ARR

What it is

Annual Recurring Revenue (ARR) is the normalized value of the recurring revenue a business expects to earn over a 12 month period from its active subscriptions or contracts. It counts only recurring components (subscription fees, committed platform access, recurring support), and excludes one time items such as setup fees, professional services, or usage overages that are not contractually recurring.

ARR is the annualized cousin of MRR (Monthly Recurring Revenue): ARR is roughly MRR multiplied by 12, though most teams build it directly from contract terms rather than a simple multiplication.

Why it matters

ARR is the headline health metric for SaaS and subscription businesses because it captures predictable, forward looking revenue rather than backward looking booked sales.

• It smooths out the lumpiness of annual or multi year contracts into a comparable run rate.
• It is the denominator for retention metrics like Net Revenue Retention (NRR) and Gross Revenue Retention (GRR).
• Investors and boards use ARR growth, plus efficiency ratios, to value the business.

How it is used in practice

Teams decompose ARR movement into components across a period:

• New ARR: from newly acquired customers.
• Expansion ARR: upsell, cross sell, seat growth from existing customers.
• Contraction ARR: downgrades and reduced seats (negative).
• Churned ARR: fully lost customers (negative).

The walk is: `Beginning ARR + New + Expansion - Contraction - Churn = Ending ARR`.

Common pitfalls to avoid:

• Do not include non recurring services or variable usage that is not committed.
• Convert multi year contracts to an annualized figure (do not book the full contract value as one year of ARR).
• Keep currency and timing conventions consistent.

Worked example

A company starts the year with 1,000,000 in ARR.

• Signs 12 new customers worth 200,000 in New ARR.
• Existing customers upgrade seats: 80,000 Expansion.
• Some customers downgrade plans: 30,000 Contraction.
• Two customers cancel: 50,000 Churn.

Ending ARR = 1,000,000 + 200,000 + 80,000, 30,000, 50,000 = 1,200,000.

Net Revenue Retention (existing base only) = (1,000,000 + 80,000, 30,000, 50,000) / 1,000,000 = 100%, showing expansion just offset losses before new sales.