Ted Grossman: Recently, Tim, you wrote a nice article online, it’s on our website at the Alexander Group regarding renewables, and you went into a fair amount of depth that it’s a more complex sort of topic than a lot of people give it. Maybe at first blush. So maybe just to start out, I one I want to thank you for writing it. It was great having you share it with us and I want to ask to put it on the website. But what inspired you, first of all, to start looking into renewables so deeply and then in turn, actually even write blog that you put out?
Tim Willey: Sure. Yeah. So thanks for inviting me along today, TED churn and renewables is definitely a topic that’s very close to my heart. You can definitely sense. I’d like to get into a lot of the details and kind of the genesis of this was really when I joined Ford Rock. We were looking really at this transition to more of a customer success, RR driven model. And we recognize pretty quickly that in a recurring revenue annual recurring revenue world, there’s really only two ways that you can grow as a company. You can either grow your incremental net new IRR or you can reduce your churn, and those are really the only the two levers that you’ve got. So as you’re looking at kind of fast companies and subscription companies and looking at this kind of IRR measure and growth in IRR is really the number one kind of valuation metric, if you like that, that drives whether or not somebody is being successful. Churn becomes an increasingly important part of that. And what’s interesting about churn is there’s lots of different ways of kind of defining churn, measuring churn, managing churn, predicting churn. So we put a lot of effort in forward to really understanding the right way to think about churn, because that’s one of the surprising things about IRR and churn. There isn’t sort of a generally accepted accounting principle yet defined that articulates how to look at churn and how to define that consistently. If you go out there and speak to five different people, you might get five different answers in terms of how to calculate it. So we’ve put in place a process to try and understand what is the right way to measure it. And the article is really a summary of some of those key observations.
Ted Grossman: Yeah. So I mean, look, at first blush, you know, somebody is paying you $100,000 a year, and next year they pay you $90,000 a year, you turn $10,000 seems pretty simple to me. That’s right. What am I? What am I missing?
Tim Willey: Yeah, no great question, and you’re right at face value, it’s a really simple concept, I like to use the analogy of a bucket, a kind of a leaking bucket, if you like, has a hole in the bottom, you’re filling water in the top and you’re losing water out of the bottom. And what you’re trying to do is to stop as much water flowing out at the bottom and fill in as much in the top and that that grows to the overall size of your business. So in basic terms, it’s really pretty straightforward. The challenge becomes when you start to jump into the details around some of what might be called corner cases, so I can give a couple of examples of those. You know, one of my favorite is this idea of like multi-year contracts. So you have this book of recurring revenue. Let’s say you have $100,000 that’s coming in from last year. And let’s say a customer has already signed up to a two or three-year contract. When you’re looking at churn, you could include that as part of your renewal, your base of business that you’re looking at in the second year and say, OK, whatever churn we have as a percentage of this number, that includes that, that multi-year revenue or you could ignore that and say, we’re just going to focus on what’s available to renew.
So if, let’s say, of the $100,000 renewal, let’s say $50,000 of that, the customer’s already contract contractually committed to the reality is next year you’ve only got $50,000 that’s really available to renew because the other $50,000 customers we’re committed to. So if you take an arbitrary churn number, let’s say $5000 of churn, you know, $5000 of churn against the $100000 that includes that multi-year component is 5%. Sounds pretty good, but $5000 of the $50,000 that’s only available to you is 10%. So a pretty big difference in churn rates. And what we try and look at is really focus on that available to renew. No, it’s useful to communicate and track both, but to really understand the underlying business performance, it’s helpful and healthy to focus on that available to a new piece because that’s the piece that’s that’s truly questionable if you like or up for renewal.
Ted Grossman: So, Tim, it’s interesting this concept of available to renew, I think what you’re saying is there are things that are often called a renewal, which really aren’t a renewal. Is that is that fair?
Tim Willey: That, yeah, I think I think that’s part of it and that there’s there’s there’s also different ways of thinking about churn, which is the sort of the flip side of renewal so you can talk about churn at a customer level. So if we lose the customer kind of logo churn, which is a useful indicator, you can talk about churn at a product level. You know, did they stop buying a particular product? Did they reduce their entitlement in one particular product line? What we try to focus on is is is thinking about churn at an overall account level. So from an air perspective, if we grow that account year over year, so if if the customers maybe changing the mix of what they’ve purchased or maybe even they’re buying through a different channel provider or channel partner, as long as we’re keeping that customer through that relationship, maybe they’re stopping buying product, but they’re starting to buy Product B. We try to focus churn at account level because really what we want to do is to we want to focus our sales teams on growing the IRR and account level. So just by talking about churn, let’s say at a product level, you start, you start to miss that visibility of the true churn, which is really an account level for us.
Ted Grossman: Right. So, you know, it’s interesting, cause you’re now bringing in the account rep, the people who are responsible for growing these accounts. And I imagine you and I have chatted about this, that you know, where this really affects things is when you start talking about compensation. Some companies don’t like to pay their account reps for getting into renewals. Some people do, or there’s different ways of doing it. You know, how are you? How are you seeing this conversation impact? You know, the compensation plans and you know, how should people who are listening to this think about that?
Tim Willey: Yeah, great question. And, you know, we’ve talked a lot about compensation in the past and it’s a big driver of behavior and you need to make sure that your incentives are aligned to the outcomes and the behaviors to drive those outcomes that that you want to set up. So when we think about churn, you’re right from an account level perspective, we want to pay our field sales teams to grow that account. You know, they get paid typically a much higher commission rate, and that needs to be associated from a cost of sales perspective and making sure we’re efficient. That should be targeted towards growing those accounts. So you have lots of situations, not lots of situations that you have often have situations whereby a customer may be maybe stopping one project in one part of their business, but starting another project somewhere else. And so from a churn perspective, you don’t want to compensate the field sales team just to bring you back up to to the same level, at least not at the same amount as you want to pay on the incremental new because you want to incentivize the sales teams to really get that incremental net new net new IRR. The challenge of that is, of course, then it introduces what can introduce sometimes a bit of conflict in the system. Because if I’m a field account rep and I know that there’s a big churn on a particular account, I know that in order to get back up to that at that level, I have to go sell a whole lot more before I start getting paid at my full rate.
So there are some things you can do. You can put in place some swift programs. You can try and understand more like in advance where this might be an issue and kind of deal with it on a case by case basis. But I think general will best practice for me is to keep the incentives around the field sales teams on incremental new air. That’s what we care about. Back to the first conversation. Yeah, why this is important. You’ve got to grow ending error. Only two levers net incremental IRR and reducing churn. So by keeping the focus on that net incremental IRR, you introduce like more of a healthy, healthy approach that I think you can start to deal with on a sort of an exceptions basis. If there are instances where you still want a rep to come in and effectively resell to avoid that churn, and you can put some compensation around that, but that tends to be more of a one off approach as opposed to like paying everyone on that at the full rate.
Ted Grossman: Yeah, so that’s the idea. But then you have these other roles that usually are responsible for the renewal. That could be a renewal that could be a customer success. There are different. We often see who has that in there. Yes. What’s the impact of thinking about different available to renew?
Tim Willey: Yes. Yeah. Another great question, so as we think about available to renew and churn, there’s probably a couple of different groups that I think are most impact, obviously first of all, the renewals team, but we should also then talk about sales management because I have quite a strong theory as to kind of how we need to make it make it fair for for the sales managers as well. But on the renewal side, what we try and do is try and get a good forward visibility of where we are seeing churn risk. So based on this churn definition will come up with what we think is our churn risk for the year. And then we’ll have our churn goal for the year. And so what we try and do is we take that churn goal and we allocate it based on churn risk. So there may be some customers who are coming up for renewal next year, who they’ve already told us that they don’t want to, but they want to churn. They don’t want to stay with us. We’re going to try and work hard to persuade them otherwise. But the churn risk is pretty high. There may be some other customers where maybe there’s a bit of a risk of a reduction, or maybe there’s customers we know are very happy.
So rather than peanut butter spreading the churn gold across all of those accounts, we try and give it up based on where we think the risk is, and then we build the quotas based on that churn allowance. So we actually take a churn. We take what’s available to renew. So, ignoring all the multi-year stuff, security, what’s available to you, because that’s what you’ll see in the focused on closing and then taking off a churn allowance against that. That’s based on that risk assessment. And we found that to be a really useful way of getting the right balance between focusing on renewal and focusing on churn, rather than just giving the renewal team just a churn number. There’s so much work that, as you know, has to go into process renewals to negotiate contracts, to work with procurement, you have to keep the balance right where you want them to be focused on on a bigger renewal number at the same time, have a component of whether it’s a bonus or some kind of other lever that’s around a manager level.
Ted Grossman: Yeah. So I mean, to summarize, I think there are two things I really heard out of that. One is don’t just peanut butter, the renewal across a bunch of different reps, different territories will have different possibilities. So that’s just good old fashioned quota allocation and doing it with what’s that potential? The other thing is to exclude things that might not be available for a new from the equation. So you’re dealing with a real renewal through the company versus something that might show up. If you just look a SKU level might not look like something that could renew, but it’s actually not like somebody moving into a new contract or a new product or something of that nature. That’s right.
Tim Willey: That’s right. Yeah, that’s right. You want to get that aligned. And then from a manager’s perspective, do you think about the sales managers? What we’re looking at is trying to trying to get the right balance because if you’re a sales manager, other companies, you might have a component of your compensation on renewal as a sales manager looking after field reps. You’d have to think about the way or you might have a component that’s related to renewal. What I’m keen to explore is also introducing more of a focus on churn. Because churn is a smaller number, so it’s a smaller dollar amount will have a bigger impact on churn. And what you want to try and balance for is to try and equalize effectively the opportunity for the sales manager. What you really want is them focused on like net or ending RR, because then it’s neutral that you won’t get into so many discussions or debates about. Is this new IRR or is this renewal? Because ultimately it’s all going to be worth the same amount because what you care about is growing ending. So that’s some of the things that we’re thinking about is how can we kind of organize ourselves so that we’re all focused on this same goal which is growing our kind of IRR no quarter over quarter and year over year?
Ted Grossman: You know, it’s interesting to Tim, as you know, a study that we’re currently getting ready to release right now. We do studies every year on X as a service business, as a core metric that everybody is looking at is net recurring revenue, which basically looks at the net of what you sold into an account last year and what you’re selling into it this year. And seeing how that goes. And there’s what’s been what’s been interesting is the numbers as more and more companies are becoming as a service and going to land and expand, those numbers have been going up every year. So without giving away too much, you know, it’s in, it’s over 100 percent, which is good. That means you’re growing. Yes, but it’s both looking at the focus of new and net new, plus the different types of churn. I know we’re almost out of time here, Tim. You know, I guess the you know, you’ve done a lot thinking about this. You’ve talked to us, you’ve talked to others in the industry. You put together this paper. You know what if you had one takeaway from this that you could offer the group listening here, what would that be?
Tim Willey: Yeah, good question. I think I would probably say perseverance helps. When you’re thinking about churn, there’s always the next corner case to come across, and that’s why the white paper is really just the starting point for it. But I think for me, it’s been the realization that literally you only got these two levers that you can play on to grow the business and actually anything you lose in churn, you have to make up for incremental new IRR. So they’re equivalent in terms of dollar value. And actually, the churn is probably cheaper for you to retain and it is to go find that extra value in new RR. So actually, in many ways, you know, churn is. Sometimes a bit of an afterthought, we think about neuro, then we think about renewals, and then we try and calculate churn. But I think you said it right when I’m looking at the performance of a team performance of a company, it’s really net retention, which has churn as a core component that’s just truly the most important health indicator of a business. So the benefit is really once you’ve got your arms around that, you can use it to start to predict where you think your risk is going to come. And then you can start to put your you can put your resources against the drivers of churn because the objective is not just to understand and measure how we’re doing from a term perspective. The objective is to get in front of it and understand what are the drivers of that churn so that we can position our resources three, six, nine, 12 months as early as possible in cycle to try and reduce it. And that’s really where we are as a company right now.
Ted Grossman: Yeah. Well, I feel like we just scratch the surface, but I think this was an important topic. Again, I want to thank you again for writing the article. I encourage anybody listening to this to go read it. And then, you know, if you have any comments or questions, you can respond back on our website or and then we’ll make sure, if possible, we can either respond or get it to Tim. But we’re looking for a community of people who are interested in this topic. And I, again, I want to thank you so much for your time today and look forward to working with you on these things in the future.
Tim Willey: Yeah, no, I appreciate it. Maybe I’ll just finish this one last thought, which is, I think we’re going to have to come up with a definition of this. Industry wise, I kind of joke, tell it, we don’t have we don’t have a gap principle for the churn because RR and net retention really are the health indicators of the SAS business. I think we’re going to have to come up with a way of describing this and defining this at an industry level. So in any and all feedback is welcome. Always looking to improve.
Ted Grossman: Sounds great. Well, thanks again for your time and we’ll talk soon.
