Annual Recurring Revenue (ARR) is the total annualized value of a subscription. It measures the amount of predictable and recurring revenue a company can expect over the course of a year. ARR is one of the most popular revenue metrics for SaaS businesses, as it represents the likely revenue current customers will produce over the next year.
What's ARR?
Annual Recurring Revenue (ARR) is the total amount of predictable, recurring revenue a business expects to receive in a year from active subscription contracts.
ARR focuses only on revenue that:
- Is recurring by nature
- Is contractually committed
- Can be normalized to a one year period
ARR Formula
Let’s take a look at a list of products that were purchased from a customer and calculate ARR:
ARR is only the sum of subscription products, so we only want the total amount from the Annual Platform Fee and User seats. Note that we ignore the Starter Implementation product, as it is one-time revenue.
Other ways to calculate ARR
Let’s look at a few examples on how to calculate ARR in different cases.
1. ARR from MRR
You can calculate your ARR by multiplying your MRR x 12 to get recurring revenue.
This method works well when subscriptions are monthly or annual, pricing is stable, and usage-based or variable fees are excluded.
2. ARR for a yearly contract
For a one year contract with no expansion or contraction, ARR would equal the revenue from that customer for the year. If we have a customer that bought a subscription for $9,600 ARR in January, we can represent their ARR in the following way:
In each month, we expect $800 of revenue ($9,600/12 months = $800 per month). However, the expectation is that the ARR (or the expected Annually Recurring Revenue for the next year) is $9,600 for each month.
3. ARR with expansion and contraction
If there is expansion or contraction, ARR reflects the revenue that would be received if the most recent version of the contract continues for another year. In this example you can see an ARR downsell in March and an ARR upsell in July
Note that wether the MRR goes up or down, ARR is the forward-looking expectation of revenue for the next 12 months, and always reflects the most recent contract. In this case we'll use our update formula to calculate the new ARR which will remain static until another upsell or downsell comes around.
How much ARR should I have?
ARR benchmarks vary a lot by industry and company age, but there are some general targets for ARR and growth rates to consider.
1. Based on Growth Stage
This is a good benchmark to start with since you can quickly get an idea in which part of the cycle your SaaS business currently sits at.
2. Based on Founding Rounds
The table below details some benchmarks for ARR, YoY (Year over Year) Growth, and CMGR (Compound Monthly Growth Rate). All of these metrics combine to indicate what a healthy growth in ARR looks like for most SaaS businesses.
Grid helps founders, investors, and operators like you get the most out of their data. Use Grid to discover what segments, products, and industries drive your sales growth and see where you're winning customers.
ARR vs Anualized Revenue, Recurring Revenue, & Total Revenue
These metrics are often confused so it's important to make sure the concept is clear.
