ARR: Annual Recurring Revenue vs Annualized Run Rate

What is ARR?

SaaS businesses track ARR to better understand their revenue and to predict the company’s growth. ARR is most commonly known as Annual Recurring Revenue. However, there’s some confusion surrounding ARR. ARR is an acronym for two SaaS metrics: Annualized Run Rate and Annual Recurring Revenue.

Annualized Run Rate

If your business is based on both monthly and yearly contracts, the Annualized Run Rate is the metric you should track.

The Annual(lized) Run Rate is calculated by multiplying your MRR by 12.

$$\text{ARR} = \text{\textcolor{#007ac4}{MRR}} \times 12$$

Annual Recurring Revenue

If you’re charging your customers using only annual subscriptions, you should look into Annual Recurring Revenue.

Annual Recurring Revenue is calculated by dividing the total contract value by the number of years.

$$\text{Annual Recurring Revenue} = \frac{ \text{Total \textcolor{#007ac4}{contract value}} }{ \text{number of \textcolor{#007ac4}{years}} }$$

Nick Franklin, CEO, ChartMogul In the ChartMogul app, ARR is defined as Annual(ized) Run Rate, MRR × 12. This is the most popular meaning of ARR, and the most broadly useful one today.

Annual Recurring Revenue

Annual Recurring Revenue has a rather strict definition of looking at recurring contracts with a service length of one year or more. It discards everything else.

What’s important to note here is the word Annual: it’s there for a reason. Any contract less than 12 months in length should be excluded from this definition of Annual Recurring Revenue.

In short, annual recurring revenue is the total contract value divided by the number of years.

Sadly, this calculation of ARR has been used by transactional businesses that don’t sell subscriptions at all. These businesses use it to inflate their revenue number and sound more “SaaSy.” For example, by taking their most recent “best” month of sales and multiplying it by 12.

Where does the Annual Recurring Revenue metric come from?

Measuring yearly income initially made sense in the early years of subscription businesses.

The first generation of SaaS companies: Marketo, Pardot, Workday, for example, typically charged annually—or even multi-year. Their users didn’t have a choice; contracts were more rigid, often involving yearly subscriptions.

It made sense for SaaS companies to measure this metric at face value.

However, today things are a little more complicated. The second generation of SaaS businesses: Zendesk, Intercom, MailChimp, and ChartMogul, embraced monthly billing as standard.

This shift means your typical SaaS startup (launched in the last ~8 years) makes the majority of its revenues from month-to-month subscriptions.

This “mostly-monthly” approach has rendered the traditional meaning of ARR, “Annual Recurring Revenue,” almost meaningless for these companies. Yet, many are still tracking it as it’s been part of our SaaS ecosystem since Salesforce started.

When is Annual Recurring Revenue applicable?

Annual Recurring Revenue is still a helpful metric if your subscription business makes the vast majority of its revenue from annual or multi-year contracts.

Annual Recurring Revenue is contracted revenue, so there is a high level of certainty that this money will be collected. If your new customers are happy paying yearly contracts then fantastic, and this metric is well worth using to help you track recurring revenue.

However, for many modern SaaS companies, this isn’t a very relevant metric: if most of your revenue is from a monthly contract subscription model. There’s just not a whole lot of point in talking about Annual Recurring Revenue if only 20% or even 40% of your revenues are from annual contracts.

How to calculate Annual Recurring Revenue?

SaaS companies that run only on yearly and multi-year contracts start by calculating ARR with the formula below.

Annual Recurring Revenue (ARR) formula

$$\text{Annual Recurring Revenue} = \frac{ \text{Total \textcolor{#007ac4}{contract value}} }{ \text{number of \textcolor{#007ac4}{years}} }$$

Example of ARR

Let’s say a company signs a multi-year contract of $6,000 for 4 years.

The ARR for said company’s account = $6,000 / 4

ARR = $1,500

There’s a large debate on whether this metric can be a prediction metric: anticipated, or an actual metric: happened. Here at ChartMogul, we believe it’s an actual metric. However, this metric can help you forecast revenue and predict your future recurring revenue, when combined with all subscribed accounts, should you continue at your current pace.

The other side of the coin, is that people predict ARR going on their monthly recurring revenue (MRR). If that's the case, ARR stands for Annualized Run Rate.

What is ARR: Annualized Run Rate?

Annualized Run Rate, (or Annualised Run Rate for those who prefer British English) is a way of annualizing a company’s revenue run rate. In SaaS, this is generally done by taking the monthly revenue (MRR) and multiplying it by 12.

Hence, Annualized Run Rate (ARR) = MRR × 12.

It’s often also referred to as simply “Annual Run Rate,” or lengthened to “Annualized Revenue Run Rate.”

For most modern SaaS companies whose revenue mix consists of monthly subscriptions, this definition of ARR is much more meaningful.

Nick Franklin, CEO, ChartMogul Just clarify what definition of ARR you’re using and all will be fine.

Why should you measure Annualized Run Rate (ARR)?

Looking at your ARR is helpful for decision-making.

It’s hard to think about $416,667 of MRR; what does that buy you? Convert that into ARR and you have $5M in forward-looking recurring revenue ($5M ARR), a much easier number to think about when planning and talking about your business, internally and externally.

ARR provides a holistic view of your SaaS standing, and it helps founders and the C-suite assess the success of the company in the long term. Investors, in particular, rely on ARR to evaluate growth potential and make informed decisions about funding and valuation.

What’s a good growth rate for SaaS?

ARR growth rates started declining in 2021

SaaS companies experienced a boom in growth starting mid-2020 and into 2021. Everyone was adopting digital tools faster than ever, and with low interest rates and easy access to cash, businesses had the perfect opportunity to invest in acquiring new customers and growing their recurring revenue.

But the growth wasn’t built to last. By late 2021, things started to slow down as new customer growth tapered off. This decline hit all SaaS companies eventually, no matter their size, with the highest-performing SaaS companies feeling the effects first.

Fast forward to 2024, and things are starting to settle down. Companies with $1M–$30M+ ARR are showing some signs of stabilizing after the industry-wide slump.

New business slowing down sharply was one of the main culprits for the SaaS deceleration

New business slowed sharply for a year starting mid-2021. By 2024, companies under $1M ARR hit rock bottom. While more mature companies have stabilized new business growth, they have yet to fully recover.

Stefan Bader, CEO and Co-founder, Cello The slowdown in new business growth forces us to rethink our balance between acquisition and retention. While we need to keep the pipeline full, the real focus has shifted to maximizing the lifetime value of every customer. It's about ensuring that our customers see continuous value, so they stay and grow with us.

Bootstrappers have a more linear, constant growth than VC-backed.

Top quartile bootstrapped companies reach $1M ARR in 2 years, only 4 months slower than VC-backed businesses.

What's a best-in-class ARR growth rate?

The hyper growth trends are in the past and have shifted to more sustainable rates that define the new normal. The top 10% of SaaS companies continue to grow remarkably, but the market is increasingly competitive, especially for those seeking capital.

Ghost’s public ChartMogul dashboard

Ghost, a non-profit organisation building open source technology for journalists and writers, recently crossed $7.2M ARR. To look for signs of sustainability, the team at Ghost is closely following MRR and ARR.

John O’Nolan, CEO, Ghost When just getting started, with limited money in the bank and not yet profitable, metrics were everything. Life or death.

Buffer's growth

Buffer, the social media toolkit for small businesses, reached $20M ARR (twice!) They were able to reach that milestone by investing in new analytics tools and growing their Average Revenue Per Account (ARPA). Their analytics solutions, ChartMogul and MixPanel, highlighted that although their ARR was strong, it would be a huge lift to keep growing in ARR by only increasing their customer count. Instead, they turned toward their current users and knuckled down on increasing their ARPA.