What is New Customer Growth Rate and How to Use It
Posted on October 09, 2019 by Dave Fowler
This article was originally posted on Chartio Blog
Growth is a natural KPI for any business. Naturally, understanding the speed at which your customers grow can be a great way to understand overall business (and revenue) success.
But, like any metric, growth can be difficult to measure. The growth rate is complex and comes with a number of nuances that need to be applied correctly in order to lead to true insights. Without being careful, you might mistake linear for exponential growth or draw the wrong conclusions.
In this article, we'll define a new customer growth rate as a core metric for business growth, including an in-depth discussion on how to calculate and visualize it and some common pitfalls to avoid.
What Is New Customer Growth Rate?
The new customer growth rate is the speed at which you gain new customers over a defined period of time (usually months). It's closely related, but not identical, to revenue growth rate, which looks at the dollar figure behind these business gains.
Calculated correctly, a new customer growth rate helps you understand your overall success in attracting new customers while filling an unmet market need. It reflects the rate of demand for your product while allowing you to better allocate resources for future initiatives. Insights gained from this KPI also allow you to understand the nature of the demand for your product, including nuances like seasonal demand shifts.
How to Calculate New Customer Growth Rate
The most basic way to measure the rate at which your customer base grows is to calculate this KPI every month. In that case, the formula is simple:
(total customers this month - total customers last month) / total customers last month
Taking this approach requires a new calculation every month with only these data points required. However, it does not account for the SaaS churn or the rate at which existing customers leave your company. If you truly want to measure the rate at which new customers join your recurring revenue flow, inserting churn allows you to remove any variation from your existing customers from the equation. A more specific formula that includes churn looks like this:
((total customers this month - total customers last month) / total customers last month) - churn rate in decimals
Plug in some numbers, and this formula becomes a little easier to understand. Say, for instance, you have 100 customers this month compared to 80 last month. On average, every month, 10% of your customers leave. The above formula now looks like this:
(100 customers this month - 80 customers last month) / 80 customers last month = 0.25 or 25% customer growth rate without considering churn.
0.25 growth rate without churn - 0.10 average churn rate = 0.15 or 15% new customer growth rate with churn rate included.
Finally, you can calculate growth on a compound level over a period that includes more than a single month. This gives you a better idea of larger growth trends, but loses some of the nuances of month-over-month growth:
(((total customers this month - total customers first month) / total customers first month) ^ (1/total number of months considered)) - 1
Say, for instance, that you are looking at a period of five months and have 240 customers this month, compared to 80 customers five months ago. The customer compound growth rate formula now looks like this:
(((240 - 80) / 80) ^ (1/5)) - 1 = .1487 = 14.8% customer compound growth rate.
Best Practices for Using New Customer Growth Rate
A few best practices help you better understand how to leverage new customer growth rate for true success:
- The above formula is optimized for SaaS recurring revenue models. If you rely on one-time revenue from new customers, use the simple non-churn formula above and substitute new customers for total customers.
- Compound growth rate helps you discover larger trends in your rate, but should not replace your month-over-month calculations. Use both together to get both the big picture and monthly variations.
- Pay attention to total customer numbers, as well. Naturally, a company with fewer total customers will more easily achieve higher growth rates; 20% growth means only 20 new customers when the origin point was 100, but 200 new customers if that same origin point was 2,000.
- Use churn with caution. Even though your churn rate may be 10% on average, it could be higher some months and lower in others. For completely accurate measurements, you need to use not an average, but the churn rate for the specific period you're analyzing.
How to Visualize New Customer Growth Rate
As with other KPIs, visualization can be a core tool in helping you better understand and analyze your growth rate of new customers. The most straightforward way to accomplish that is through a simple line graph, with new customers on the y-axis and each month on the x-axis.
This graph allows you to plot your total number of new customers each month, which helps you roughly view the average growth rate even without using the formula above. Within the same chart, you can layer in lines for total customer growth, existing customer churn, and more.
For a simple overview, a single value chart helps you see exactly what metrics you need to in terms of both average and current month growth rate. It's typically best when combined with the line graph mentioned above that works better towards the average.
3 Common Misuses of this Metric
While growth rate on its own is relatively easy to understand, there are still a number of pitfalls that could prevent you from actually gaining actionable insights into this KPI. That's especially true if you want to isolate new customers as your performance indicator, and if you want to draw specific conclusions from this metric. Consider these 3 common misuses of new customer growth rate:
- Focusing only on averages. The average growth rate over the last 12 months, for instance, may be extremely misleading. You might have experienced explosive growth during the first three months, with a significant slow-down following the remainder of the time period. Compound growth rate offers a great big-picture view, but should never be used in isolation.
- Confusing rates with absolute growth numbers. As mentioned above, small absolute numbers of new customers make high growth rates easier to accomplish, but without necessarily showing a positive overall impact. Your rate naturally slows down as your total number of customers grows: 20 new customers added to 100 is a 20% growth rate, but 20 new customers the next month will only result in a 16.6% growth rate. Yet, both result in the same number of new customers (and revenue) per month.
- Ignoring seasonal or periodic variations. Looking at larger time period may lead you to see growth rate as relatively linear. That ignores seasonal trends, where some months are naturally more successful than others, or other similar periodic variations. Plotting every month in addition to seeing your average can help to avoid that trap.
Variations of New Customer Growth Rate
In some cases, varying the criteria you are analyzing can help you gain a better picture of the data you are trying to gather. If, for instance, you want to understand demand patterns more closely, changing the time periods measured from months to weeks may cause you to find variations in beginning-of-month to end-of-month demand. On the other side of the equation, varying the time period to consider quarters instead of months helps you gain a broader view of your company's overall health.
It's also variable to compare growth rates of new customers with your revenue growth and determine potential patterns or variations within that comparison. New customer growth that does not result in equal revenue growth may cause you to find growth opportunities or potential problem areas that need addressing. Similarly, secondary metrics like average order amount (or revenue per new customer) can allow you to draw similar conclusions.
Proxy Metrics of This KPI
Measuring the rate at which your firm gains new customers is important to understand overall business growth, but it's not the only metric that can help you accomplish that feat. We already mentioned revenue growth rates above, which allows you to gain a closer insight into the monetary inflow that new (and existing) customers bring with them.
Another important consideration is an alternative that can be explored should you not have access to your total customer numbers or churn rate. In that case, simply counting new customers gained (a metric every SaaS and eCommerce merchant tends to track) and plugging in only those numbers allows you to get to the same conclusions. Again, plotting total numbers into a line graph helps you visualize the growth rate even if you don't have an exact calculation to fall back on.
Tools for Measuring New Customer Growth Rate
Growth rate calculations tend to be simple and can be done with a calculator or excel spreadsheet. Investopedia offers a compound growth rate calculator that only requires the number of customers at the beginning and end of the calculated period as well as the time frame of the period itself. It uses the same simple formula we outlined below in the background.
The more complex process lies in visualizing new customer growth rate, especially if you don't want to or have the time to manually plot each data point on your line graph. That's where a tool like Chartio, which builds interactive charts based on background calculations, can become helpful. It uses the data points you set to build the chart, allowing you to manipulate anything from time periods calculated to some of the secondary metrics like churn rate.
Learn More About New Customer Growth Rate
If you know how to measure the rate at which you gain new customers, you can draw conclusions that range from market demand to the effectiveness of your marketing and sales efforts. Reach out to discuss the importance of this KPI, and how we can help you track of it in a way that helps you make more informed business decisions.