Most marketing and advertising tech trends focus on acquisition. That’s a mistake. Every inbound marketing tactic or growth hack concentrates on bringing in more customers without any mention of how long those same people will stick around.
Here’s why focusing on lifetime value isn’t just prudent, it might be the only way to save your startup from running out of money.
How SaaS Companies Get Into Trouble With Negative Cash Flow
Software used to be sold as an annual or lifetime license. As the first recognized Software-as-a-Service (SaaS) company, Salesforce changed all that, breaking down a huge lump sum into easily-digestible monthly payments.
This subtle shift made acquisition easier because the perceived risk and money required by customers was only a fraction of what it used to be. It also meant that if start-ups held on to users long enough, they could be even more profitable than before.
But that’s also where things get a little tricky.
All of those small, monthly installments need to eventually add up to the initial cost of acquisition for a start-up to make money. However, in a SaaS company, that might take anywhere from six to 12 months.
Think about that.
Let’s say you spend $100 today to acquire one customer, you charge $10 a month, so it’ll take 10 months to break even. You’re going to need at least a few extra months after that to actually cover your overhead, product costs, taxes and make a profit. So you’re not really making any money in the first year. In fact, you’re barely covering the costs of doing business. (Not to mention that money today is worth money in the future. But we’ll leave that for another discussion on the time value of money.)
But there’s more. Taking a full year to make your money back is one thing. However, there’s still the other side of the coin to deal with.
Related Article: Why Are Companies Investing in Customer Retention?
Negative Cash Flow Means You Need to Be Flush With Cash
If you’re investing $100 to acquire a new customer today, and you won’t see that $100 until roughly 10 months from now, it means you need cash – lots and lots of cash. Because to scale your company, it might mean you need thousands of new customers each month. Based on your negative cash flow position, you’ll need to front tons of cash to hit those numbers.
That’s why the fastest-growing SaaS companies often raise the most money. They need it.
Growing fast actually makes this problem worse, causing you to front more money with the hopes that one day, in the future, you might get it back.
And that’s just the problem we’re talking about here. Focusing too much on the acquisition, without figuring out retention (or how to keep them around long enough) means you could be spending yourself into bankruptcy.
Here’s how to avoid that.
Related Article: The Dirty Secret of the SaaS World: Customer Churn
Why Maximizing Retention Is Your Only Solution
User retention shouldn’t be a tactic or growth hack. Instead, it should permeate your entire start-up. That’s because your start-up literally won’t exist in a few months without it. David Skok, of ForEntreprenuers.com, highlights this with some cold, hard math: “If you can halve your churn rate, it will double your loan-to-value (LTV).”
In other words, there’s no greater predictor of success (or failure) than churn.
You might be able to use a few new tactics or hacks to squeeze in extra conversions. However, if they’re a bad fit and leave within a month or two from signing up, you’re not just losing a potential customer but also going upside down on profitability.
Churn is an indirect measurement of product happiness. You can look at product usage (or lack of it) as the indicator of a customer about to churn. Retention, then, is focused on increasing product usage to make sure people who are coming in are finding value in your offering. And based on the math highlighted above, it’s also the primary driver for profitability in your company.
That’s why retention should get your attention and focus. It might not be as fun or popular as acquisition-based tactics. But it’s a much better predictor of success.
Related Article: Keys to Building Customer Lifetime Value
How Long Can You Tread Water?
Start-up marketing is like a leaky bucket. You can pour more stuff in to fill the bucket up. However, if it’s leaky or there are holes, it almost doesn’t matter how much money you pump into it.
The problem is SaaS start-ups also struggle with negative cash flow. That means they won’t just stagnate when churn is high, they’ll be actively putting themselves out of business by spending money faster than they can make it.
Ramping up customer acquisition is absolutely critical. But only when you know that you’ll be able to hang on to them long enough to not just make your money back, but make a little profit too.
Neil is the co-founder of Neil Patel Digital. The Wall Street Journal calls him a top influencer on the web, Forbes says he is one of the top 10 marketers, and Entrepreneur Magazine says he created one of the 100 most brilliant companies.
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