Prime Venture Partners’ Shripati Acharya on everything SaaS companies need to know about 'customer churn'

"You cannot improve a metric if you cannot measure it.” 

This popular statement, often used in the corporate ecosystem, explains that metrics and indicators exist to provide a quantitative estimate of one’s business’ health. Numbers and facts drive action. And for SaaS (Software-as-a-Service) companies, one such metric is the customer churn rate. Without it, SaaS firms remain blind about their product’s value proposition and customer satisfaction. 

“It is crucial, as is the case with any metric, to understand the customer churn rate correctly and measure it accurately because a corrupted figure here can quickly collapse all your important departments like a stack of dominos,” says Shripati Acharya, Managing Partner at Prime Venture Partners.  

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In this week’s episode of Prime Knowledge Series, Shripati talks about customer churn in the SaaS business. 

Customer churn in SaaS 

Typically, a SaaS business runs on a monthly or annual subscription basis. Customer churn is the percentage of existing customers that were not retained in the present month, as compared to the total figure of the previous month. Supposedly, if a SaaS firm has 50 subscribers in the month of January, 55 in February, and 48 in March, then the churn rates of February is -10 percent (that is, negative churn or subscribers increased), and that of March is 12.72 percent (that is, positive churn or subscribers decreased). Thus, SaaS companies strive to achieve a negative monthly churn under ideal conditions. 

Product managers look at churn to alter the product’s impact on customers. Additionally, sales professionals hand out free trials or discounts to keep the numbers low.

The operations of almost every department is influenced by the monthly or annual customer churn rates as a five percent variation in churn is known to impact the business’ revenue by nearly 95 percent. 

Not a full-proof indicator

As with most indicators, customer churn can go wrong. It is not necessarily the full-proof indicator of business health. 

Shripati states the example of annual subscribers. Essentially, an annual subscriber commits to use the product for a year. This means, an annual subscriber is unlikely to cancel their subscription in the following month, and the product will show a zero percent churn rate, which may or may not indicate the true value proposition of the concerned product. In such cases, SaaS companies measure their churn in the pool of customers who are only up for monthly renewal. Then, the definition of customer churn becomes the percentage of customers who did not renew in the group who were supposed to renew subscriptions. 

Additionally, Shripati says that there are instances when churns are avoidable and unavoidable. 

Avoidable churns – like the inability to properly collect customer feedback or providing poor customer support – indicates a fault in the business. However, churn rates can also go up if cancellations happen due to no fault of the company. For example, if the customer’s business folded abruptly, or in cases where it was acquired by another firm which uses the competitor’s product. 

Measuring the business’ health 

Supposedly, a company has been recording a monthly churn rate of five percent. Following this trend, the SaaS company is likely to lose around 46 percent of its net customers, assuming that it had a modest rate of acquiring new customers.

“Such a figure is detrimental to any firm. The ideal annual figure of customer churn is slated at 5-7 percent,” Shripati explains. This brings the monthly churn rate to between 0.42 percent and 0.58 percent. “This is a range that is almost herculean for businesses to maintain, given the current market and altering customer taste,” he adds. 

However, a business’s health is not directly termed ‘poor’ just because it fails to maintain that 5 to 7 percent annual churn range.

Shripati says that Netflix records a churn rate of around 9 percent and yet, is termed as a moderately healthy company, as compared to its competitors which record a churn of around 20 percent. 

Thus, a negative churn shows that the SaaS firm is thriving. A slightly positive churn indicates that somewhere, something is going wrong. A moderately higher churn is a red flag but it is acceptable if the competitors in the same industry are struggling as well. And too high a churn means that the customers are receiving no value proposition out of the product.

“Measured correctly with the right parameters, customer churn is indeed a powerful indicator. It directly digs into the customer’s experience with your product and shows what your departments can do more to facilitate high retention. A continuously low annual churn is a sign of a healthy business and that is where investors and customers flock,” Shripati says.