Your Definitive Guide To Measuring & Driving ARR Growth In SaaS
As the SaaS industry continues to grow and evolve, SaaS companies are constantly looking for new ways to achieve sustainable growth and success.
And one key metric that has proven to be a critical indicator of success in this area is the annual recurring revenue (ARR).
For SaaS businesses, steady ARR growth is essential for long-term success. After all, it indicates a reliable and predictable flow of income that can be used to fund growth initiatives and investments in the future.
But how do you measure ARR growth? What are the ARR growth SaaS metrics you should be tracking? And what strategies can you use to boost your ARR?
In this article, we’ll explore ARR growth for SaaS businesses and answer all of these questions.
What Is Annual Recurring Revenue?
First things first, let’s define ARR.
Annual recurring revenue, as its name suggests, is the total revenue a SaaS company can expect to receive in one year from its recurring sources of income.
This could include subscription fees, priority customer success and support contracts, or any other type of recurring payment made over a year.
By tracking ARR growth, SaaS businesses can better understand how well they’re doing in terms of customer acquisition and retention, as well as how effectively their pricing strategies are working out.
ARR VS MRR
It’s important to note that ARR is closely related to another commonly used SaaS metric, monthly recurring revenue (MRR).
The key (and obvious) difference between ARR and MRR is that ARR only takes into account annual recurring sources of income, while MRR tracks monthly recurring sources of income.
In terms of purpose, MRR growth can be an indicator of good operation performance. While ARR growth is usually an indicator of long-term health for a SaaS business.
It’s worth noting that ARR can be calculated by simply adding up all of a company’s MRRs over a year. However, ARR captures more detailed data points since it takes into account other factors such as contract terms and renewal cycles.
ARR VS ACV
Another related metric worth mentioning is the annual contract value (ACV).
The ACV is the annualized value of a customer’s total contract. Calculating it involves dividing the total contract value (TCV) by the number of years on the contract.
For example, if a customer has signed a three-year contract for $6,000, then your ACV for that one customer would be $2,000.
The ACV is a good metric that helps you gain a level-headed perspective of how much value a customer brings to your SaaS business. You may also compare your ACVs with different customers to see which ones are more valuable in terms of how much revenue they bring into your business.
As you can see, ACV is a metric that you measure for EACH of your customers. While ARR is a metric that counts the total recurring revenue from ALL of your customers.
Why Is Measuring ARR Growth Important For SaaS Businesses?
There are a lot of reasons why ARR growth is so important for SaaS businesses. Let’s discuss some of them one by one.
It Helps You Forecast Your Revenue
One of the biggest advantages of ARR growth (or having recurring revenue in general) is that it helps you forecast your revenue and plan for the future.
By tracking ARR growth, you can get a better idea of how much money your business will bring in over the course of the year, which allows you to properly budget for new initiatives and investments.
ARR Can Be A Measure Of Business Maturity
Another key reason ARR growth is important for SaaS businesses is that it can be an indicator of business maturity.
In fact, there are certain ARR milestones that indicate that a business is starting to become stable and mature:
- $1M ARR: This is usually the initial milestone for SaaS businesses. It is a sign that there is a real demand for your SaaS product and that you have achieved some success in terms of customer acquisition and retention.
- $10M ARR: Crossing this ARR milestone is often a sign of a solid product-market fit. It also marks serious success for your SaaS business as it indicates that your growth strategies are working well.
- $100M ARR: This ARR milestone signifies that your business is now in the big leagues. It means you’ve achieved market-wide recognition and have established yourself as an industry leader.
It Increases SaaS Valuation
Finally, ARR growth is important because it can directly impact your SaaS business’s valuation.
Since ARR is a reliable indicator of the financial health and potential of a SaaS business, investors and venture capitalists generally look at it when making an investment or acquisition decision.
The higher the ARR, the more money these parties are willing to invest in your business.
How To Measure ARR Growth
Now, how do you actually measure your ARR growth?
Let’s look at a couple of ways to do that:
ARR Growth Rate
The ARR growth rate is a metric that measures the percentage change in your ARR over a year.
To calculate it, take the difference between your current ARR and your previous ARR. Then divide the resulting figure by your previous ARR.
For example, let’s say from last year’s $1M ARR, you managed to get it up to a current ARR of $2 million. With a $1 million difference, your ARR growth rate would be 100%.
Net ARR Growth Rate
The thing about recurring revenue is that it also changes over time due to different factors. You gain new customers and lose some. A handful of customers may also upgrade to more expensive plans, while some might downgrade to a lower plan.
The point is that there are changes that may add to or deduct from your ARR. So how do you account for those changes?
That’s where the net ARR growth rate comes in.
The net ARR growth rate takes these factors into account and gives you a better idea of how your ARR is changing over time.
First, you need to measure your Net ARR. To do that, you would need to consider the following additions and deductions to your ARR:
- New ARR: This is the additional ARR coming from your new customers.
- Expansion ARR: This is the additional recurring revenue coming from upselling current customers.
- Churn ARR: This is the ARR lost due to canceled subscriptions.
- Contraction ARR: This is the recurring revenue lost due to customers downgrading their subscription plans.
To calculate your Net ARR, start by adding up your existing ARR, new ARR, and expansion ARR. Then subtract your churn ARR and contraction ARR from the sum.
For example, let’s say your existing ARR is $1M. Then you have added $500K in new ARR and $100K in expansion ARR, but lost $75K in churn ARR and another $25K in contraction ARR. That would give you a net ARR of $1.5 million.
Once you have your Net ARR, you can then calculate the net ARR growth rate by taking the difference between your current Net ARR and your previous one, then dividing the resulting figure by your previous Net ARR.
Building from our example above, having $1.5 million in ARR now from the previous $1 million would give you a net ARR growth rate of 50%.
ARR Growth SaaS Benchmarks
Measuring your ARR growth is one step towards ensuring efficient and sustainable growth for your SaaS business.
However, to really know whether or not your ARR growth is good enough, you need to have some benchmarks to compare it with.
The thing is that standards vary for ARR growth. This primarily depends on your SaaS company size (in terms of ARR), as well as where your funding comes from.
ARR Growth Rate Benchmarks By Company Size
As we mentioned above, your SaaS companies’ ARR can serve as a milestone to gauge business size and maturity.
And here are some ARR growth rate benchmarks by company size, as reported by ScaleXP.
- $1M ARR: 140%
- $5M ARR: 94%
- $10M ARR: 77%
- $20M ARR: 62%
- $40M ARR: 46%
- $60M ARR: 36%
- $80M ARR: 30%
- $100M ARR: 25%
As you may observe, the benchmark for ARR growth rate starts high with early-stage SaaS businesses and steadily decreases as the business grows.
Generally speaking, SaaS startups and early-stage SaaS companies devote more effort and resources toward customer acquisition and establishing product-market fit. Thus, the average ARR growth rate tends to be higher for them.
Meanwhile, the ARR growth rate slows down as your SaaS business matures and you focus more on improving customer retention.
When it comes to larger companies, the ARR growth rate can also drop if they’ve already reached a stable size and slowed down their hiring efforts.
ARR Growth Rate Benchmarks By Funding Source
Your ARR growth rate can also vary depending on where you get your funding from.
The fastest way to get funding for a SaaS business is through venture capital. This way, you raise funding from investors in exchange for equity in your business.
Most SaaS startups choose to go this route because it gives them access to a lot of capital, allowing them to scale faster.
The other method is called bootstrapping.
This is when you use your own resources to fund your business. This could be your own personal money and equipment. You may also take these from your own SaaS company’s profit, either your month-on-on month profits or a bigger one-time revenue from offering a lifetime deal (LTD).
Bootstrapping is a great way to get started, but it can be more difficult to scale because of limited resources. As a result, it generally takes a much slower approach to growth.
As expected, the ARR growth rate tends to be higher for those who have access to venture capital funding compared to bootstrapped SaaS companies.
According to SaaS Capital, bootstrapped SaaS businesses have an average ARR growth rate of 30%, while venture-backed companies have a median of 40%.
Strategies For Driving ARR Growth
Knowing is half the battle. And in this case, the other half is doing something about it.
Armed with accurate insights into your ARR growth rate and how it stacks up against industry standards, you can craft a strategy for driving recurring revenue growth for your SaaS business.
Every business is unique, so there is no one-size-fits-all approach here. However, here are some ARR growth rate strategies that you may consider:
1) Analyze Trends In Your ARR Growth & Set SMART Goals
As you measure your ARR growth, you need to look for trends and patterns in your ARR growth rate.
Which customer segments are contributing most to your ARR? How much growth do you experience in terms of new revenue and expansion revenue? To what extent do churn and contraction impact ARR growth?
With these insights, you can then set specific, measurable, achievable, relevant, and time-bound (SMART) goals.
Equipped with existing measurements of your current ARR growth, you can set an achievable goal for ARR growth rate and a timeline for achieving it.
For example, let’s say that your ARR growth rates for the past three years were 25%, 50%, and 75%, respectively. Seeing as it steadily increases by an additional 25% every year, a SMART goal could be to achieve an ARR growth rate of 100% within the next year.
2) Focus On Customer Retention
For a SaaS business, customer retention is key to driving ARR growth. Your customer base can only grow if you retain your existing customers.
This means continually finding ways to keep your customers engaged and satisfied with your SaaS product.
Here are some tips to improve your customer retention and reduce churn:
Provide Excellent Customer Support
Customer support should be a top priority. Make sure that you have a team dedicated to providing the best customer service experience for your customers.
Your support team should be prompt in responding to your customer’s inquiries. If you can’t offer 24/7 support, make sure to set realistic expectations for the amount of time it takes to address customer issues.
Personalize Your Customer Success Services
Your customer success department exists to help your users achieve their goals with the help of your SaaS product. And that is best done if the assistance you offer is personalized according to each customer’s specific needs.
Sure, you still need to provide some generic customer success services, such as your knowledge base, tutorials, and some parts of your onboarding process.
But once you have a better understanding of your customer’s needs, make sure to tailor the assistance you offer to them moving forward.
Keep Developing Your SaaS Product
Your ARR growth rate also suffers when you don’t keep innovating your SaaS product.
You’ll need to stay ahead of the competition by adding new features and functionalities, as well as tweaking existing ones. Both will help you retain current users and attract more customers.
Stay updated on the current industry news and trends related to your SaaS product, so you know what changes to make. What’s more, listen to customer feedback, as that can be invaluable for knowing what aspects of your SaaS solution you need to improve.
3) Craft A Well-Rounded Upsell Strategy
As we have mentioned above, expansion revenue is also essential for ARR growth. Not only does it increase your ARR. It also boosts your average revenue per user (ARPU), which could help your business achieve sustainable growth.
That’s why crafting an effective SaaS upsell strategy is also crucial for a SaaS company.
How do you do that? Here are a few tips:
Offer Upsells Based On User Engagement
First, assess your user’s engagement with your product. Use analytics tools to identify which customers are using the most features and generating the most revenue.
Ideally, you could even find existing customers who actually need to upgrade their subscriptions.
These could be users who are about to reach the limits of their existing plans. Or these could be customers whose goals cannot be possibly met with their current subscription tiers.
Knowing these conditions can help you craft a personalized upsell offer for each customer that would be relevant and attractive.
Offer Temporary Free Upgrades
Sometimes, the best way to sell an upgrade is to let them experience it first.
You can offer customers a temporary free upgrade to their respective subscription plans, so they could test out the additional features and functionalities that come with it.
This would be an excellent way to demonstrate the value of those added features and encourage them to make the switch.
Just remember to have a deadline for them to take you up on these offers so customers would feel a sense of urgency to act on them.
Make It Easy For Customers To Upgrade On Their Own
If the upgrade process takes too long and requires too much back-and-forth with your team, some customers might be discouraged to go through with the upgrade.
Because of that, make sure you have an efficient and straightforward way for customers to upgrade their plans on their own.
You can do this by providing them with an intuitive subscription management interface. This would enable users to seamlessly switch from one plan to another without the need to contact your customer support or sales team.
Having a user-friendly self-service portal will also increase customer satisfaction, as they wouldn’t have to wait for assistance just to upgrade their plans.
4) Optimize Your Pricing Strategy
For a SaaS business, the best pricing strategy you could have is a value-based pricing strategy. This means having a price range that is based on the perceived value of your SaaS product.
Analyzing how much customers are willing to pay for each feature or functionality can help you come up with an optimal pricing strategy. You should also consider the market trends, competitors’ prices, and customer feedback before deciding on the final price point.
The goal here is to find the balance between offering a competitive price point while still being able to make the best profit you could generate.
This way, you could still have a price range that is attractive to your potential customers without getting short-changed.
5) Invest In Sales & Marketing
Don’t forget that new revenue is also crucial in growing your ARR.
You could hammer down the details of how to do this by conducting market research, creating buyer personas, and crafting appropriate messaging for different types of audiences.
But more than that, you also need to increase brand awareness, build trust with your target audience, and nurture leads into buying your SaaS product.
You can do this through a combination of, content marketing, search engine optimization (SEO), social media marketing, email campaigns, and other targeted inbound marketing strategies.
Your goal is to increase the visibility of your SaaS product and make sure that it reaches the right people who will be interested in purchasing it.
6) Track Other SaaS Growth Metrics
Apart from ARR growth, you should also track other SaaS growth metrics to get a better picture of your business’ performance.
Here are a few of the growth metrics you need to measure:
Every SaaS business owner should keep an eye on their churn rate as it can provide a bit of insight into how well their SaaS business is doing in terms of retaining customers.
And there are two types of churn rates you should measure.
One is the customer churn rate. This is the percentage of customers who stopped using your SaaS product in a given period.
The other is the revenue churn rate. This metric measures how much ARR is lost due to customer churn rate.
Obviously, you would need to calculate your CLV and CAC first in order to get this ratio. When you have the two figures, simply divide your CLV by your CAC.
Generally speaking, the higher your CLV:CAC ratio, the better. A higher ratio means that your SaaS business is able to generate more ARR from customer acquisition costs.
However, if your CLV:CAC ratio is too high, it may indicate that you’re missing out on potential growth by not investing on customer acquisition.
For SaaS businesses, the ideal CLV:CAC ratio ranges from 3:1 to 5:1.
Net Promoter Score (NPS)
Lastly, you should also track your Net Promoter Score (NPS). This metric measures how likely customers are to recommend your product to others.
It is an effective way of determining customer satisfaction, loyalty to your SaaS product, and even brand advocacy. The higher your NPS score, the more satisfied and loyal your customers will be.
What’s more, since this is a survey-based metric, it can also help you identify which of your customers are potential advocates and those who are likely to churn.
Final Thoughts About SaaS ARR Growth
Measuring ARR growth is essential for any SaaS business. It allows you to track your performance and make sure that you are on the right path toward sustainable growth.
ARR growth can be achieved through careful planning and strategic investments in marketing, sales, customer retention, product development, and other areas.
And by tracking ARR growth along with other key SaaS metrics, you will be able to better measure the success of your efforts and use this insight to drive even more ARR growth over time.
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