Two of the most important data points for any SaaS business are ARR (annual recurring revenue) and MRR (monthly recurring revenue). These key metrics can tell you several things about how your business is performing.
ARR and MRR are two sides of the same coin. Knowing when to use ARR or MRR is a crucial skill in analyzing your SaaS company’s growth. Your MRR figure paints a picture of your short-term performance, while the ARR calculation is helpful for understanding the bigger picture.
If your subscribers are more likely to sign on for longer contracts, use ARR to assess your total revenue and predict future growth. Early-stage startups or ones with a majority of monthly subscribers will benefit more from an MRR calculation to predict future revenue.
Both MRR and ARR are important metrics for analyzing any subscription business, evaluating SaaS churn rate and renewals, and determining if any changes are needed to promote customer success. They can help you understand your SaaS company’s valuation and set KPIs for growth.
Understanding Key Metrics for ARR Growth
When it comes to measuring your ARR growth, you’ll be looking at a few key SaaS metrics. You want to set benchmarks for each metric and regularly analyze them for any problem areas. Those include:
- Churn rate
- Customer acquisition cost (CAC)
- Customer lifetime value (LTV)
- Gross margin
These data points are critical to understanding and maximizing your growth potential. Let’s take a look at each of these and discuss their impact on ARR.
| Churn rate | Churn rates directly impact ARR and MRR. When customers cancel their subscriptions, you lose valuable recurring revenue. |
| Customer acquisition cost | The cost to acquire customers has to come from somewhere. If you’re spending too much to onboard new customers, your ARR will ultimately take a hit. |
| Customer lifetime value | LTV tells you about your customer’s dedication and satisfaction to your product. That ultimately impacts your business’s ARR and MRR positively as long as their LTV stays up. |
| Gross margin | Gross margin tells you virtually everything you need to know about your overall profitability. As your gross margin increases, so does your growth opportunity, driving increases in ARR and MRR. |
| Bookings | Bookings look at the overall value of your customer commitments, including those of prospective customers. This can help determine potential ARR growth. |
How to Calculate ARR and MRR Growth Rate
Increasing your subscription revenue won’t happen overnight, but the formulas for calculating ARR and MRR growth rates are pretty simple. With a couple of metrics, you can figure out where you stand so you can promote revenue growth.
Calculating ARR Growth Rate
Finding your ARR growth rate is as simple as plugging a few figures into a formula. Here is the formula for calculating your ARR growth rate:
ARR Growth Rate = (This Year's ARR - Last Year's ARR) / (Last Year's ARR)Let’s look at a practical example. Assume that this year’s ARR is $5 million and last year’s is $3.75 million.
ARR Growth Rate = ($5m - $3.75m) / ($3.75m)
Your ARR growth rate is 33.33%.
Calculating MRR Growth Rate
The process for figuring out your MRR growth rate is similar. You’ll want to use this formula:
MRR Growth Rate = ((This Month's MRR - Last Month's MRR) / Last Month's MRR) X 100
If your MRR from this month is $120,000 and last month it was $100,000, you can calculate your MRR growth rate as follows:
MRR Growth Rate = (($120,000 - $100,000) / $100,000) X 100
Your MRR growth rate is 20%.
Ideally, your ARR growth rate should be between 20% and 50%, and your MRR growth rate between 10% and 20%. If you’ve calculated yours and it is outside those parameters, you should start looking at strategies for improvement.
Best Strategies to Accelerate ARR Growth
ARR growth relies on well-researched strategies with proven results. In this section, we’re going to talk about a few of those strategies and how to implement them. Don’t try to take on all of these at once; rather, decide on one or two that you think will have the biggest impact based on your needs and start there.
1. Expand Your Reach
It might seem obvious, but you’ll increase your ARR if you onboard new customers. While you hopefully have a good product-market fit that is driving new subscriptions organically, it doesn’t hurt to look into other ways to expand your customer base.
Employing marketing tactics you haven’t used before can help reach customers who otherwise may not have heard of your product. It may even be possible to add features to your product that would return a new subset of clients.
2. Optimize LTV
LTV refers to the lifetime value of a customer: what is the expected amount of revenue the customer will bring to the table while they’re on board with your company? If they’ve signed a one year contract, what are you doing to make sure they subscribe again next year?
To improve your LTV, I recommend finding ways to invest in the customer experience. Happy customers are less likely to opt for downgrades or cancel altogether. Regular engagement with your customers will keep them in tune with what your business is doing, any new offerings, and opportunities for upgrades.
3. Upsell Your Customer Base
If any of your clients have outgrown their subscriptions, you need to focus on upsells if your goal is customer retention. Don’t wait for cancellations to roll in and try to change their minds. If needed, revisit your subscription model and see if there is room for improvement. There are likely ways to generate expansion revenue if you do some digging into what your customers need.
Are there enough add-ons in the higher-level subscriptions to make upgrades worth it to growing clients? You should also look at any opportunities for cross-selling. Ultimately, the idea is to determine what can be done with your customer relationships to increase profitability.
4. Identify and Remediate the Causes of Customer Churn
This may involve revisiting your pricing strategy or studying the ACV (annual contract value) of each customer. Can you identify what is driving retention? Your annual revenue largely depends on customers renewing each year, so figure out what makes them want to do so and invest there.
Reducing churn can be accomplished by getting to know your customers. Reward loyalty with discounts. Check in regularly and request feedback from your customers so you know where to improve before it’s too late.
Identify who is at risk and find out what you can do to keep them on board. This might mean incentivizing them with freebies for a while, but they might need to be reminded of how valuable your product is to them.
5. Address and Improve Ineffective Marketing Strategies
Your business model is fine and your product is excellent, but your company’s ARR isn’t where you’d like it to be. When you look at your YoY (year-over-year) growth, you know something is missing.
When that happens, it’s a good idea to review your marketing strategies. I’ll get into CAC a little more in the next section, but marketing expenses are a big part of your customer acquisition costs. If you’re going overboard here with minimal results, it’s time for a change.
Consider your email marketing campaigns, content marketing efforts, and the customer experience you’re offering. Are you drawing customers in with free trials? Are you releasing regular content that addresses topics your target audience cares about? Have you looked at what the competition is offering and researched how you can respond to that?
6. Reduce Your Customer Acquisition Costs
Virtually all startups need to reevaluate the expense of onboarding new customers. The CAC, or customer acquisition cost, is calculated by totaling the amount spent on sales and marketing initiatives and dividing that by the number of customers onboarded as a result of those efforts.
The old saying, “it takes money to make money,” comes to mind. While that is true, there’s a distinct balancing act that you have to know how to perform so you’re not investing too much in onboarding that doesn’t get returned at a high enough rate in your ARR.
Your biggest investments here should be in your website or app to make sure they are user-friendly and encourage conversion. Clunky interfaces are a huge turn-off for potential customers who are hoping your product will make their lives easier.
7. Encourage Annual Subscriptions
Yearly subscriptions are ideal, so you need to do what you can to encourage your clients to choose that option. Providing predictable revenue is just one of the benefits of annual subscriptions.
Annual pricing should be more attractive to your customers than monthly. Are you offering a discounted rate for longer-term subscriptions? What other incentives can you offer folks who choose to subscribe on an annual basis?
Knowledge is powerful, so make sure your customer base knows what all their options are. Can your customer care team walk them through the different subscription plans? Does your website make it explicitly clear that annual subscriptions are more beneficial to them?
Customers value companies that value them, so don’t skimp on offering benefits to the customers who subscribe annually. Also, the customers who feel appreciated and supported are more likely to spread the word and drive new business your way.
Conclusion
For any SaaS business that hopes to improve their ARR growth rate, my hope is that this guide has given you a basic understanding of where to start. I truly can’t overstate the importance of growing your ARR and how that will impact the long-term success of your business.
Again, you don’t need to stop everything you’re doing and rush to implement every one of these strategies at once. Chances are high that one or two of them will make a notable difference in your ARR growth rate, so figure out where your deficiencies are and go from there.
You have the power to increase your revenue, grow your company, and improve customer retention. If you shift your focus to the right areas, you can unlock new levels of success for both your business and your clients.
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