ARR

What it means

ARR, annual recurring revenue, is the yearly recurring income of a company selling subscriptions, typically SaaS. It expresses what the company would earn in a year if all current contracts carried on unchanged, and is most often calculated as MRR multiplied by twelve.

Only regular subscription payments count towards ARR. One-off fees for implementation, training or hardware are excluded because they do not recur, and introductory discounts are reflected at the price the customer will normally pay.

ARR is a management metric, not an accounting figure. It has no statutory definition and every company may calculate it slightly differently, so investors always want to see the method and a breakdown into new, expansion, contraction and churned subscriptions.

How it works in practice

As a company grows, ARR is tracked together with churn and with how much existing customers add under their contracts. If ARR grows only through new customers while old ones leave, the growth is not sustainable.

In the books, a subscription paid a year in advance is not recorded as revenue all at once in the month of payment. The part relating to future months goes to deferred income and is released into revenue monthly. A gap between ARR and revenue in the accounts is therefore normal, but it needs to be explainable.

In a business valuation of subscription companies, ARR is often multiplied by a factor reflecting growth and profitability. For clients preparing for investment we therefore reconcile ARR with invoicing and the books so that the figure in the pitch deck survives the investor’s due diligence.

What to watch out for

A common mistake is counting signed but not yet live contracts, free pilots or customers in payment arrears as ARR. Inflated ARR is exposed in the investor’s review and undermines trust in all the other numbers.

The second mistake is looking at ARR without costs. Rising ARR with a customer acquisition cost higher than what the customer brings in over the whole relationship means the company deepens its loss as it grows. We therefore always compare it with LTV and with cash, never on its own.