We’re well into the second decade of the SaaS industry. We’ve seen some phenomenal successes in the public markets with stalwarts like Salesforce.com, the next wave of SaaS companies including NetSuite and Workday, and more recent IPOs such as Box. However, there continue to be vigorous debates about the health of these businesses and what’s the right way to interpret their financials. Remember the strong reactions after Box filed its S-1 last year?
Bessemer’s 6 C’s of Cloud Finance, Scale Venture’s Magic Number, and David Skok’s insightful blogs on SaaS metrics have all been seminal works in moving us forward. It’s clear that when it comes to looking at SaaS companies, traditional financial metrics don’t cut it.
The key to running any subscription or recurring revenue business is successfully making the shift in mindset from acquiring new customers to retaining, nurturing, and growing existing customers – and keeping them as long as possible.
“A lot of great CAC (customer acquisition cost) metrics have been developed over the years, but good metrics on the cost of retaining customers have been missing,” says Mark Klebanoff, CFO at PayScale. How much should you spend on customer retention? What factors should you incorporate? Are you underinvesting in customer retention compared to customer acquisition?
As we work with many SaaS companies on their customer success initiatives, we’ve developed a framework – the Customer Retention Cost (CRC) and the CRC Ratio – to assess and benchmark customer retention efforts in the industry. It was an idea from Bruce Cleveland, General Partner at InterWest Partners, that inspired us to dive into this area and develop the framework. According to Cleveland, “As companies adopt recurring revenue models, the CRC ratio must become a key topic in every Board session. The survival of a company depends upon the executive team understanding and managing this metric.”
Below are four steps to assess, manage and optimize your customer retention efforts.
1. Track what you’re spending on customer retention
In simple terms, customer retention cost should include all expenses a company incurs in retaining and cultivating its existing customers. Companies can calculate their CRC as follows:
“It makes so much sense to pay attention to how much you are investing in the success of your customers,” offers Jeff Wright, VP Customer Retention & Engagement at Autodesk. “We know that helping our customers succeed, from early in the relationship, greatly increases the likelihood that they’ll remain customers for a long time. Tracking a metric like CRC will help companies allocate investments more effectively.”
2. Understand your retention cost to revenue ratio
The CRC Ratio answers the question: how much are we spending on every dollar of revenue to make sure we can retain and renew every customer. The point is that in a SaaS business, you are always trying to protect all of your revenue, not just the revenue that is up for renewal in the next month or quarter. In its simplest form, the CRC ratio can be calculated as follows:
3. Evaluate your retention cost versus industry guidelines
The CRC report provides guidelines for retention costs broken down into three major components:
- Systems and technology
- Customer retention programs
Today, staffing is the biggest cost component in CRC for most SaaS companies. Revenue per CSM is a common way companies think about customer success staffing. The report provides staffing guidance based on the complexity of your product and business (determined by the sophistication of your product, maturity of your space, and maturity and size of your company).
4. Look at cost of retention together with cost of acquisition
According to Jeremy King, VP Finance & Operations at InsightSquared, “Having a good grasp of CRC and CAC together is critical in understanding and controlling the financial health of a subscription business.”
For one, comparing CAC and CRC can be illuminating. Say, for example, half your revenue comes from existing customers, but you are spending five times as much on CAC compared to CRC. This can help you calibrate your business better and optimize your investments. Are you underinvesting in retaining customers compared to acquiring new ones? Where can you get better bang for your buck with incremental investment?
Also, by looking at CRC in tandem with CAC and other costs, you can keep tabs on your business’ financial health. Taking an overall profit and loss view of a customer, as outlined in the report, can provide visibility into your ability to monetize customers beyond what it costs to acquire, service, and retain them.
Click here, to download the complete report and read more about:
- The guidelines for each component of CRC
- Should CRC reduce over the lifetime of a customer?
- Should CRC include professional services and customer marketing?
- Does CRC factor in the cost of upsells and add-on sales?
- How should you look at CRC together with CAC
- The Profit & Loss view of a customer
- Public SaaS company metrics on CAC and CRC
Special thanks to Bruce Cleveland of InterWest Partners for being the driver and inspiration behind the development of the CRC framework. Also thanks to Mark Klebanoff, CFO at PayScale; Jeff Wright, VP Customer Retention & Engagement at Autodesk; and Jeremy King, VP Finance & Operations at InsightSquared for their help in corroborating and supporting the report.