Driving growth by managing customer churn

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The following is a guest post by Erik Grueter. Erik Grueter is a marketing associate at Price Intelligently, a  value based pricing software company. To learn more about price optimization or Price Intelligently’s unique pricing software visit their blog.
Customer Churn hurts business

Churn breaks profits

If you are in the SaaS business, you have probably wrestled with customer churn. Customer churn is the rate at which customers leave your service. It is a major area of focus for top SaaS companies, and should be for you as well, because nothing slows growth and profits more than churn.

Employing an effective pricing strategy is perhaps the single most effective method for reducing customer churn. This is because a mere 1% improvement in price can lead to a 11% increase in profits, that is more than enough to take a huge bite out of most SaaS companies churn problems. Lets jump right in and discuss why controlling churn is so vital, and then discuss some of the pricing strategies that can help you reduce churn in your business.

Customer churn is damaging your business

Customer churn is quite simply the number of customers (usually measured as a percentage of total) who quit your service after a given period of time. The effect this has on your business is pretty simple: you lose revenue and grow slower.

What is far more stunning is just how little churn you need to reduce growth significantly over an extended time period. Have a look at the graph below for a visualization of this effect:

 

This graph from David Skok’s blog compares two companies with differing churn rates. As you can see even a fairly low 2.5% churn rate difference can have a significant impact on growth over time. Lets discuss how you can reduce churn to a manageable level so that you can grow faster.

Two ways to combat debilitating churn

There are a number of effective pricing strategies one can employ to combat churn. We will focus on two here. Increasing your revenue stream per customer and optimizing the price of your current offerings.

1. Increasing per customer revenue

Increasing per customer revenue is a great way to reduce churn. This is because the revenue pulled from existing customers is more cost efficient to attain than revenue from new customers. Employing a revenue strategy that naturally has your customers paying more is an excellent way to increase per customer revenue.

You can implement a pricing strategy that captures more and more revenue from each customer by pricing along a value metric. To price along a value metric is to take the core value of your product, and charge for the smallest unit of that value. If you were a farmer selling eggs, your core value metric would be one egg. Every customer, large or small, purchases no less than a single egg.  A growing family will consume more eggs over time. Your customers will consume more of your value metric as they grow in size.

Your value metric can be any scalable part of your business that allows you to capture customers at varying price levels. A hosting company might charge for number of servers or websites for example. As a company requires more servers, they will naturally pay you more. By employing a value metric you build in a natural up-sell that will reduce churn and increase revenue.

2. Price Optimization

Another method for reducing churn is to increase the revenue you earn from your product by optimizing your price. You can do this by running customer data through a a price sensitivity meter, testing visitor sensitivity to prices on your pricing page, or by simply talking to customers over the phone or in person.

Your goal in price optimization is to find the price range that maximizes revenue. This optimal point is where your price and the number of customers willing to pay that price balance to maximize revenue.

This is demonstrated in the graph below.

Price-Optimization

As you can see, optimizing price is not the same thing as pricing higher. There is a point where the price becomes too high for one to gather enough revenue. This is why price optimization by gaining customer feedback is so vital.

Customer churn slows the growth of a company over time, and increases the chance your company will end up falling in line among its competitors, instead of dominating its market. One shouldn’t need more of a reason to fight churn than this. Churn can be most effectively fought by employing a pricing strategy that naturally up-sells customers into higher paying tiers, and by optimizing your current price to find its revenue maximizing point.

Like we said earlier, a 1% improvement in price can lead to a 11% percent increase in revenue. If you want to grow your company, this stuff really matters.

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Posted on December 17, 2012

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