Monthly Recurring Revenue (MRR)
Q. What is MRR?
Monthly Recurring Revenue (MRR) is the total revenue generated by your business from active subscriptions in a specific month. Using MRR, subscription business owners can track monthly revenue from a specific product or service and differences in revenue month by month. MRR gives you an accurate picture of how your business is doing financially. It helps you to forecast your business growth, estimate your profits, and make your business roadmap accordingly.
Q. How do you calculate MRR?
MRR is calculated by multiplying the number of customers in a monthly subscription plan with the price of the plan.
MRR = Number of subscribers in a monthly plan * Price of the plan
For instance, suppose your business has 5 customers, where 3 customers are on the $100/month plan and 2 customers are on the $500/month plan. The MRR will be (3 * $100) + (2 * $500) = $1300.
For annual plans, MRR is calculated by dividing the annual pricing by 12 and then multiplying it by the number of customers on the plan.
Q. What is upgrade MRR?
Upgrade MRR is the revenue generated from subscriptions that have upgraded to a higher plan over a specific month. It also includes add-ons associated with subscriptions.
For instance, if a subscription has been upgraded from the Basic plan (MRR: $100) to the Standard plan (MRR: $150), then the upgrade MRR can be calculated by subtracting the rate of the Basic plan from the Standard plan.
Here, the upgrade MRR is $150 – $100 = $50.
Q. What is downgrade MRR?
Downgrade MRR is the revenue generated from subscriptions that have been downgraded to a lower plan over a specific month.
For instance, consider a customer downgraded his subscription from the Professional plan (MRR: $300) to the Basic plan (MRR: $150). The downgrade MRR can be calculated by subtracting the Basic plan rate from the Professional plan rate.Then the downgrade MRR will be $300 – $150 = $150.
Q. What is new MRR?
New MRR is the additional revenue gained from new customers during a specific month.
For instance, if a business gains 3 new subscriptions under the $100, $500, and $1000 price plans respectively, then the new MRR will be $100 + $500 + $1000 = $1600.
Q. What is expansion MRR?
Expansion MRR is the additional revenue generated by existing customers over a month when compared to the previous month.The revenue generated by new customers is not considered while calculating expansion MRR.
Expansion revenue is generated when:
Subscribers upgrade (shifting from a low-priced plan to a high-priced plan)
Customers move from a trial plan to a priced plan
Customers subscribe to a recurring add-on or purchase a one-time add-on
A canceled subscription is reactivated or resumed
Q. What is contraction MRR?
Contraction MRR is the reduction in MRR due to subscription cancellations and downgrades during a particular month compared to the previous month.
Contraction MRR occurs when a customer:
Cancels their subscription (churns out)
Downgrades to a lower-priced plan
Pauses their subscription
Receives as discount
Stops a recurring add-on
Q. What is net new MRR?
Net new MRR shows how much your revenue has grown compared to the previous month.
Here’s how it is calculated:
Net new MRR = New MRR + Expansion MRR – Churned MRR
Q. What is churn MRR?
Churn MRR gives the total revenue a business has lost due to subscription cancellations over a specific month. This metric helps businesses with different pricing tiers to identify their lost revenue accurately.
For a business providing services at different rates and plans, not all customer subscriptions will be of the same value. Customer A might subscribe to a standard plan, generating $100, whereas customer B may sign up for a basic plan which is $10.
Therefore, just counting the number of cancellations will not tell you how much revenue you lose when there is churn. The analysis drawn from churn MRR helps you to identify the areas that may require more attention, like if your churn MRR is very high, it can be a sign that some factors in your business is unappealing – like mismanaged customer service, ineffective products or services or poor pricing strategies.
Q. How is churn MRR calculated?
Churn MRR is calculated by dividing the total MRR of all canceled subscriptions by the total MRR at the beginning of that specific month.
Churn MRR = Total MRR lost in canceled subscriptions / Total MRR at the beginning of the month
For instance, consider a business where the total MRR at the beginning of the month is $1000. During the month, the business loses $200 due to subscription cancellations.
Then the churn MRR put into percentage will be $1000 / $200 = 5%.
Annual Recurring Revenue (ARR)
Q. What is Annual Recurring Revenue?
Annual Recurring Revenue (ARR) is the yearly version of MRR. It is the recurring revenue of subscriptions normalized for a single year. It includes recurring items such as add-ons, coupons and discounts. For the most accurate ARR and the best projections, one-time fees and other non-subscription charges should not be included in ARR calculation.
Q. How is Annual Recurring Revenue (ARR) calculated?
ARR is calculated by dividing the total value of a subscription contract by the length of contract in years.
ARR = Value of the contract / Length of the contract in years
For instance, if a customer subscribes to a product and signs a five-year contract for $5000, the ARR will be $5000 / 5 = $1000.
ARR can also be calculated by multiplying the MRR by 12.
ARR = MRR * 12
Q. What is churn rate?
Churn rate, also known as attrition rate, is the percentage of customers who cancel their subscriptions and discontinue the service over a particular period. Churn rate is considered a critical metric because it measures how your business is performing and helps you predict your growth. Every business wants to keep its churn rate low, because the higher the churn rate, the faster you are losing your customers and potential revenue.
Q. How do you calculate churn rate?
Churn rate can be calculated by dividing the number of subscribers who cancel the service by the total number of subscribers at the beginning of the period, then multiplying by 100 to get a percentage.
Churn rate = (Number of subscribers canceled over the period / Total number of customers at the beginning of the period) * 100.
For instance, if the total number of customers at the start of the month is 100 and the number of canceled subscribers at the end of the month is 7, then the churn rate will be (7 / 100) * 100 = 0.07 * 100 = 7%
Q. What is customer churn?
Customer churn or logo churn refers to the percentage of customers who canceled their subscription over a certain period. Customer churn occurs due to various reasons including unsatisfactory products or services and payment failures. Based on the reasons for cancelation, customer churn is broadly classified into voluntary and involuntary churn.
Q. How is customer churn calculated?
Customer churn can be calculated by dividing the number of customers who canceled during a specific period by the total number of customers at the beginning of the period, then multiplying by 100 to get a percentage.
Customer churn = (Number of subscribers canceled over a specific period / Number of customers at the beginning of the period)*100
For instance, let us assume that you wish to calculate the customer churn rate in a month. You have 300 customers at the beginning of the month and 290 customers at the end of the month. Your customer churn rate will be (10 / 300) * 100 = 3.33%
Q. What is revenue churn?
Revenue churn is the rate at which a business loses its revenue due to subscription cancellations and downgrades. The value of revenue churn can be either positive or negative. Positive churn value indicates your business lost revenue during a specific period, while a negative value signifies that you made profit.
Q. How is revenue churn calculated?
Revenue churn can be calculated by dividing the amount of revenue lost over a specific month by the total revenue that existed at the beginning of the month.
Revenue churn =
(MRR lost to downgrades & cancellations during the month / MRR at the beginning of that month) * 100
MRR lost during the month can be calculated by subtracting, MRR at the beginning of the month from MRR at the end of the month.
MRR lost to downgrades & cancellations during the month = MRR at the beginning of the month – MRR at the end of the month
For instance, suppose your MRR at the beginning of April is $6000 and your MRR at the end of the month is $5000, while the additional revenue generated over the month is $800.
Following the formula, your revenue churn can be calculated as:
Revenue churn = [[($6000 – $5000) – $800] / $6000 ] * 100
= [($1000 – $800) / $6000] *100
= [$200 / $6000] * 100
= 0.033 * 100
The positive value of the revenue churn indicates lost revenue in that period.
Take another example where the MRR at the beginning of the month is $6000 and the MRR at the end of the month is $5000.
Now suppose the additional revenue generated is $1200.
Revenue churn = [[($6000 – $5000) – $1200] / $6000 ] * 100
= [($1000 – $1200) / $6000] * 100
= [-200 / 6000] * 100
= -0.033 * 100
= -3.3 %
The negative revenue churn indicates that you have actually gained revenue.
Q. What is voluntary churn?
Voluntary churn happens when the customers decide to cancel their subscription to your products or services and stop doing business with your company. Many factors can contribute to voluntary churn, from ineffective onboarding processes, bad customer service, and unsatisfactory products to customers’ own financial situation.
Q. What is involuntary churn?
Involuntary churn is when the customer’s subscription is canceled due to non-payment, but they didn’t intend to cancel.
Online payment failure is one of the main reasons for involuntary churn. Payments can fail due to different reasons like issues in the payment network, insufficient balance in the credit card, etc. Typically, these issues are temporary and a subsequent attempt at charging the customer will be successful. Involuntary churn can be minimized with an effective dunning management system, where the subscription billing app will notify the customer of the payment failure and retry charging the card.
Q. What are the main reasons for involuntary churn?
Online payment failure is considered to be the prime reason for involuntary churn. Online payments fail due to various reasons including:
Soft declines after the credit limit is reached
Outdated card details
Q. What is net negative churn?
A business is said to have net negative churn when the expansion MRR exceeds contraction MRR.
Net negative churn : Expansion MRR > Contraction MRR
That is, if the revenue generated by your existing customers is higher than the revenue lost due to downgrades and cancellations, then your business has attained net negative churn. Revenue generated by new customers is not considered in the calculation of net negative churn.
Q. How is net negative churn calculated?
Net negative churn is calculated by subtracting the expansion churn from the revenue churn.
Net negative churn rate = Revenue churn – Expansion revenue (excluding new subscribers)
For instance, if the expansion revenue of your business for a specific month is 5% and the revenue churn is 2%, then the net negative churn = 2% – 5% = -3%.
This means that despite losing 2% of your revenue due to customer churn and downgrades this month, your business gained 3% revenue overall, because existing customers spent about 5% more than the previous month.
Average Revenue Per User (ARPU)
Q. What is Average Revenue Per User (ARPU)?
ARPU is the average revenue generated by a paid subscription over a certain period (usually a month or a year). In the calculation of ARPU, value of metrics like upgrade MRR, downgrade MRR and churn MRR are included. But it does not include free trial subscriptions, as they don’t generate any revenue.
Q. How is ARPU calculated?
ARPU is calculated by dividing the total revenue by the number of active customers. Typically, ARPU is calculated either monthly or annually.
Monthly ARPU = Total MRR (Monthly Recurring Revenue) / Number of active subscriptions
For instance, suppose that your total MRR (Monthly Recurring Revenue) of certain month is $500.
Let the number of active subscriptions be 5.
Then the ARPU will be, $500 / 5 = $100.
Customer Acquisition Cost (CAC)
Q. What is Customer Acquisition Cost?
Customer Acquisition Cost (CAC) is the cost of turning prospects into customers.
CAC is an important metric to track because it helps your business decide how much should be spent on potential customers. It can also be compared with other metrics like Customer Lifetime Value (CLV) to assess your Return On Investment (ROI).
Customer Acquisition Cost involves:
Total sales and marketing expense
Q. How do you calculate Customer Acquisition Cost (CAC)?
Customer Acquisition Cost can be calculated by dividing the total cost of acquiring customers over a specific period divided by the number of customers acquired over the same period.
Customer Acquisition Cost = Cost spent to acquire customers / Number of customers acquired
For instance, if the amount spent on customer acquisition in a month is $5,000 and the number of customers acquired in that month is 100, then the Customer Acquisition Cost would be $5000 / 100 = $50.
Customer Lifetime Value (CLV)
Q. What is Customer Lifetime Value?
Customer Lifetime Value (CLV) or simply Life Time Value (LTV) is the total amount of money a business can make from a customer during their time as a customer.
For subscription businesses, retaining existing customers is just as important as acquiring new customers and CLV is one the key metrics that can be used to monitor customer retention. CLV helps to predict how much revenue will be generated by existing customers, which will help you in making business decisions like how much you can afford to spend on Customer Acquisition Cost.
Q. How is Customer Lifetime Value (CLV) calculated?
To calculate the Customer Lifetime Value, we first need to calculate the Life Time Value (LTV) of the customers by multiplying the average purchase value, number of purchases and retention period of the customer in years.
Life Time Value (LTV) = Average purchase value * number of purchases * retention period
Then, the Customer Life Time Value (CLTV) can be calculated by multiplying the LTV with gross margin.
CLTV = Life Time Value (LTV) * gross margin
For example, assume a company sells a product and its average sales value is $200. A customer purchases this product twice in a year for three consecutive years. Then the Life Time Value is $200 * 2 * 3 = $1200
The gross margin of the product, after calculating Cost Of Goods Sold (COGS) and other expenses is 45%.
Then the CLTV is $1200 * 45% = $54.
Q. What is gross margin?
Gross margin is the revenue retained by a business after incurring the cost of goods sold.
Q. How is gross margin calculated?
Gross margin is calculated by subtracting the COGS (Cost Of Goods Sold) from the total sales revenue. To express it as a percentage, you can then divide by the total revenue and multiply by 100
Gross margin = (Total revenue – COGS)
Gross margin percentage = Gross margin / Total revenue * 100
For instance, if your business generates $5000 sales revenue and the COGS is $800, then your gross margin will be $5000 – $800 = $4200.
The gross margin percentage will be [($5000 – $800) / $5000] * 100 = 84%.
Annual Contract Value (ACV)
Q. What is Annual Contract Value?
Annual Contract Value or ACV is the revenue generated by a customer by subscribing to your product for a year. One-time payments are not considered in ACV.
Q. How do you calculate Annual Contract Value?
ACV can be calculated by dividing the total amount agreed upon for a contract by the period for which the contract is valid.
Annual Contract Value = Total contract value excluding one-time fees / Contract period in years
For instance, if the contract value for a 4-year period is $48,000, then the Annual Contract Value is $48,000 / 4 = $12,000.
Q. How is Annual Contract Value different from Annual Recurring Revenue?
The difference between ACV and ARR is that, while ACV gives the value of revenue that your business can generate from a single contracted customer across a year, the ARR gives the recurring revenue your business can generate based on the number of yearly subscriptions. ARR is calculated at a particular time of the year whereas the TCV is normalized to one or more years based on the contract period.
Total Contract Value (TCV)
Q. What is Total Contract Value?
Total Contract Value or TCV is the total value of a contract including recurring charges, one-time service charges (like professional service fees and onboarding fees), and other additional payments made across the length of the contract. It does not include usage charges.
Q. How do you calculate Total Contract Value (TCV)?
Total Contract Value is calculated by adding the one-time fee with the recurring charges for the period as defined in the contract.
Total Contract Value = One-time fees + Total recurring revenue
For instance, consider a customer subscribing to your product for a two-year contract period at a price of $200/month. The one-time onboarding fee is $1000.
The TCV will be:
One-time fees + (Recurring fees * Contract period in months)
= $1000 + ($200 * 24) = $5800
Sign up conversion rate
Q. What is signup conversion rate?
Signup conversion rate is the metric used to quantify the number of website visitors who sign up for your product or service. It also includes users signing up for freemium or trial versions of the product.
Q. How do you calculate signup conversion rate?
The signup conversion rate is calculated by dividing the number of conversions recorded over a specific period by the total number of visits made to the website. To express it as a percentage, multiply by 100.
Signup conversion rate = (Number of conversions in a specific time frame / Total number of visitors) * 100
For instance, out of 150 people who visited your website, if 60 of them signed for your product or service, then the signup conversion rate is (60 / 150) * 100 = 40%.
Trial conversion rate
Q. What is trial conversion rate?
Trial conversion rate is the frequency at which customers under free trials get converted to paid plans over a specific period.
Q. How do you calculate trial conversion rate?
The trial conversion rate can be calculated by dividing the number of trials converted to paid plans during a period by the number of free trials at the beginning of the period. To express it as a percentage, multiply by 100.
Trial conversion rate = (Number of free trials converted to paid plans over a specific period / Number of free trials at the beginning of the period) * 100
For instance, if 50 users under free trials switched to paid plans in the last 30 days, out of 140 people who signed up for the free trial 30 days ago, then the trial conversion rate will be (50 / 140) * 100 = 35.7%.
Q. What is revenue recognition?
Revenue recognition is an aspect of accrual accounting where revenue is recognized only when the revenue is realized and earned, as opposed to when cash is received.
For example, suppose that an online subscription business collects the entire plan amount at the checkout page before the delivery of the product or service. Though the funds are collected upfront, the revenue in the accounting process throughout the year is recognized only after the goods or services are delivered.
Q. Why is revenue recognition important for a subscription business?
Revenue recognition is important for a subscription business because the subscription model involves ongoing delivery of goods and services—unlike traditional businesses that deal with one-time purchases.
When the customer is billed for a service that will be rendered over a certain period, the revenue obtained is not immediately recognized. Instead, part of that revenue is deferred over the subscription period.
This deferred revenue is classified as a liability, since the business is obliged to provide the service for the entire subscription period. This revenue recognition principle should be followed in order to remain in compliance with the ASC 606 revenue recognition standard. It also helps to maintain accurate financial statements for analyzing the financial performance of the company.