SaaS Churn Rate: No-BS Guide to Understanding and Reducing Churn
In SaaS a high churn rate is the ultimate failure. It means too many customers decided your product or service wasn't worth the cost.
Churn is one of the most serious, persistent problems startups face, and the only way to deal with it is through brutal honesty. This guide will break down the reasons behind customer churn and how to improve your churn rate--and deliver a better customer experience.
The goal isn’t to get the churn rate to zero; you’ll always have some level of churn. However, the way you look at churn rate can impact its usefulness.
Are we talking about Revenue Churn? Month-to-month subscriptions? Annual contract retention? Low-value customer churn?
The truth is there are many different ways to calculate churn and its impact on your business. The right way comes down to your growth stage, your CAC and LTV rates, and— most importantly—if churn numbers are impacting revenue and profitability.
Why Does SaaS Churn Matter?
SaaS churn can sink your business. Quick.
It impacts revenue levels, profitability, and the viability of a company. The problem with churn is it compounds. Over time, if SaaS churn rate isn't minimized or contained, it dries up customer pipelines, and eventually, you'll have no customers left.
There are so many different aspects of a business that impact churn, from customer acquisition costs (CAC) to product fit and pricing. Let's take a closer look at what we mean 👇
What is a Good SaaS Churn Rate?
On average, an acceptable churn rate is between three and eight percent. But this can vary based on your industry, product, market, and even the time of year.
The brutal truth: Some SaaS churn is unavoidable.
Say you lose a customer because they went out of business. Your instinct might be to throw your hands in the air and say it couldn’t be helped. After all, you’re only selling them a product—you can’t stop them from failing.
Some churn is unavoidable, but that doesn't mean you shouldn't fight to reduce churn as much as possible. Doing nothing to prevent churn can be dangerous.
Thomas Simon is the Marketing Manager at Monitask, a B2B/SaaS startup productivity tool. He says while there's no silver bullet to stop customer churn, the company has seen good results with strategies like better product-fit and longer contracts.
"While it may be true that some churn is unavoidable, every SaaS company is different and, therefore, will have a unique churn rate.
The best way to determine how much churn is acceptable for your company is to set a goal and then track your progress over time. For us, our goal is to keep our churn rate below 5%."
As Gainsight CEO Nick Mehta points out, it's unproductive to chalk churn up to unavoidable, because you start writing off more and more of your churn instead of looking for solutions. You need to ask yourself:
- How many customers churn for reasons that could have been headed off with stronger customer success?
- How many customers churn for reasons that are completely out of our control?
Measure the impact of so-called unavoidable churn on your business. If massive attrition happens often and destroys your retention, then guess what? You can call it unavoidable, but survival will require you to adapt your business strategy.
Why Do SaaS Customers Churn?
Customers ditch SaaS products for all kinds of reasons.
A bad product fit or confusing onboarding process can cause new customers to look at your competitors. Logan Mallory, the VP of Marketing at Motivosity, says higher churn rates are largely tied to how customers are treated post-purchase.
"Too often, once a customer has made a purchase, the majority of a company's contact with them stops, except for the occasional email or when the customer has an issue.
Instead of this sporadic communication, customers should receive monthly emails with product tips as well as news and updates to help them get the most out of your SaaS product. It’s another way to provide value to your customers, and can be what makes the difference between them sticking with your company or going to a competitor."
But is it really that simple to stop customers from churning?
Pricing creep, poor target market fit, lack of capital, and better competitor products can all cause higher churn rates.
Even founders who have a grip on churn and how it happens often fail to understand why churn happens.
Let's look at how you can address instances of unavoidable churn:
- A customer goes out of business. Businesses fail. It happens. But if you keep attracting failing customers, you need to prioritize targeting healthy businesses in lead qualification. Consider moving upmarket—big enterprises are much less likely to go out of business than SMBs.
- A customer's card bounces. Having customers' cards expire or payments bounce without their knowledge is a huge problem for SaaS companies. Customer payments can be recovered using techniques like dunning sequences, which give them a chance to update cards or renew subscriptions. But prepare yourself that when a card bounces, it can lead to unavoidable churn.
- A customer wants something you're not prepared to give. like a crazy new feature or a 24-hour on-call customer service. You can't appease them. But if this is happening over and over, you need to evaluate your customer success team and see if they're helping clients unlock more value from your product.
- A customer never even gives the product a chance. Here’s a frustrating scenario: Someone buys your product, doesn’t use it for three months, then cancels. Sure, you can’t make them use it. But if this is a trend, it’s probably because of a breakdown in the onboarding process. You need to hammer out a better education strategy for new customers.
That last point is something Service Provider Pro, a Latvian SaaS startup, is trying to mitigate. Deian Isac is Head of Agency Success and says the company tracks voluntary and involuntary churn. He says a big factor in customer churn comes down to having a good product market fit.
"In the past few months, we've decided to offer a 1-hour onboarding session to trial users as we've noticed many were too busy to dive into our software and play with all features.
Most of them quickly realize we’re a good fit and upgrade after (or even during) the trial.
"In the past few months, we've decided to offer a 1-hour onboarding session to trial users as we've noticed many were too busy to dive into our software and play with all features. Most of them quickly realize we’re a good fit and upgrade after (or even during) the trial."
But even with all this, what we really want to know is—does avoidable churn really exist?
Sometimes there are circumstances beyond your control, and customers will leave. But there's a difference between acknowledging that reality and using it as an excuse for excessive churn.
Interested in understanding how the return on sales ratio impacts your bottom line? Check out my article for a detailed exploration of this metric.
What Churn Metrics Should SaaS Companies Track?
There are so many metrics SaaS companies can watch to track churn. But like anything else, some churn metrics are more important than others.
We spoke to (a lot) of founders about which SaaS metrics they track to get an accurate view of their churn. Here are the four you need to watch. 👇
Psst...want to become a pro at understanding total contract value? Dive into our article.
1. Monthly Recurring Revenue (MRR)
Monthly Recurring Revenue (MRR) is the monthly value of your combined customers.
To calculate MRR, multiply your active users by the average amount billed. You need to account for the length of the contract and how many customers are on annual contracts to get an accurate idea of your MRR. It's natural that after a customer finishes up an annual contract, they may churn. If you had a lot of customers sign up in January, don't be alarmed if your churn is slightly higher the following January.
Once you've calculated MRR, you can use it to get an idea of MRR churn. Take those annual contracts that'll be up in January. If your December reports had 1000 customers with an ARPU of $50, your MRR would be $50,000. But if 100 customers churn in January, your MRR Churn will be $5000, and you'll need to replace them to maintain your December MRR.
2. Annual Recurring Revenue (ARR)
Annual Recurring Revenue (ARR) tracks how much money you bring in each year, which is important for SaaS companies that rely on annual contracts.
A basic formula for calculating ARR is to add up MRR over 12 months or multiply the latest MRR by 12 for a rough idea. From there, you can calculate Annual Churn Rate, but you need to consider cancellations or the number of customers who don't renew their contracts so it's accurate.
But what is a good ARR churn rate for SaaS?
There's no universal benchmark. While Stripe says a 10% annualized churn rate is acceptable for SaaS startups, reports from podcaster Nathan Latka say ARR churn can sit at anywhere from 2.5% (Castos with $480,000 in ARR) to 20% (AirDNA with $9.9 million in ARR).
What really matters is your revenue or customer churn doesn't impact profits.
3. Customer Lifetime Value (LTV)
LTV can be challenging to calculate, but tracking how much customers will spend on your products or services during their time will help you understand the impact of churn rates.
For example, if you charge $500/month for your product and customers usually churn after 36 months, your LTV is $18,000. But if customers are churning after only 12 months, their LTV drops to $6000, impacting everything from MRR to how much you can spend on Customer Acquisition Costs (CAC).
There's another reason why tracking LTV is so important for companies. It doesn't help to just monitor churn—it can also change how you think about customers. If the average customer will stick with your company for five years before churning, focus on maximizing their time with your business instead of fixating on when they'll churn.
Customer segmentation should also be taken into account when calculating LTV and CAC (which we will talk about next). Enterprise customers spend a lot more on a product than an eCommerce or SMB customer. And if Enterprise customers have a lower CAC and higher LTV, it makes sense for the company to invest in resources (like customer support teams and account managers) to prevent churn.
But using the same strategy for an SMB or eCommerce company?
It would be a waste. Over a lifetime, their customers aren't worth the same, and acquiring more customers would cost less than dealing with churn.
4. Customer Acquisition Cost (CAC)
Customer acquisition cost (CAC) is how much you spend turning each lead into a customer.
Keeping CAC as low as possible can help increase revenue and cut CAC payback periods so you can reach profit sooner.
However, startups can have trouble calculating CAC because they just don't have enough data. As CandyBar's Darren Foong explained to CXL, traditional marketing metrics were pointless when his product was at an early stage. The company wasn't bringing in any revenue, so it was impossible to calculate CAC or LTV.
But if you do have some data on hand like operating costs, marketing spend or MRR, use it to figure out how much it's costing you to sign up each customer.
Let's say your business spent $10,000 on an advertising campaign in July, and it generated 500 new leads. From those leads, the sales rep (on $50k/year) spent the month closing deals and signed up 100 new customers.
The $10,000 in marketing costs plus the sales rep's salary ($50k / 12 months) brings the total to $14,166. The CAC is then calculated by dividing $14,166 / 100 = $141.
Every new customer signed up from the campaign cost $141 to acquire.
You can then use this CAC figure and line it up against average churn rate and LTV. If your CAC is higher than your LTV, your SaaS will lose money and never recuperate the funds it took to turn leads into paying customers.
Pro-tip: Churning customers can be your greatest teachers. We put together this mega-helpful guide on why you need to call your churning customers (and how to do it right). Use it to learn how to build a bigger, better SaaS business. Oh, did we mention it's free?!
4 Steps to Reduce SaaS Churn (and Boost Customer Retention)
SaaS churn is manageable if you know what to look for. Tracking customer experience, product-fit, functionality, and even metrics like time on site can indicate if customers will churn.
However, the first step to reducing churn is understanding what it is and how to measure it 👇
1. Understand What Churn is (Really) Measuring
Most people think churn only measures one thing: customers who cancel your service. But that’s a gross oversimplification.
David Bitton, Co-Founder and CMO of SaaS startup DoorLoop, says finding the source of churn is one of the toughest obstacles to cutting it. He says red flags like reduced time spent on your website, more cancellations and fewer support queries must be monitored.
"We segment the client data we have and determine areas with the highest level of churn. These areas could refer to anything, including the type of plan, the location, and the enrollment method," he says.
Finding the areas with the highest churn rate is simpler by analyzing client groups, enabling us to develop strategic solutions."
Think about it this way: if you sold SaaS to restaurants, would you consider a little cafe down the street canceling to be as bad as a giant chain with 5,000 locations canceling? Of course not.
They’re not equally important customers. Customers leaving is the direct cause of churn. But churn actually affects two different bottom-line numbers that you can track. You need to figure out which one most aligns with your goals and best reflects your retention issues.
First, figure out if you are experiencing customer churn or revenue churn 👇
SaaS Customer Churn
Despite its shortcomings, customer churn is the simplest and most well-known way to measure churn. It’s the percentage of customers who leave your company in a given time frame—in this case, one month.
A basic formula for calculating a good (or acceptable) churn rate for SaaS is:
Here’s a hypothetical situation:
- Say you have 100 customers at the start of the month.
- Five of them cancel by the end.
- Your churn rate is 5/100=0.05, or 5% customer churn.
That's a pretty high churn rate. 5% monthly churn isn't sustainable in the long run, but it's fixable for an early-stage company. Although this churn rate is simple, it's probably the only measurement a startup needs to address customer retention in its infancy.
In your early days, you don't have enough customer data to learn anything important from a super-complex churn calculation. But as growth expert Andrew Chen explains, young startups need to be data-informed and not data-driven. For example, you can calculate average customer lifetime by dividing 1 by your churn rate.
By dividing 1/0.05, we see that a 5% churn rate equates to a customer lifetime of 20 months. You can use that to calculate your average customer lifetime value (LTV)—another number you need to get a grip on. As your company matures, however, you’ll find that customer churn simply isn’t enough.
SaaS Revenue Churn
Enter revenue churn—the percentage of monthly recurring revenue you lose from cancellations.
If you charge per user or have different pricing tiers, revenue churn lets you put a dollar amount on what churn is actually costing you, and at what velocity. Revenue churn can be drastically different from customer churn and usually tells a completely different story. Let's take the example we just used:
- You have 5% customer churn.
- Five customers were Enterprise companies that purchased your most expensive plan. Out of the total MRR ($50,000), they accounted for $10,000.
- The 5% customer churn has a 20% revenue churn rate (also known as MRR churn).
The revenue churn calculation shows your business lost its biggest customers and is hemorrhaging money. If this revenue churn rate continues for a year, here's what will happen:
Even if you acquire 10 new customers and $5,000 in new MRR every month, the rate of revenue churn makes it impossible to grow. Your growth is just an illusion—the company is shrinking.
Customer churn isn’t a remotely accurate metric for your company in this case. Revenue churn is the calculation that paints the real story behind your metrics.
If you choose the wrong calculation, you'd be sheltering yourself from the gravity of your churn issue, which could kill your company.
2. Are You Accounting for Contract Length?
SaaS subscriptions typically run month-to-month, but you should try and get as many customers as possible to sign up for an annual contract.
Surprisingly, many SaaS companies rely on monthly plans to draw customers in. A KBCM report found the average length of a contract is still less than a year for almost 20% of SaaS companies. Consider the benefits of signing customers up annually:
- Getting the money upfront and knowing that the customer can't churn within the first year is much safer.
- You're getting extra money for work you haven't done yet. It's like a no-interest loan—something no early-stage company should turn down.
- You get better customers. As Patrick Campbell of Profitwell and Price Intelligently points out in his GrowthHackers AMA, “annual plans have better active usage and retention than monthly plans because those individuals are more invested in the product.”
That's why so many SaaS companies (Close included) offer a discount to customers who pay for a year upfront. But for those same reasons, you can't include annual contracts in your monthly churn rate.
Monthly Subscription Churn
Monthly subscription churn is a common churn rate calculation, but only for customers on month-to-month plans. Just leave annual contracts out of it.
Monthly Subscription Churn Formula: churned month-to-month customers/total month-to-month customers.
Let's use this calculation in another hypothetical situation:
- Your company starts the month with 100 customers. 50 signed an annual contract, 50 pay month-to-month.
- You lose 7 customers during the month. If you calculate total customer churn, you get a rate of 7%. It's not great, but acceptable for a growing startup.
- But the figure is wrong. Monthly subscribers are churning at a rate of 14% and have an average lifespan of just over seven months.
There's also a risk that with that many unsatisfied customers, churn could spike once the annual contracts are up.
Using the less accurate formula of total customer churn masks how bad your retention rates are. But if the 14% churn rate holds true for your annual contracts, here's what your growth rate will look like 👇
That year of growth was just an illusion—the company was shrinking the whole time, but it wasn’t clear until annual contracts began churning in January. Segmenting churn by contract length would have shown you that churn was much higher than the 7% you calculated and given you a chance to fix customer problems before they jumped ship.
Annual contracts vs monthly contracts. What's better to stabilize SaaS revenue?
No matter what contract your customers sign up for, the goal is always to retain them.
That said, pushing annual plans over monthly subscriptions has its benefits. You have more time to prove your product's worth, and it locks in 12x the amount of revenue without risking churn.
One of the biggest misconceptions around annual contracts is businesses need to offer hefty discounts to lure customers in. As Justin Lemkin points out, you shouldn't offer a true net discount at all. Instead, prices should be structured to anticipate discounts, so every contract brings in net positive revenue.
A simple change like marking up monthly or quarterly contracts to account for churn can ensure every customer brings in revenue without worrying about clawing back a hefty discount. Will Cannon founded SaaS company Signaturely back in 2020. He says offering annual contracts with a sweet spot discount has been a winning strategy to cut churn.
"For our annual contracts, we offer 20% off the first year's fees.
This can help incentivize customers to commit to using the product for a longer period of time and can help to reduce churn."
As I've already talked about, we use this strategy at Close. Customers save between $4 and $20/month if they sign up for an annual plan.
This strategy locks customers in for a year and gives us 12 months to prove Close is indispensable. We provide post-purchase support and roll out regular features. But most importantly, we make sure every customer actually needs Close and we're a good product-fit for their business.
If customers churn after a year, we're happy knowing we did everything we could to keep them.
Growing companies can also offer guaranteed pricing for a set time (i.e., locked contract for a 2-year contract even if prices increase) instead of a discount to keep customers happy. There's not necessarily an answer to if monthly or yearly contracts are better, as it largely depends on your customer base, but for guaranteed revenue—there's a clear winner.
3. Are You Factoring in Revenue Expansion, Upgrades & Cross-Sells?
Being honest with yourself about churn doesn’t always have to be brutal.
So far, we’ve only looked at gross revenue churn—the overall percentage of existing MRR you lose in a month. But your B2B SaaS company needs to do more than just retain customers.
The goal is to add enough value that you generate expansion revenue, either from customers upgrading to a higher-tier plan or buying more seats. Expansion revenue counteracts the effects of churn. Instead of losing money from disappointed customers who cancel, customers love your product so much they're willing to pay more.
Factoring these changes into your churn calculation is crucial for putting the finger on your trajectory of growth.
Net churn calculates churned revenue minus revenue from upselling and expanding current accounts. Note that you can only calculate this by revenue since it’s all about existing customers paying you more—it has nothing to do with adding new customers.
If expansion outweighs churn, you'll end the month with negative churn—the holy grail of the SaaS industry. Imagine this:
- Your company starts the month with $100,000 in MRR.
- By the end of the month, you lose $5,000 from cancellations but gain $10,000 in new revenue by upselling clients.
- So, while your gross revenue churn is 5%, net churn is actually -5%.
It's only $5,000. But as Tom Tunguz explains, the effects are huge: a healthy, growing SaaS company with -5% churn has 73% higher revenue than one with 5% churn.
Not only does net churn more accurately portray your revenue churn, but it’s important to your company’s overall growth strategy. As your company scales, the only way to tap into negative churn is to build out more powerful, higher-priced versions of your product. Why deny yourself the chance to better serve your bigger clients and get paid more?
Take Slack. The company has blown up since it went public in 2014 and hit the viral growth most startups only dream of. They've managed to sustain that growth with higher pricing tiers and releases including the Slack Enterprise Grid with new features for bigger customers. Scaling upmarket is the logical way for your startup to keep growing after its initial traction.
Getting an already-happy customer to pay a bit more for a better version of your service is much easier than selling to a new customer. Net churn paints the full picture of retention—not just where you fail, but where you succeed as well.
4. Are You Considering Your Target Market?
The easiest solution to SaaS churn may be the one staring you in the face: does your customer base need your product, and are they willing to pay for it?
A better product-customer fit and competitive pricing will keep customers in your pipeline. Focus on who your ideal SaaS customer is (individuals, small business owners, medium or enterprise companies) and sell to them. The difference between targeting an individual and a SMB can matter. A lot.
SMBs and startups look for tools and software in a lower price range or with some flexibility around pricing. A volatile cash flow can push companies to cut out products they don’t find valuable. And if they're only locked into monthly contracts, they can easily switch to competitor products, lowering their annual customer value (ACV).
A company's age and size is a huge factor in determining churn risk. Most large enterprise SaaS companies target larger customers who can afford to sign annual contracts immediately because they have more capital and expendable cash. This will significantly impact churn.
"The most important thing to keep in mind is that churn isn't necessarily a bad thing—it just means that your customers are getting what they need from your product, and have decided to move on.
This can happen for a number of reasons: maybe they've found a better solution, or maybe they're not using your product as much as they used to. Either way, it's important that you don't take churn personally. It's the sign of a healthy business."
Be Honest with Yourself When it Comes to SaaS Customer Churn Rates
Taking a step back and examining what you’ve built with a critical lens can be difficult for business leaders.
No one enjoys poking at the exposed underbelly of their company. But to grow, companies need to understand what is causing churn if they want to lower it.
It's not just about how you measure SaaS churn. Finding the right formula won't convince more of your customers to stay. But it's easier to solve if you have a deeper, fuller understanding of your business and where growth opportunities lie.
Whether that means tweaking your pricing model, reevaluating your ideal customer profile, or testing more creative ways to recover lost revenue, lowering churn is possible.