Paddle Billing
ProfitWell MetricsSubscription-based businesses are built around a model of recurring revenue. That revenue fluctuates: customers leave or downgrade, resulting in revenue churn. Learn how to calculate and improve your revenue churn rate, to keep your losses in check.
Here's a fundamental truth: if your subscription business model anticipates creating value, any losses you incur will likely result from investments in growth, profitability, and scale. Theoretically, as time goes by and your business scales, any losses sustained should take care of themselves.
But this approach of continuously absorbing losses in order to drive revenue growth doesn't always work.
So how do you know if it's working for you?
One way to know is by understanding your business metrics, including revenue churn. That means understanding how much monthly recurring revenue (MRR) your business loses each month to gauge its overall long-term health. Hopefully, tracking this metric will also help you devise ways to get revenue churn under control before it puts you out of business.
But what exactly is revenue churn? Let's explore it in more depth.
What is revenue churn?
Revenue churn is a measure of the revenue lost because of customers canceling their subscriptions, downgrading their accounts, or failing to renew. It's an important metric for subscription businesses, including SaaS companies, to monitor, as it shows how the value of your offering is landing and how effective your retention strategies are. It signals the overall stability of your customer base.
Revenue churn is tracked over a specified period and is typically expressed as a percentage. When the period under consideration is one month, the revenue churn rate is termed monthly recurring revenue (MRR) churn. In other words, MRR refers to the business you got last month but didn't carry over into the current month.
Two types of revenue churn
Revenue churn is caused by a number of reasons, among them:
- Customer cancellations or lost contracts
- Downgrades
- Failed charges
- Competitive losses
Often, the highest levels within your organization (think CEOs and CFOs) are most concerned about two of these problems in particular. These are:
Revenue churn from lost/canceled customers
Revenue churn from customer cancellations represents the value of the contract your company could have benefited from if your customer renewed. Mathematically, it's the sum of the value of all cancelled contract terms.
This loss can happen because:
- The customer perceives your SaaS product as too expensive
- The customer is not deriving any value from the product
- The customer outgrew the product due to changes in their business operations
- The customer got access to a cheaper or more valuable version of your product
Revenue churn from contract downgrades
Revenue churn from downgrades represents the amount of MRR lost to customers paying fewer subscription costs than the previous month.
Some common culprits for this type of churn include:
- The need to reduce costs
- The need to reduce the number of seats for the product
- Customers canceling add-ons due to increased cost or lack of interest
Credit card delinquencies are also a leading churn factor, contributing up to 20%-40% of revenue churn. Fortunately, tools like ProfitWell Retain leverage data to help you automatically reduce churn and the associated revenue loss due to payment failures.
How to calculate revenue churn rate
Before we dive into the calculation, let's highlight the fact that you can compute either the gross revenue churn rate or net revenue churn rate depending on the insights you're looking for.
Here's a breakdown.
Gross revenue churn formula
Gross revenue churn denotes the total MRR lost in a given month. Since this number ignores the additional revenue gained from existing customers within the same timeframe, it only showcases what you have lost—never what you're doing about it.
Mathematically, gross revenue churn is the MRR at the start of a month minus the MRR at the end of the month divided by the MRR at the start of the month.
The gross revenue churn rate formula states that:
Gross revenue churn rate = MRR lost to cancellations & downgrades in the past month / MRR at the beg of the month x 100
Example
If company A had $750,000 MRR at the start of March, $650,000 at the end of March, and $160,000 MRR in upgrades from existing customers, what would be its gross revenue churn rate?
Gross revenue churn rate = MRR lost in past month/MRR at the start of Month x 100
= $100,000/ $750,000 x 100 = 13.33%
So its gross revenue churn rate would be 13.33%.
Net revenue churn formula
Net revenue churn denotes the amount of MRR lost and the net of any additional revenue gained from existing customers (otherwise known as expansion MRR). This can result from upsells, cross-sells, or add-ons.
The net revenue churn shows the impact of cancellations, downgrades, and charge failures while considering the payment activities of remaining customers. In so doing, it provides a bigger picture of the effectiveness of upsells and cross-sells.
Mathematically, it's the MRR at the start of a month minus the MRR at the end of the month minus the expansion MRR.
The net revenue churn rate formula states that:
Net revenue churn rate = MRR lost past month - the MRR expanded in the month/MRR a month ago X 100
Going by the example in the gross revenue churn section, the net revenue churn rate would be:
MRR lost past month - MRR in Upgrades in the past month/MRR at start of March x 100
= $100,000 - $160,000/$750,000 x 100= -8%
The net revenue churn rate would be -8%, with the minus sign indicating that the business gained revenue in March. That's despite having a high gross revenue churn rate of 13.33%.
Attaining a negative revenue churn rate is the holy grail of every SaaS business owner. However, lowering the churn rate should always be your ultimate endgame.
5 tips for keeping the revenue churn rate low
Thus far, we have examined how revenue churn identifies the amount of MRR your company lost last month.
This is a critical question since the subscription business model is built around retaining as much MRR as possible.
The reasoning behind this concept is that it cost more to acquire a customer than to keep them. So even if you are acquiring new customers—bringing in new MRR monthly—it's hard to attain sustainable growth if you can't lower or manage your revenue churn.
How to do the lowering? Here are five tips to get you started.
1. Optimize pricing
Your first step is analyzing your current pricing strategy and using insights to optimize it.
One way to do this is to identify subscription packages with unusually high gross revenue churn rates. Then, analyze them to determine underlying causes.
Look at the cancellation or downgrading insights garnered by your pricing software. Go over customer feedback on your site or aggregate review sites. What are customers saying? Did they cancel because the plan was too expensive? Were they switching to a competitor?
Then use these insights to optimize your pricing.
The good news? You don't have to do it all. Let Price Intelligently deal with all the hassle of collecting, analyzing, and gaining insights from customers' feedback. Our tool helps garner pricing insights from your target users. Then, deploy a relative value algorithm to break down your functionality, features, and positioning that adds or subtracts value relative to said insights.
2. Prevent contract cancellations
Preventing contract cancellations is another sure-fire way to lower churn. But how do you go about it?
One, you can reach out to users who have cancelled their contract before the end of their subscription period to try and sweeten the deal to return. For instance, if the customer is cancelling because your plan is too expensive, you can offer them a discount or offer to downgrade their plan to a cheaper one.
Now, you don't have to try such alternatives for every customer who cancels. Do it only when it makes sense, like when it involves big-ticket customers.
You can also prevent contract cancellations by striving to sign longer contracts. After all, subscription companies with more customers on annual contracts experience lower revenue churn rates than those offering monthly contracts.
The reasons? Annual contracts give users fewer chances to renew, which translates to fewer chances to cancel. Think one chance to cancel in an annual contract compared to 12 chances in a monthly contract.
Longer contracts also attract high-end customers who believe in you and your product and are thus less likely to churn.
You can encourage people to sign longer contract terms by:
- Offering a discount for selecting an annual package
- Offering a discount on annual plans over monthly packages and highlighting the associated savings
3. Offer incentives for contract upgrades and cross-sells
Another way to lower revenue churn rates is by shifting your mindset. Instead of focusing on how to prevent customers from cancelling their contracts, you can redirect attention to the best ways to increase revenue from existing customers.
That means incentivizing:
Upsells
To sell customers a more expensive version of what they are currently using, demonstrate value. This is why it's important to nail down your value metric.
To help understand this concept better, let's take Wistia as an example.
Wistia's video hosting platform understands that its value lies in just that: hosting videos. So the brand chose to highlight a metric that best communicates that value to customers, which is the number of videos uploaded. Its positioning of the metric was clever: "make a couple of videos with our Free plan, make more videos with our Pro plan, and then make even more with our Premium plan."
This product positioning allowed Wistia to come up with packages that speak to its targeted customer segments. When marketers start producing videos, they'll typically make a few and gradually increase that number over time. Wistia capitalized off this trend by aligning its package offerings with the typical journey of its customers.
The good news is that your brand can do this too. Align your subscription plans with your customers' growth path and make each package a natural progression from the previous one.
Alternatively, you can offer a sizable discount for existing customers that switch to a larger plan.
Cross-sells
Cross-selling is all about giving your users additional value with extra features or products. One company that nails this is Xero. This accounting software regularly highlights add-ons that boost the core functionality on its pricing page. For example, the Gusto payroll add-on streamlines the calculation of pay and deductions while simplifying compliance and account updates for entrepreneurs.
For you to nail cross-selling, you must understand your customers and their needs. Then, be proactive in providing solutions that meet those needs and position them in a way that communicates their value.
4. Improve user onboarding
Once on board your brand's boat, don't leave your customers without a paddle. Customers should not have to email or call your organization three to four times just to get a response. Poor customer service causes U.S. companies to lose $62+ billion annually.
Offer a helping hand and friendly face by investing in customer support initiatives. Proactively demonstrate to users how to derive value from your product. You can do this via tutorial videos, articles, newsletters, and eBooks.
5. Boost user experience
The final tip on our list is to get better at analyzing customer feedback and use these insights to deliver a better user experience.
An enhanced user experience makes it more fun for customers to use your product. The more they use it, the more they'll recognize its value. Subsequently, the more attached they grow to it, the less likely they are to churn.
Even better? You don't have to accomplish all of this on your own. ProfitWell's got your back.
How ProfitWell Metrics helps track, recognize & reduce revenue churn
Your revenue churn rate reflects your customers' perceived value of your product and its features. ProfitWell Metrics, by Paddle, helps you better visualize the impact of different churn rates on your revenue and provides recommendations for decreasing it. It does more than bring your subscription reporting under a single dashboard. For one, it helps you establish a baseline for your revenue churn rate. It also unifies pricing analytics and churn rates to provide a clearer view into how other business metrics are impacted by churn. Your job is to leverage these insights and adjust accordingly.
Take the headache out of growing your software business
We handle your payments, tax, subscription management and more, so you can focus on growing your software and subscription business.
Revenue churn FAQs
What is negative revenue churn?
Net negative churn occurs when the expansion MRR is higher than the MRR churn rate. Another way to think of negative revenue churn is when additional revenue from existing customers exceeds lost revenue from downgrades and cancellations.
What is the difference between customer churn vs. revenue churn?
Customer churn refers to your brand's ability to retain customers successfully. This is often also referred to as your product's "stickiness." On the other hand, revenue churn identifies how good your subscription business is at retaining customer revenue.
What is a good revenue churn rate?
Knowing what constitutes a good revenue churn rate is difficult as rates are all over the map for different businesses and industries. The best way to identify the right number for you is to benchmark both internally and externally. You can do this by comparing your internal monthly revenue churn rate with those of previous months and against other competitors.
