5 Questions About Retention

Retention is a critical piece in a SaaS company’s valuation. SEG’s managing partner, Allen Cinzori, discussed the importance of retention in a joint webinar with SaaS Capital and ChurnZeroUnderstanding SaaS Growth and Retention Metrics. We’ve gathered the top retention questions asked by SaaS operators and shared our responses below.

1. What are the most effective strategies to improve net retention?

“While it may seem simple, just keep your customers happy,” says Former CEO and Founder of TeamSupport, Robert Johnson, in a virtual coffee discussion. But there is a lot more to it. Here are a few tips for improving net retention:

Customer Segmentation

Customer segmentation is key. Robert suggests it is critical for SaaS operators to “have an understanding of who is at the most risk for churn and apply resources, so they don’t churn.” Segmentation of customers can help identify these at-risk customers, as well as those who have the greatest opportunity to upsell.

Tim McCormick, CEO of SaaSOptics, suggests in a virtual coffee discussion to “identify which industry segments, geographies, and product segments are either profitable or unprofitable, and then slice and dice these cohorts to maximize business potential.” He says analyzing the customer base can provide valuable information and enables the company to “determine which customer segments need to be focused on in terms of maintaining retention in more profitable segments while reducing churn.”

Andrea Pitts, SVP of Global Sales at Arena Solutions noted a considerable change once implementing segmentation strategies. In a virtual coffee discussion, she said: “We saw our ASP’s (average selling price) double, our CAC (customer acquisition cost) immediately go down, and our retention rates immediately rise…The results were extreme, and it gets back to segmentation. Analyze that data.”

Account Management Team

Building or managing a solid account management team also helps improve net retention. A solid account management team can create relationships with customers, support them, and can optimize the customer support process. And, by using customer segmentation tactics mentioned above, the account management team can have a heightened sense of which customers and prospects are most valuable.

Business Model

Certain business models allow for more opportunities to improve net retention. For example, it’s helpful to have a module-based or multi-product company. If the business is not “all you can eat,” you can upsell and have additional revenue.

Price Escalation

Price escalation built into multi-year contracts is another way to go about improving net retention. For example, a customer with a multi-year contract may pay $1,000 in ARR in year 1, $2,000 in year 2, and $3,000 in year 3. This escalation structure embeds ARR uplift into the contract for this customer.

2. What is more important: gross retention or net retention?

There are several ways to track retention (see our previous blog on How to Properly Calculate Customer & ARR Churn). For ARR retention, some wonder if it is more important to track gross or net retention. Both are important metrics to evaluate. See the formulas below:

Evaluate this scenario where gross retention may be more important than net retention. Say Company A has $1,000 in beginning ARR, loses $200, has a downsell of $100, and an upsell of $600. Therefore, Company A’s gross retention is 70%, while net retention is 130%.

The net retention of Company A looks excellent, as it is above 100%. Company A’s gross churn is 30%, but the existing customers are expanding by 60%.

Meanwhile, Company B has $1,000 in beginning ARR, loses $50, has a downsell of $50, and an upsell of $60. Gross retention is 90%, while net retention is 96%.

Which company is more attractive? If you look at net retention, Company A looks more attractive with a net retention of 130%, compared to Company B’s 96%. However, evaluating the gross retention shows Company B may be more attractive, with 90% gross retention compared to Company A’s 70%.

It is important to look at the company’s retention because it is a good indicator of product quality. Analyzing retention can give insight into what type of customers the company is losing and how to build on the product accordingly to satisfy those customers.

3. What is Logo Retention?

Logo retention is based on the number of customers retained in a given period. It gives a company a high-level understanding of how the customer base is trending over time. However, the company should also evaluate ARR retention in addition to logo retention for a more holistic view of the business. See the formula below:

For example, if Company A starts with 100 customers and loses 10 customers, the logo retention for Company A is 90%. If Company B starts with 100 customers and loses one customer, the logo retention for Company B is 99%. Company B is retaining more of its customer base.

4. Does the importance of retention metrics vary by strategic buyers vs. private equity investors?

It’s very important for both. Private equity firms have a financial discipline when looking at businesses, whereas strategic buyers may be looking to fill a gap in the product offering and may not have time to build the product (see blog discussing “nice-to-have” vs. “need-to-have” products). For both, retention validates the product. If the company is retaining customers, then by default, it means the customers appreciate the solution and get value from it.

5. Why should software executives be focused on retention now?

Software executives should always be focused on retention. Retention metrics can be an indicator for software executives to dive deeper into their customer data, which will tell them what type of customers they are losing, who are they losing, if their customers are happy with the product offering, and more.

“SaaS & subscription businesses are valued on their primary asset, their ARR, and customer base retention,” says Tim McCormick. “A SaaS company is awarded premiums on valuation if net ARR retention is above 110%. If you are not managing your ARR in a very serious way, your company is missing out on the ability to gain efficient control and insights needed to maximize business potential.”

Additional Resources on Retention: