attention to the client’s requests),
• the customer experience is awful (e.g., requesting support with a bug takes several days and requires filling out several documents),
• the solution doesn’t match the brand promise (e.g., sales and marketing promise to solve deliverability problems while, in fact, the company’s main product is a CRM),
• the competitors provide the same service at a lower price and you don’t have any other USP up your sleeve,
• the company doesn’t have viable customer retention, upsell and account expansion strategies (e.g., a company doesn’t have Customer Success Managers and no programmatic communication with the clients).

Increasing sales and marketing activities and winning more clients might provide a temporary solution to the high churn rate problem. However, it’s a symptomatic remedy and it doesn’t solve the core reason for the high CR.

How to calculate the churn rate

Usually, the churn rate is calculated for a certain period of time (year, quarter, or month) and a certain cohort of customers that signed at the beginning of that period.

To calculate the churn rate, you need to know the number of customers in a cohort that subscribed to your service at the beginning of the given period (day 1), aka net new starts. Then you need to find out the number of customers of that cohort that stayed with you at the end of this period (day last).

Churn rate formula:

Churn rate = (Cohort's net new starts - No of cohort's customers at the end)/Cohort's net new starts

For example:

100 customers subscribed to your app on December 1, 2019. 90 of them were still your subscribers on 31 December 2019. Your churn rate will be (100-90)/100 = 0.1 = 10%

How to facilitate churn rate calculations

In the B2B model, having 100 net new starts in one day is somewhat unrealistic. To facilitate calculations, you can do one of the following two things:

Calculate the annual churn rate and take net new starts for one week or even month

Example:

ABC Company built an AI for sales development that analyzes the content of phone calls and makes suggestions on improvement. They signed 20 deals in January 2019, Cohort 1. On December 31, 2019, they had 10 customers left of Cohort 1. In February 2019, they signed 40 deals, Cohort 2. On January 31, 2020, they had only 10 customers left of Cohort 2.

CR Cohort 1 = (20-10)/20 = 0.5 = 50%

CR Cohort 2 = (40-10)/40 = 0.75 = 75%

Average CR = (CR C1 + CR C2)/2 = (50%+75%)/2 = 62.5%.

Thus ABC Company’s average annual churn rate is 62.5%.

The annual churn rate is good when you sell annual subscriptions.

Set the fixed date for the subscription start.

That’s what we do at CIENCE. Our subscription starts on the first day of the month or on the 15th day of the month. Since our services are tied to weekly activities, it’s also beneficial for our reporting system for our clients.

Summary

Churn rate is an important indicator of a business’s health. It helps analyze the current state of customer service and experience, the quality of the solution provided, as well as make important financial predictions. The high churn rate is an indicator of some serious problems in one or more business activities of a firm.