Subscription-based businesses benefit from a fairly predictable and reliable revenue stream, which is great for forecasting, planning, and even attracting investors.
But in order to really make the most of this enviably stable source of income, you need a way to understand it. That’s where Annual Recurring Revenue comes in. It allows you to transform your subscriptions into a veritable goldmine of useful data, and offers insights into everything from customer churn to strategic performance.
In this article, we’ll explain what ARR is, how to calculate it accurately, how to optimize it, and how Checkout.com can benefit your subscription business.
Annual Recurring Revenue (RRR) measures the predictable and recurring revenue your company receives from its customers every year in exchange for products and services. Or, in other words, it’s the total sum of all revenue generated from subscription fees over a 12-month period. ARR is most commonly used by subscription-based businesses.
Some businesses also used monthly recurring revenue (MMR), which essentially produces the same data but on a monthly basis.
There are a number of ways to calculate ARR, but the first thing to know is that you should only use your recurring revenue in your sums. Any one-time charges or variable fees should be discounted as they’re not classed as recurring or predictable, and would produce an incorrect result.
To get an accurate picture of your ARR, you’ll also need to factor in some other figures and deductions, including:
So, a simple annual recurring revenue formula is the sum of all your annual recurring revenue and upgrades minus lost revenue from downgrades and cancellations. Here’s an example:
However, let’s say one of your customers cancels their plan, and another downgrades to the $50 plan, meaning you lose $150 that year. That would leave you with an ARR of $400.
Another way to work out your ARR is to use the same method to calculate your MMR and then multiply that figure by 12. You can also take the total figure for your multi-year contracts and divide the total contract value by the number of years.
Tracking and understanding your ARR is vital for determining the current and future performance of your business, and can be used to inform key strategic decisions.
Here’s why ARR is important for subscription businesses:
Read more: What is unearned revenue?
Here are some simple ways subscription businesses can optimize their ARR:
MMR is simply ARR but calculated on a monthly basis. ARR is a macro metric, allowing you to see the performance of your business year-on-year, which is great for long-term planning and forecasting. It’s especially useful for businesses that tend to have customers with multi-year contracts.
MMR gives you a more granular insight into the month-on-month performance of your business, which is useful for measuring the immediate impact of changes to, for example, your pricing strategy. It’s also a better metric for businesses that rely on shorter-term subscription lengths of less than a year. MMR allows you to respond quickly and decisively to sudden or periodic fluctuations in revenue, helping you to overcome challenges and provide a great customer experience.
If you’re a subscription-based business, Checkout.com has all the tools you need to optimize performance and growth.
We understand that your success depends on delivering a consistent and reliable service. That’s why we give you a simple and secure way to manage and process subscription payments. With payment integrations, it’s easy to update or cancel recurring payments, while our payments API enables fast processing and a smoother customer experience. What’s more, by supporting a host of popular global payment methods, you're empowered to target growth across every international market.
Finally, we give you access to all the data and reporting you need to track your performance and make confident strategic decisions.