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Annual Recurring Revenue (ARR)
Annual Recurring Revenue (ARR) Overview
Definition
Annual Recurring Revenue (ARR) is recurring revenue, as defined by your revenue recognition policy, calculated on an annualized basis. ARR is the sum of subscription recurring revenue on an annualized basis. ARR should not include one-time fees or professional services even if they are recurring.
ARR does not include contracted but not yet live ARR, and does not include known, but not yet recognized churned or down-sell ARR. See the Contracted ARR standard for its definition.
Many companies will use Monthly Recurring Revenue (MRR) x 12 to calculate Annual Recurring Revenue. This calculation method is discussed later in this standards document.
Business Value and Insights
ARR is a top operating metric for a SaaS business to monitor. Changes in ARR provides visibility into the health of any SaaS business.
Investors for both private and public SaaS companies use a multiple of ARR as one primary calculation component for company valuation.
An important facet of ARR is that it is a measure at a point in time – much like a Balance Sheet item, as opposed to an Income Statement metric like Revenue which is calculated over a period of time. That said, ARR is an accurate measure for the current size of a SaaS business.
Calculation Formula
ARR = (MRR x 12)¹
¹MRR is the most recent monthly recurring revenue
Data Inputs Required
Data Input #1: Monthly Recurring Revenue (MRR) from last month.
Calculation Timing
ARR should be calculated each month.
Evaluating ARR trends between fiscal accounting periods, including monthly, quarterly and annually is critical to calculating “period over period” ARR growth rates.
In many cases it’s helpful to look at the growth rates over the same quarter in the previous year (period over period), as well as growth over the immediatly preceding quarter (sequential).
Nuances to Consider
Nuance #1: CARR vs ARR
Annual Recurring Revenue (ARR) does not factor in future events, known or unknown including new deals closed but not yet generating revenue which is included in the CARR metric standard. ARR does not include expected churn, expected down-sells or expected up-sells.
Nuance #2: Bookings vs ARR
Bookings does not have a standard definition but generally refers to the amount of new business closed in an accounting period. Bookings can sometimes include the total contracted ARR of multi-year agreements, professional services revenue and other non recurring commitments.
ARR should not factor in any non recurring, one time revenue events such as professional services.
Nuance #3 : ARR in multi-year agreements
If multi-year agreements are used, the amount contributed to ARR should be only the latest month’s MRR x 12, not the future value of contracted ARR beyond the current month.
Nuance #4 : Usage-Based Pricing impact on ARR
The revenue associated with usage based pricing that exceeds committed minimums (overages) should not be part of ARR - regardless of the overage being invoiced.
Invoiced amounts over the subscription agreement should not be considered as ARR.
If there is no contracted recurring revenue minimum commitment (subscription agreement) for Usage-Based pricing utilization models, no ARR is present
Companies that primarily use a Usage-Based Pricing model and not a subscription with a minimum annual commitment will not find as much value in the ARR metric.
Nuance #5: When to include churned and down-sell ARR in ARR
ARR should be reduced by churned ARR in the month the down-sell or churn contractually occurs. Churned ARR should not be deducted from ARR upon learning about known churn in the future. Churned ARR should be deducted in the same month the contract expires and/or agreement is not renewed.
Sample Calculation(s)
Sample Calculation #1: Annual Calculation at end of Fiscal Year ending Dec 31, 2022
List of Input Values
MRR (December, 2022): $833,333
Committed ARR not yet live on December 31, 2022: $500,000
Known future Churn or Downsell ARR on December 31, 2022: $300,000
Calculation Formula
($833,333 x 12)¹ = $10,000,000 ARR
¹No future known events, including churn or new contracts signed but not yet in production are included
Links to related Standards
Contracted Annual Recurring Revenue (CARR) Standards: Click Here