As more and more subscription and service companies crop up, revenue metrics are more important than ever to understand.
Subscription-based services have exploded from B2C and B2B perspectives. We are familiar with services such as Netflix, Hulu, AmazonPrime on the consumer side. We know of behemoths such as Salesforce on the business side.
Outreach, Gong, Salesloft, Hubspot, and so many more software-as-a-service companies only continue to keep growing.
There are lots of acronyms out there when it comes to revenue metrics, so let's dive into some of the most common SaaS metrics and dig into how you can actually calculate them, so you’ll be armed with the knowledge to make the best business decisions.
Before we jump in, I should point out that each of these metrics will be discussed in relation to a single agreement. That is revenue metrics on a given deal, rather than across the entire company.
The macro calculations for these metrics can be done by adding up or averaging the individual metrics.
ARR (Annual Recurring Revenue)
ARR (Annual Recurring Revenue) is quite possibly the most commonly used and talked about revenue metric in the world of SaaS. ARR represents revenue that you will incur over a 12 month period and a company's total ARR is often is the standard by which SaaS startups measure their success.
How Do You Calculate ARR (Annual Recurring Revenue)?
ARR = Total Contract Value / Contract Term Length in Years
ARR tells you the revenue you’ll receive on an annual basis over the life of a contract. The benefit of the ARR metric is the recurring revenue can be normalized to a single calendar year.
For example, if someone purchases a 3-year subscription for $36,000, the ARR of that subscription is $12,000 a year.
An important distinction here is that ARR only includes fixed contract costs. For example, if your service includes an implementation fee, that fee should not be included in the ARR calculation.
That’s because it’s a one-time charge and doesn’t repeat throughout the life of the subscription.
Can you imagine if you were charged an implementation fee each year for your subscription? 🤯
ARR on a company level is calculated by adding up the sum of each deal's ARR.
MRR (Monthly Recurring Revenue)
A cousin of ARR is Monthly Recurring Revenue or MRR.
This metric is intended to bring predictability to your revenue stream by reporting across different subscription terms and types. Investors will be very interested in this metric because it allows for accurate financial projections and makes planning easier as well.
It can also tell you how your company is growing.
How Do You Calculate MRR (Monthly Recurring Revenue)?
There are two ways to calculate MRR:
- Monthly Recurring Revenue = (Avg revenue per account)*(Total # of Customers)
- Monthly Recurring Revenue = Total of all paying customer monthly subscription
Because the calculations can be complex, utilizing a tool to do this will greatly benefit you.
CRMs often have a setting to calculate MRR out of the box. However, if the data being fed to your CRM is incorrect, then this calculation will not only be worthless, it will have significant negative implications further downstream.
That's why deal data integrity is so crucial.
Using a tool like RevOps Deal Desk to pull in the correct contract data directly to your CRM will ensure your revenue reporting is accurate and reliable.
RevOps helps you know which products should count towards recurring revenue (i.e. MRR, ARR, etc.), then you can use your CRM to calculate your MRR (so you don’t have to do it in a Google Sheet 😉 ).
Total Revenue - sometimes referred to as Gross Revenue - is a good indicator of cash flow; how much money your business is bringing in.
Total Revenue tells the ability to sell a product or service. But total revenue isn’t always a reliable indicator of success as it doesn’t take expenses or costs into account.
If you are looking for a metric to measure profitability, Total Revenue shouldn't be your choice. It is, however, a metric that would interest potential investors (or lenders).
How Do You Calculate Total Revenue?
Total Revenue = (Number of units sold * Per Unit Price) + One-Time Fees
Generally, Net Revenue = Gross Revenue - Cost of Goods Sold (COGS).
However, the way Net Revenue is defined in SaaS is a bit more complex.
The COGS equivalent in the world of SaaS sales is often referred to as "Cost of Sales"; the direct costs incurred by the business in order to run the part of the business that relates to what is being sold.
For example, if a company has both a SaaS subscription business, as well as physical goods, the costs associated only with what was purchased by the customer would be calculated in Net Revenue.
The total costs incurred to run their operations are referred to as Operating Expenses (OPEX) and are usually reported separately.
For SaaS companies, the Cost of Sales might include cloud server fees, engineering salaries, onboarding, or training.
Because this calculation takes into account expenses, it gives you a clearer picture of how your company is doing.
This revenue metric speaks to your profitability, so it is important to track.
How Do You Calculate Net Revenue?
Net Revenue = (Total revenue) - (Cost of Sales)
Calculating Net Revenue, with Cost of Sales correctly tracked, is critical for revenue reporting. If one-time fees are not correctly synced from your contracts to your system of record, you will have significant issues downstream, and your Finance team will not be happy!
The RevOps Agreement Builder not only has a built-in pricing calculator that enables reps to see pricing changes in real-time but ensures that costs, including one-time and recurring fees, get passed on to your CRM and billing systems without errors.
Deferred revenue is when you receive payment for products or services that haven’t happened yet. The payment becomes recognized once the service has been fulfilled in the agreement (e.g. the contract has been fully executed and met the end of its term).
How Do You Calculate Deferred Revenue?
Deferred Revenue = Sum of all payments received for undelivered services or products.
Total Contract Value
It’s worth calling out Total Contract Value (TCV) here since it’s used in the ARR calculation. TCV is straightforward. It’s the total dollar amount of any given contract, including one-time fees such as implementation fees for service.
TCV can be helpful to finance teams to optimize budgets and eliminate unnecessary expenses. It can help inform which sales channels are the most effective - leading to more optimization in the sales cycle.
How Do You Calculate Total Contract Value (TCV)?
Total Contract Value = (MRR * Length of the contract) + One time fees
ARR vs TCV
It’s important to consider that while ARR and TCV are both important metrics, they are different in how you are recognizing the revenue in your company. ARR is a metric of your subscription service that normalizes revenue to a single year while TCV encompasses all the revenue over the entire contract - which could include multiple years.
There are many metrics that you can look at to give you the overall health of your business. Particularly in the subscription economy, there are metrics that you should keep a close eye outside of the ubiquitous ARR.
Keep monitoring your metrics and watch your revenue grow!