Understanding churn vs. retention
Customer retention is the lifeblood of any contract-based or subscription-based business. New subscribers help you move forward, but it’s the people who do business with you month after month, year after year, who matter. After all, it can cost up to four times more to attract a new customer than to retain an existing one.
That’s why it’s so important to understand churn vs. retention rates — how they relate, how to calculate them, and most importantly, how to use them to develop a customer loyalty strategy.
What are churn rates and retention rates, and how are they related?
Customer churn rate tells you how many of your subscription-based customers cancel or fail to renew during a specific time frame. There are two types of churn:
- Voluntary churn is when customers choose to cancel their subscription. Poor customer service, product dissatisfaction, and switching to a competitor are all common reasons for voluntary churn.
- Involuntary churn is when a customer’s account closes for a reason they can’t control. Maybe the credit card on their account expires, or they move to a location where your services aren’t available.
Customer retention rate is the inverse of churn. It’s how many of your existing customers you retain from month to month.
In both cases, you focus primarily on existing customers. New business data may tell you a little bit about how much you're making up for churn, but the focus is on how many people you can keep with you.
What variables should you track to determine churn and retention?
To get a clear picture of your customer churn and retention rates, you need data. First, define the period you want to measure. Do you want to know your annual customer churn rate? Monthly? Quarterly?
Then, make sure you collect the following data:
- Total number of customers at the beginning of the period
- Number of customers at the end
- Number of new customers who signed on during the period
- Number of customers lost
- Monthly recurring revenue
- New revenue from existing customers (upgrades, cross-sales, etc.)
- Lost revenue due to subscription downgrades or churn
With these numbers, you can calculate churn and retention based on customer numbers, recurring revenue, or both.
How do you calculate your churn rate?
You can think about and measure churn rate in four ways:
- Number of customers lost
- Percentage of customers lost
- Monthly recurring revenue lost
- Percentage of recurring revenue lost
The number of lost customers is easiest to determine since you only need one data point, but it may not be as useful. A churn rate of three customers per month means something very different for a company with 100 subscribers than it does for a company with 10,000.
The same is true for the dollar value of lost revenue. On the plus side, revenue loss is almost as easy to calculate, as long as you can track the value of each lost subscription. You’ll get more useful information about your bottom line this way, but it’s less relevant without the context of what you actually bring in.
Percentage-based churn rate calculation is generally more useful. It’s simpler to calculate using customer numbers than using recurring revenue.
Before you start, decide whether you want to calculate churn based on your customer numbers at the start or end of the period. If you had any customer acquisition, your overall churn rate will come out lower if you use period-end as your base.
From here, the calculation process is simple:
- Divide the number of customers you lost by the number you started or ended the period with.
- Multiply by 100 to get a percentage.
Calculating revenue churn is only a step more complex. Here’s the process:
- Start with your revenue at the beginning of the month, and subtract your revenue at the end of the month.
- From that number, subtract any revenue you gained from existing customer upgrades.
- Divide that total by your starting revenue.
The result is your revenue churn rate as a percentage. Here’s an example:
(($500,000 - $450,000) - $65,000)/$500,000 = ($50,000 - $65,000)/$500,000 = (-$15,000)/$500,000 = -3%
This company has a negative churn rate because it brought in $65,000 in new recurring revenue. Even though it lost $50,000 in subscription funds, the $65,000 made up for it.
How do you calculate your retention rate?
As with your churn rate, you can calculate your retention rate based on customer numbers or dollar value. Again, numbers are easiest:
- Subtract the number of new customers who signed on during the period from the number you have at the end.
- Divide the difference you calculated above by your starting number of customers.
- Multiply by 100 to get a percentage.
For example, if you start May with 250 customers, lose 25, and gain 30, you end with a total of 255. Your customer retention rate is ((255-30)/250)*100, or 90 percent.
Net vs. gross revenue retention
If you want to measure retention in dollar values, you can calculate either net or gross revenue retention. The main difference is that gross revenue retention only considers your starting revenue and any losses from churn or downgrading. Net revenue retention also factors in any revenue gains from existing customers.
Here are the calculations:
- Net revenue retention (NRR): Monthly recurring revenue minus downgrades, minus churn, plus upgrades or cross-sales, divided by recurring revenue, times 100
- Gross revenue retention (GRR): Monthly recurring revenue minus downgrades, minus churn, divided by recurring revenue, times 100
GRR will always be 100 percent or less and equal to or less than NRR. If you mostly want a picture of how well you’re retaining customers, GRR is the most useful metric.
NRR tells you how much you’re likely to grow even with no new customers. If your NRR is above 100 percent, you have happy customers who aren’t just sticking with you but also buying more.
The takeaway: Reducing customer churn and improving retention
Stellar customer service is the key to reducing churn and improving retention, according to Forbes magazine contributor YEC. You need to find out what people want from your service teams and help them get more of it.
Call tracking software like CallRail can help. By studying call metrics and transcriptions, you can learn more about when people contact you, what they need, and whether your phone teams meet those needs.
For maximum success, your call tracking efforts should be part of a complete customer success strategy. That means checking in with customers on day one and following up regularly afterward, making sure that you’re providing them with everything they expect from you. Exceeding customer expectations is the best way to reduce churn and improve retention.