Be Upfront About Customer Churn

Churn rate, the percentage of customers who stop doing business with a company over a specific period, such as a month, quarter, or year, is an important factor in an M&A. A low churn rate is attractive to prospective buyers because it indicates that the selling company is stable, healthy, and holding on to its customers. It's a factor that tends to increase the company's valuation. Conversely, a high churn rate is often a major red flag for buyers because it can indicate underlying problems with the selling company and can significantly lower the company's valuation. 

In any case, being upfront about customer churn with a buyer during an M&A is very important. It builds trust with the buyer, something that is a key element in securing a fair and transparent deal. Attempting to conceal or downplay your company's churn rate can be damaging because buyers will likely uncover it during due diligence. Not only can this lower your company's valuation, but it can kill the deal. Even if the deal completes, misrepresenting the churn rate can expose you to legal liabilities: That's because an M&A purchase agreement includes representations and warranties, where you as the seller guarantee that certain facts about your business are true. If you conceal or downplay the churn rate of your company it can be considered a breach of the contract and lead to lawsuits for fraud and damages. At the least, it could seriously damage your reputation.

Being upfront about your company's churn rate also gives you the opportunity to explain why the churn is happening and provide a fuller context that enables the buyer to see it in a more positive light. This was the case in a recent M&A transaction involving a Corum client. The client's churn rate was fairly high, due in large part to losing some of their bigger customers over the previous year. At the same time the company was growing fast ‒ they were gaining many new customers. The client, with Corum's assistance, was upfront with prospective buyers about the company's churn rate as well as the company's growth rate. They also specified for each customer that was lost during the previous year, why that customer was lost and what the client did to fix the issue so it wouldn’t happen again. In some cases they were able to show that the loss of the customer was only temporary, that the customer left because of a contracting freeze and returned shortly after the freeze was over.

The lesson here is that a churn rate can be misleading, so it's important for you as a seller to ensure that the buyer understands the bigger picture. For example, simply looking at gross churn ‒ the revenue lost from customers who are no longer doing business with your company over a specific period ‒ is less informative than examining net churn, which accounts for  both lost revenue due to cancellations and downgrades as well as revenue gained from upsells or expansions of existing customers. 

Also, there may be very different churn rates in the different segments of your customers. For instance, a very high rate in one segment of customers can disproportionately inflate the overall churn rate. So being able to present a detailed picture to buyers of what's going on regarding churn in these different customer groups is important in giving the buyer reassurance regarding the overall health of your business.

So be upfront with your churn rate and provide the details behind it, including what you did or will do to fix any issues underlying the churn. Giving the buyer a fuller picture helps build trust and helps you avoid potentially costly surprises.