There are two different methods of calculating churn:
- Customer-based churn is a measure of lost customers, which is vital for maintaining a recurring customer base.
- Revenue-based churn is a measure of lost customer revenue compared to overall revenue generated by the subscription service over a specified period.
Churn is calculated using the following basic equation:
Churn (%) = Customers Lost During Period/Customers at Beginning of Period
When to use customer-based churn for your business
Both methods are often used by SaaS/subscription-based businesses simply because customer losses and revenue losses can be accurately measured by renewals and non-renewals. However, reducing customer-based churn is about finding ways to retain all customers – regardless of what they are spending.
Though this model offers fewer insights as it cares less about the specific demographics of your users, it’s much easier to form solutions to reducing churn, because it helps you focus specifically on obvious weaknesses in your product that is causing large numbers of users to drop off.
When revenue-based churn is better to focus on
Eliminating revenue-based churn is about finding ways to retain high-paying customers. This involves understanding customer demographics and factoring that into your calculations. Unlike the customer-based churn model, the revenue-based churn model takes into account that customers spend different amounts. This model is a better way of evaluating how customer losses over a specified period affect your business’ bottom line.
As such, a churn rate of 5% for one business can be drastically different than another in terms of lost revenue. Though revenue-based models of churn can give valuable information on the impact customer loss has on your business in real dollars, it poses more challenges to reducing the impact.
How thinking about cohorts can improve your analysis
When measuring statistics and metrics related to churn, Cohorts are vital. A cohort is a group of users defined by specific traits. This can be as simple as grouping users by month or year (which we always suggest tracking as base lines), or they can be as specific as tracking mobile subscribers between the ages of 30 and 40 that have liked 10 or more posts related to tennis in the past month.
Tracking monthly and annual cohorts is a great way to measure consistent and stable growth of your product. By creating customer personas and identifying variables related to your business, product, service, and industry, you can begin to identify areas of success, as well as weakness you need to address immediately.
Focusing on weaknesses and areas with high rates of churn helps you better understand which types of people are leaving your service, and why. By developing cohorts, tracking their information and the change in their behavior, and consistently reevaluating, you will be able to reduce customer loss and increase the lifespan of your clients. In turn, this will increase each customer’s lifetime value to your business.
How to apply churn rate calculations to your business
When it comes to the relationship between churn, behavioral cohorts, and understanding the balance between customer and revenue losses, there are a few metrics you will need to understand, measure, and compare to better understand your business and know where to improve.
Here are some basic churn metrics you can apply to your product today:
CAC — Cost to Acquire a Customer, Sum of all Sales & Marketing Expenses/# of New Customers Added
- Customer Lifetime – How long on average a customer will use your product, 1/Customer Churn Rate
- ARPA – Average MRR (Monthly Recurring Revenue) per Account
- LTV – Lifetime Value of Customer
Simplified churn: LTV = ARPA x Customer Lifetime or LTV = ARPA/Churn
For revenue Churn: ARPA x Gross margin (%) / Churn