I came across a great post by VC Tomasz Tunguz on a great growth mechanism: negative churn. In effect, negative churn creates the same compounding effect as a high-rate bond; over time it generates tremendous growth. Negative churn means that the actual churn rate, the number of customers or players moving out of a collective group over a specific period of time, is lower than the increase in the value of the retained customers.
What is negative churn
Tunguz uses a great example to illustrate negative churn. Say your company has a five percent monthly churn rate, which means that five percent of your users quit each month. In Tunguz’s example, the remaining 95 percent of the customers increase their spend with your company by ten percent, so total revenue from this cohort (group) of users is equal to 105 percent of the revenue from the previous month. Even with 5 percent monthly churn, each month this cohort of users becomes increasingly valuable.
In the 5 percent monthly churn case, the company exits the year with $919 in monthly recurring revenue and the customer lifetime value (assuming a one-year lifetime and no virality) is $77. In the negative churn case (where you have a 10 percent monthly increase in spend), your company’s revenue is 73 percent larger at $1592 and the LTV is worth $133.
In both cases, the company has the same number of customers (or game, players). But with negative churn, revenue is over 70 percent higher. This shows the power of compounding growth every month.
This graphic from Tunguz’s blog illustrates the opportunity:
How to achieve negative churn
Although it is easy to say just increase revenue per user by 10 percent a month, it is much more challenging in practice. In a free-to-play game, a combination of fine tuning the economy and providing new content can often drive such growth. For a consumer product, it may be selling it to more members of a family, or in a B2B product more employees of an existing customer. It may also be getting people to consumer more of a product, such as by making it a replacement for another product they also use. In a casino, it may be getting players to increase their average bet. You may add an additional revenue source, such as advertising. You can also cross sell other apps, games or products to your existing users. I have written in the past about other ways to impact monetization, and most of those apply in this situation.
Do not forget the 80/20 rule
The final point that Tunguz makes is to take the power curve into account. Most people in the free-to-play gaming space understand that a very small percentage (fewer than two percent) drive almost all revenue. In other businesses, you can usually count on the top 20 percent of customers to generate 80 percent of revenue. As the revenue of so few is so important, increasing the revenue of only a few users, or maybe even one or two VIPs, could sufficiently change the value of the user cohort to create a negative churn situation. Thus, your high roller or VIP management and CRM takes on increasing significance.
Growth despite churn
The concept behind negative churn highlights that you can grow your business despite churn, which is also unavoidable. It also allows you to use monetization to impact this growth, and monetization is often the easiest of the LTV variables (monetization, retention and virality) to impact, especially after a product is live.
- You can use negative churn to increase significantly revenue over time. Negative churn occurs when you increase customer spend at a higher rate than you are churning customers.
- The key to creating negative churn is to grow revenue for the existing cohort of users, and you can increase monetization by increasing consumption, adding a new revenue source or cross selling with other products.
- A key strategy to generate the growth component needed for negative churn is effective VIP management, since increasing the revenue of your top users (or even user) can generate enough additional revenue to create a negative churn environment.