Metrics and KPIs can be extremely powerful tools for any business, and they can allow you to make the best possible decisions for your company by giving you the right data and information.
This is more important than ever in the field of SaaS, where exponential growth is more rule than exception. You need every advantage you can get in order to survive and thrive.
Annual Recurring Revenue (ARR) is one of the most important SaaS metrics for you to track. This guide delves deep into what ARR is, how it works, and why it’s so important to the subscription-based world of SaaS.
What is ARR?
Annual recurring revenue is a SaaS metric that looks at the recurring revenue your business will generate over a period of 12 months. It assumes no significant growth or churn when it comes to customer numbers, and also doesn’t take into account any one-off payments or revenue.
Since SaaS companies tend to use a subscription-based model and therefore rely on recurring revenue, ARR is an accurate indicator of yearly revenue. As such, ARR can be used for growth forecasting and budgeting.
Why is ARR Important?
First and foremost, because subscription models tend to proliferate the SaaS industry, there’s no better indicator of a business's overall health and financial stability than ARR. Getting a clear picture of that crucial top line can actually be quite tricky when it comes to subscriptions, so ARR helps a lot in that regard.
Plus, ARR will not include one-time or one-off payments. This helps not just with accuracy but also ensuring that your estimates are adequately conservative. Recurring revenue is reliable, but one-offs are just that—if you were to receive that same one-time payment every year, it would be classed as a recurring revenue item in any case!
ARR also gives you a perfect baseline upon which you can experiment with different strategy models and forecasts. With it in place, you can build in variables such as different churn or retention numbers, acquisition figures and growth rates, and changes to pricing and CMGR to develop financial scenarios.
Even though a lot of analysts (and even SaaS experts) attach a lot of hyperbole to ARR, its importance cannot be denied. It gives you a realistic and reliable measure of your SaaS venture’s position and allows you to plot your way forward.
Not only that, but you can also look back at your ARR and see whether your strategies have worked by comparing it to the previous years. ARR is an excellent indicator of growth and helps you to easily visualize your company’s trajectory.
How to Calculate ARR
Calculating ARR is simple. Here are a few ways to calculate ARR:
- ARR is the number of paying customers your business has multiplied by the average recurring revenue per customer for a year.
- With access to detailed financial data, you could also calculate ARR by summing up your subscription revenue for the year, adding recurring revenue from add-ons and upgrades, and subtracting revenue lost through cancellations and downgrades.
- Another way to calculate ARR is by simply annualizing your monthly recurring revenue (MRR). This will give you the most up-to-date ARR possible for forecasting purposes. Simply add the amount you gain from existing monthly subscriptions, the revenue from add-ons and upgrades, and the amount from new customers, then subtract revenue lost from downgrades as well as churn. This gives you your true MRR, which you can multiply by 12 to get your ARR.
It’s important to note that revenue from product upgrades and add-ons are taken into account here, along with revenue lost from downgrades. Lost revenue from churn is also accounted for, but these are two very different metrics since they represent problems you can tackle in different ways.
One-offs or non-recurring items such as one-time charges or product purchases, however, are not factored in. Your business is subscription-based, so ARR focuses on recurring items.
How to Use ARR in Your Business
Tracking ARR and calculating it properly is only the first step. There’s no use knowing how valuable a SaaS metric ARR is without putting it to use, so let’s look at some practical applications.
Tip💡 Read more about SaaS metrics here
Model SaaS Revenue
The main use of ARR in your subscription-based SaaS business is in financial management. You can ARR in forecasts, budgeting, and cash flow planning. It provides the best possible overview of your financial situation and allows you to set realistic growth targets for your business.
This is also useful when it comes to deploying different strategies such as pricing, including tiers and add-ons. You can experiment safely with these elements, and monitoring your ARR will allow immediate feedback on whether your strategies are working. If you’re already on Whop, you can do all of this in just a few clicks via your Whop business dashboard!
Analyze Product-Market Fit
Growing ARR is an excellent sign that your services or products resonate with the market. Plus, if you compare your ARR data with customer feedback, you’ll have plenty of qualitative insights to gather. Good customer segmentation and comparison of ARR with different customer types can further help you identify what’s working, and apply those lessons to other areas too.
Review Marketing Campaigns
ARR can give you fantastic insights into the performance of your campaigns by comparing the ARR generated from acquiring customers to the cost of the different campaigns. This way you can analyze which campaigns were the most effective. Remember that you can also keep an eye on customer quality in this manner, and allocate more resources to marketing channels that give you customers with a higher lifetime value to your business.
Flag Customer Churn
ARR is also an excellent SaaS metric for the area of churn and retention, since any meaningful dip in ARR may be a sign of churn. You can then dive deeper into the SaaS metrics surrounding churn and retention, investigate any potential issues, and figure out how to manage whatever problems you find. Remember that customer support is one of the best ways to nip problems in the bud, and Whop can help you with that thanks to our 97% rated, 24/7 customer service team!
How to Improve ARR
Improving your ARR is absolutely essential for the long-term success of your business, since ARR is a direct representation of your venture’s financial success and profitability via a 12-month look at subscription revenue. While it’s worth noting that there are plenty of ways to improve ARR, here are some highlights:
- Annual billing: Offering your customers the opportunity to purchase yearly subscriptions, even at a discount rate, can boost your ARR as the majority of cancellations come within the first few months. This way, you’re ensuring a full year of revenue even if the customer churns.
- Upselling and Cross-selling: These are great ways to improve your ARR by increasing the revenue per existing customer. You can do so by showcasing the added value they’ll get if they upgrade.
- Reducing churn: By bringing your churn rate down and increasing customer retention, you can ensure that your revenue stays up. When you see churn starting to increase, it’s imperative that you investigate and address the root cause effectively.
- Supporting customers: Empower your customer service and support teams to ensure customers are able to understand and use the product to its fullest and are taken care of when they run into problems.
- Acquiring customers: Through effective marketing campaigns, lead generation, and sales tactics, you can bring more customers into the fold and boost your revenue.
- Referral and affiliate programs: Referral and affiliate programs are a great way to boost customer acquisition.
- Segmenting customers: You can tailor marketing and sales efforts to optimize how you attract different types of customers, and then you can nurture your high-value customers so that they contribute more to your ARR.
There are several alternative SaaS metrics to ARR that you can use. Each has its own value proposition in terms of what you can learn from them and how you can apply them to your business. Here are a few of them.
Monthly Recurring Revenue is the basis for calculating ARR, so it’s just as valuable of a metric. However, the best way to use it is with respect to shorter-term trends, using ARR more for strategic matters, budgeting, and forecasting. MRR can give you an excellent view of revenue changes across a few months, meaning that you can track subscription changes accurately and identify issues fast.
Annual contract value looks at the average annual revenue your SaaS business generates per customer contract or deal. It’s a good way to look at the size and value of individual deals, develop sales strategies, and segment customers, but ARR needs to remain your financial forecasting tool of choice.
Customer annual recurring revenue measures your firm’s total annual revenue from individual customers, allowing you to assess the value of each customer. This is an invaluable tool when it comes to identifying high-value customers.
Optimize Your ARR With Whop!
Now that you know the value of ARR and what it can do for your business, there’s no better way to boost your numbers than listing your SaaS business on Whop! Keep an eye on real-time financial and subscription data with your Whop business dashboard and rest assured that your customers are taken care of by Whop’s 24/7 customer support team.
👉 Get in touch with the team at Whop today or visit Whop.com to list your business in 10 minutes or less!