MRR: three letters, but way more challenges. We understand the struggle - the confusion between different types of MRR, the pitfalls in the calculation, and the constant pressure to boost this crucial metric.
That's why we've created this guide.
Today, we'll dissect the complexities, debunk the myths, and deliver practical, actionable strategies to enhance your MRR. We'll address the pain points you face, from dealing with churn to optimizing pricing, and provide insights that are rooted in real-world Software as a Service experience.
What is MRR?
Monthly Recurring Revenue - MRR measures the predicted income that your business will receive from recurring sources.
It is usually calculated by multiplying the number of customers paying for a service or product times the average monthly cost per customer. Therefore, MRR helps businesses understand their revenue streams in a more predictable and sustainable manner.
Thanks to focusing on recurring revenue sources, like those from annual contracts, the MRR growth rate provides a clearer picture of a company's financial health compared to relying solely on one-time sales or sporadic transactions.
How MRR is Calculated
MRR is a measure of the predictable and recurring revenue components of your subscription business models. It is typically calculated by multiplying the total number of paying customers by the average revenue generated per user (ARPU).
Here's a simple MRR formula:
MRR = Total Number of Paying Customers x Average Revenue Per User (ARPU)
Let's look at a few examples:
Example 1: If you have 100 customers, each paying $50 per month, your MRR would be 100 customers x $50 = $5,000.
Example 2: If you have 50 customers on a $20 per month plan, 30 customers on a $50 per month plan, and 20 customers on a $100 per month plan, your MRR would be:
(50 customers x $20) + (30 customers x $50) + (20 customers x $100) = $1,000 + $1,500 + $2,000 = $4,500.
Remember, MRR should only include recurring revenue. One-time payments, such as setup fees or non-recurring add-ons, should not be included in the MRR estimate.
Also, if you offer discounts, the discounted monthly price should be used in the MRR calculation, not the full price.
💡 MRR is a simplified metric. It doesn't account for factors like monthly churn or the time value of money. However, it's a useful tool for understanding the overall health and growth of subscription and SaaS companies.
What is the Difference Between MRR vs. ARR?
MRR takes into account any price changes and upgrades/downgrades in services throughout the given month. It can be represented as a dollar amount (for example, $100 per month) or a percentage of total revenue.
Annual Recurring Revenue (ARR), on the other hand, is a measure of the predicted income your business will receive over a 12-month period from recurring sources.
It is usually calculated by multiplying the number of customers paying for a service or product times the average annual cost per customer. It takes into account any price changes and upgrades/downgrades in services throughout the year. ARR is used often as well, and it can be represented as a dollar amount (for example, $1,200 per year) or a percentage of total revenue.
Both ARR and MRR provides many insights and are important figures for businesses to measure and track, as they can be used to gauge customer loyalty, forecast revenue growth rates, and help allocate resources. They are also useful when it comes to making decisions about product development or pricing changes.
For instance, if you’re considering changing prices for monthly fee services, it could make sense to compare the MRR of customers who have been subscribed for a certain amount of time vs. those who just signed up.
This way, you can get an idea of how a price change might affect customer loyalty and revenue over time.
Different Types of MRR
#1 New MRR
This is the revenue that comes from new customers.
⏩ For example, if a software company gains 10 new customers in a month, and each customer subscribes to a $100 per month plan, the New MRR for that month would be $1,000.
#2 Expansion MRR
This is the additional revenue that comes from existing customers who upgrade their plans or purchase additional services.
⏩ For instance, if 5 existing customers of the same software company decided to upgrade from the $100 per month plan to a $200 per month plan, the Expansion MRR indicates for that month $500.
#3 Net New MRR
This describes how much new MRR you have generated during a month as a result of new customers and new expansions, minus churn.
⏩ Suppose a software company acquires 50 new customers per month, each paying $100 per month. They have secured $5,000.
However, during the same period, they experienced churn and lost 20 customers who were paying $80 per month. A company lost $1600, and the Net New MRR generated $3400.
#4 Reactivation MRR
This is the revenue that comes from previous customers who decide to reactivate their subscriptions.
⏩ In this case, if 3 customers who had previously canceled their $100 per month subscriptions decide to reactivate them, the Reactivation MRR for that month would be $300.
#5 Contraction MRR
This is the lost revenue that comes from existing customers who downgrade their plans or reduce their services.
⏩ Accordingly, if 2 customers of the software company decided to downgrade from the $200 per month plan to the $100 per month plan, the Contraction MRR for that month would be -$200.
#6 Churned MRR
This is the lost revenue that comes from customers who cancel their subscriptions altogether.
⏩ Let’s say, 4 customers on the $100 per month plan decide to cancel their membership, the Churned MRR for that month would be -$400.
The Importance of Monthly Recurring Revenue for SaaS Business
MRR is an important metric for Software as a Service businesses as it provides a predictable and stable stream of revenue.
Tracking MRR, businesses can forecast future revenue and make informed decisions about growth and investment.
MRR growth is a vital indicator of a SaaS business's success and scalability.
Consistent month-over-month growth in MRR demonstrates the business's success in customer acquisition, retaining existing ones, and effectively monetizing its annual or monthly subscription plan.
Valuation and Investor Confidence
MRR is one of the crucial players in the valuation of a Software as a Service company. Investors often evaluate a business based on its MRR and its potential for long-term growth.
Higher MRR figures can increase investor confidence and attract funding opportunities for expansion and development.