What is Annual Recurring Revenue (ARR)?
Annual recurring revenue is a metric used for Software as a Service (SaaS) companies to normalize revenue on an annual basis.
Why is annual recurring revenue important?
Annual recurring revenue reflects the companies growth and
If a companies revenue is flat month to month, their revenue at the end of the year will be the same as their ARR.
For most companies though, especially early stage startups, the goal is to improve monthly recurring revenue (MRR) each month, often by a significant percentage, making ARR a better forward looking metric.
If a company starts the year with $100k in January MRR and adds $10k of recurring revenue each month, they'll end the year at $1,860,000 in revenue. Because their December MRR will be $210,000, their end of year ARR is $2,520,000, 35% higher than revenue.
Because ARR is such a helpful metric, it's often used to generate valuation for fundraising or an exit. A SaaS business' multiple may be 10x, while a CPG business' might be 1-3x.
What should I know when a company talks about ARR?
While both monthly and annual subscriptions can be used to calculate ARR, annual subscriptions/contracts create more predictable revenue. When a company talks about their ARR growth/forecast, ask about their:
- contract structure (monthly, annual, project based)
- revenue churn: dollars lost
- gross churn: % of revenue lost
- logo churn: customers lost
- customer life time value