How do you calculate customer churn rate, and what are the differences between customer churn and revenue churn?
To find out how to calculate customer and revenue churn, it’s important to start by discussing the two different methods of calculating churn: customer churn and revenue churn.
Customer churn refers to the natural business cycle of losing and acquiring customers. Every company — no matter the quality of its products or customer service — experiences churn. Generally speaking, the less churn you have, the more customers you keep.
Churn rate, sometimes known as attrition rate, is the rate at which customers stop doing business with a company over a given period of time. Churn may also apply to the number of subscribers who cancel or don’t renew a subscription. The higher your churn rate, the more customers stop buying from your business. The lower your churn rate, the more customers you retain. Typically, the lower your churn rate, the better.
Understanding your customer churn is essential to evaluating the effectiveness of your marketing efforts and the overall satisfaction of your customers. It’s also easier and cheaper to keep customers you already have versus acquiring new ones. Due to the popularity of subscription business models, it’s critical for many businesses to understand where, how, and why their customers may be churning.
To determine the percentage of customers who have churned, take all the customers you lose during a time frame, such as a month, and divide it by the total number of customers you had at the beginning of the month. Do not include any new sales from that month.
For example, if Company ADG had 500 customers at the beginning of the month and only 450 customers at the end of the month, its customer churn rate would be 10%.
Every company experiences customer churn. However, there are some things you can do to prevent churn before it happens.
Knowing the factors that cause a customer to jump ship is the first step to fixing them. Consider interviewing or surveying customers who have churned to gain insight into their reasons for leaving.
If customers feel that they don’t understand your product or aren’t getting the most out of it, they may abandon you altogether. Depending on your industry and products, you may consider providing digital resource centers, blog updates, and educational email onboarding journeys.
Are your marketing efforts and sales team targeting audiences who are likely to get the most from your product? Consider pivoting your marketing efforts to target customer segments more aligned with your offer.
Have they not logged in for a month? Are their session durations short and infrequent? These signals can sometimes tip you off that a customer may be on their way out the door, so you can step in with resources and support to bring them back.
Another way to think about churn is in the form of revenue. Tracking and understanding revenue churn is important for measuring a company’s financial performance and outlook.
To determine the percentage of revenue that has churned, take all your monthly recurring revenue (MRR) at the beginning of the month and divide it by the monthly recurring revenue you lost that month — minus any upgrades or additional revenue from existing customers. Do not include new sales in the month, as you are looking for how much total revenue you lost. New revenue from existing customers is revenue you have gained.
For example, if Company ADG had $500,000 MRR at the beginning of the month, $450,000 MRR at the end of the month, and $65,000 MRR in upgrades that month from existing customers, its revenue churn rate would be -3%.
The negative revenue churn rate means you actually gained revenue. As before, you can choose a different time frame, such as quarterly or annual. Also, as the example pointed out, a major benefit to calculating revenue churn is that it’s possible to include upgrade revenue.
Customer churn and revenue churn are not always the same. As an example, let’s say that Company ADG has 2 product lines:
5,000 customers that pay $500/month per customer = $2,500,000 MRR
1,000 customers that pay $1,250/month per customer = $1,250,000 MRR
This gives Company ADG a total of 6,000 customers and $3,750,000 MRR. Let’s also say that in one month, 180 basic customers and 20 premium customers churn. See the example below to review the customer churn and revenue churn rates.
While similar, customer and revenue churn rate are not identical because the basic and premium packages are not worth the same revenue. This discrepancy will only grow as you gain more product lines or the price difference between product lines grows. Clearly communicate which method you use and be consistent in your regular reporting.
You may need to use both calculations as you manage your business. Revenue churn is a great way to report on performance and understand the financial health of your customer base. Customer churn is important for staffing reasons as an employee can only manage so many accounts at one time.
As mentioned, you can calculate churn over a monthly, quarterly, or annual time frame. While this is true, there is an important caveat to consider.
In the monthly calculation, there is an underlying assumption that no customer can churn in the first month. This is based on the assumption that your customers pay for the month up front. So when you take a snapshot at the beginning of the month and then divide that by the total number of churned customers, you don’t have to worry about any new sales churning in that time period.
If in the same model we calculated churn over a quarter, we could run into a problem. There will be some new sales from the first month in the quarter that could churn in the second or third month of the quarter. If those churns are accidentally included in the calculation, then we’ll overstate churn.
For example, Company ADG wants to calculate quarterly churn.
If we look over the quarter, our initial cohort of 1,000 customers only has 850 customers remaining, giving a customer churn rate of 150/1000 = 15%.
During that same time frame, there were 300 new sales, of which 15 churn. If you included those 15 churns in your calculation, you’d have 165/1000 = 16.5%.
The simplest way to get around this problem is to exclude all new sales from churn calculations. If you do that, you get the churn rate of Cohort A, which was our install base at the beginning of the quarter. This method gives you the true churn rate, without replacement, of your customer base over a quarter.
You may, however, want to include the churn rate of Cohorts B and C. If that’s the case, you can use a weighted average.
As you can see, it’s still relatively simple to include new sales and their churns during the quarter, too. Just make sure you explain this to your operations team, or whoever manages reporting, so they know exactly what you want and how to report it.