Acquiring new customers costs you 5 times more than keeping existing ones.
Yet, most companies prefer to focus on acquisition rather than retention.
But growing a SaaS company with a churn problem is exactly the same as trying to bring water from point A to point B with a leaking bucket.
It’s extremely tiring and nearly impossible.
And if often leads to giving up.
Here’s what will happen if you keep focusing only on acquisition:
Your MRR will end up stalling.
How is churn killing your SaaS?
Let me explain why with some churn math:
Here’s a spreadsheet I created to visualize the impact of churn on businesses.
So, let’s say that the ARPA (or average revenue per account) is at $100.
The ARPA corresponds to what people will pay on average on a monthly basis.
Let’s also assume that, on average, you get 25 new customers every month and that your churn is at 30% per month.
As you’ve seen on the curve, you’ll reach a plateau after 10 months of growing your business.
In that case, your company may never make more than $8k per month.
Which… kinda sucks.
Now, let’s say your churn rate is at 3% per month and that you're gaining 15 customers per month.
As you see here, you’re actually growing a lot faster, and at the end of the first year, you’re ending up at $15k MRR.
That’s x2 what you generated with a 30% churn rate.
And that’s not all: when you decrease your churn rate, you also increase your lifetime value.
The lifetime value corresponds to how much a client pays over the time he uses your product or service.
Here, for example, since your clients pay $100 per month and the average number of months they will stay is 33, your lifetime value is $3,333.
And the higher the lifetime value is, the more money you can spend on acquiring new customers.
Think about it for a second:
Decreasing your churn rate will help you get customers who can bring you a lot more revenue and have a higher lifetime value, which means that you can invest more money and effort to acquire them… because even if you spend more, you know that the ROI (return on investment) will stay positive.
Let’s take an example and say that your customer's lifetime value is $1,000.
If you spend $1,000 to get a customer, you will basically never make any money and potentially lose money over time because you have to pay your product’s support and infrastructure costs.
However, if your lifetime value is $10,000, spending $1,000 per customer will actually be highly profitable.
If you want to build a highly profitable and healthy business, there’s a rule of thumb that says that you should spend a fourth of your lifetime value for each customer you acquire.
We call this “the ratio lifetime value (or LTV)/customer acquisition cost (or CAC).”
Which is 4/1.
In my example, the lifetime value is equal to $10,000. It means that your customer acquisition cost should be up to $2,500.
And in any market, the one who can spend more is more likely to get more customers and more market shares.
Before I share with you how you can reduce your churn rate, I wanted to give more context about the numbers in the spreadsheet.
It’s a very simplistic model I created to show you the influence of churn.
In reality, you also have products with high churn but also high adoption and word of mouth that continue growing.
This means that each month, the number of new customers gets higher and higher thanks to word of mouth, and despite a high churn, the growth continues.
But overall, every single company with a high churn will struggle to continue growing eventually.
Because your top of funnel can’t grow forever.
That’s also why companies with low churn have higher valuations than companies with high churn.
Because investors know that a SaaS with low churn is a SaaS people deeply need and it’s a SaaS that can continue growing for a much longer time.
And during fundraisings or IPOs (which is essentially when a company goes public), companies with the highest valuation of all are usually the ones with a negative churn.
Now you might think: “what the f*** is a negative churn, and how is it possible to achieve that?”
Well, there’s a thing called: expansion revenue. Which is essentially when your existing customers pay more money for your product or service each month.
Let me give you an example:
Let’s say that you start using lemlist for your sales prospecting and that you pay $100 per month for one sales rep.
After a month, you see that you have a positive ROI and decide to add another salesperson to your team.
You now pay $200 per month because there are 2 people using lemlist.
That’s revenue expansion.
And when the revenue expansion is higher than the churn, you have what we call a negative MRR churn.
Here’s an example:
Let’s say you price your product at $100 per user and that you have 100 users.
You’ll make $10,000 in revenue each month.
Then, let’s say that this month, 30 existing users added 1 user to their plan; you’ll make 30*$100 so that’s $3,000 in expansion revenue.
But let’s say that 20 of your users decided to churn, it’s 20*$100 so $2,000 to remove from your revenue.
Since your expansion revenue is higher than your churn, you have a net expansion of $1,000 (a $3000 expansion - a $2000 churn.)
Since your total revenue was $10,000, and now it’s $11,000, it means that your retention rate is 110% as you added $1000 more in net revenue.
Before we dive deep into how you can keep clients, you need to understand why your churn rate is not improving.
So let’s check out the biggest mistakes people usually make when it comes to churn.
Why your churn rate is not improving?
The first mistake is considering all of your customers the same way.
When you consider that all your customers are alike and you want to reduce churn - you will try to understand global patterns.
Not all your customers are the same.
Would you give the same level of service to someone spending $10,000 per month and someone spending $100 per month?
Probably not right?
So how do you solve that problem?
When looking at churn, the first thing you need to do is to identify who are your tier 1 customers.
And despite what most people think, your tier 1 customers are not always the ones bringing the most revenue.
Your tier 1 customers are the ones who benefit the most from your product and who couldn’t live without your product because of the success they have.
So you must focus all of your efforts on them.
Back in 2020, I closed a $260,000 deal.
That’s more than a quarter of a million dollars per year.
A few months later, this customer decided to churn, and I did nothing.
Most people would think: “Why haven’t you done everything in your power to keep them?”
But in reality, I knew that that customer was doing outreach for a political party for the US election.
It was definitely not our usual target customer.
And even though the churn was painful, it made sense because it was not part of our tier 1.
Now let’s have a look at our retention model.
Let’s say that a customer who is a good fit stays 5 years on average while a customer that is a bad fit stays only 6 months.
What do you think is best between:
A- 3 good fit customers?
B- 10 bad-fit customers?
In that scenario, you can see that even though you’re getting more than 3 times more customers for the “bad fit customers”, the LTV is actually much higher when you get customers that are a good fit.
That’s the power of retention, and that’s why reducing churn is critical.
This brings us to our second mistake: when reducing churn, people tend to focus only on churned users.
What’s the first thing that you’re gonna do if you want to reduce churn…? Reach out to churned users and ask them why they churned.
It seems logical, but here’s the risk: people will most likely tell you that it’s because your product lacks a specific feature.
And you’ll end up thinking that you absolutely need to build that feature to solve the churn problem.
The problem with this strategy is that your product will become a feature factory and you will lose even more customers down the line.
Let me tell you a story that happened during World War II:
Allies’ fighter planes would come back from battle with bullet holes all over.
So the constructors decided to strengthen the most commonly hit areas to reduce the number of planes that were shot down.
Which, again, seems very logical.
Yet, a mathematician called Abraham Wald pointed out that there was another way to look at the data:
What if the reason certain areas of the planes weren’t covered in bullet holes was that the ones that were shot in those areas did not return…?
In the end, this insight led to the armors being reinforced on the parts of the plane where there weren’t any bullet holes.
The story behind the data is arguably more important than the data itself.
Or more precisely, the reason behind why we are missing certain pieces of data may be more meaningful than the data we have.
That’s why if you only talk to churn users, you won’t have the full story of the data.
So now, what should you do?
Focus on existing customers who are not churning.
Reach out to them and understand exactly who they are and why they love your product so much.
When you truly understand that, find more people EXACTLY like them.
That’s how you’ll reduce your churn.
There are 2 main components that make your users stay
1- The experience they have
2- The results they get
The experience your users have is something people often underestimate.
You believe that because you have a SaaS or technical product, your differentiator is in the product itself and the features - but that’s not true for 2 reasons.
First, most people won’t use every feature of your SaaS, so the range of features you can have is not such a great differentiator.
And the second is because people are people.
What do I mean by that?
Well, if you offer excellent customer service to your users and can solve their problem every time they ask a question VS another competitor that doesn’t really care, who do you think they’re gonna stick with?
That’s why you need to offer them a great experience so they’re proud to use your brand and to support your company.
The biggest issue I see with SaaS companies trying to compete on features only is that they often become commoditized.
It’s as simple as that.
If all you’re doing is talking about your product and a competitor comes and copies everything you’ve done and tells your customers that they can have the same for cheaper - they will leave.
That’s why the overall experience is so important for your customers.
What did you learned today?
- Acquiring new customers costs you a lot more than keeping existing ones
- Focusing only on acquisition rather than on retention will damage your business’ growth… and may eventually kill your SaaS
- You cannot reduce churn by focusing on why people churn - focus on understanding your tier 1 customers instead
- Your users will keep using your product only if they have a positive experience or generate great results
But now… how do you exactly reduce churn?
Well, stay tuned because next week I’m gonna release an article on 4 things that you need to improve in your business to reduce churn.
In the meanwhile, I really hope this article helped you!
And if you want more, check my free newsletter with tons of actionable tips on how to build a SaaS company!
Peace, love & profit 💰