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Annual Recurring Revenue

Annual Recurring Revenue (ARR) is the total annualized value of a company’s customer contracts. ARR is one of the most popular revenue metrics for SaaS business, because it represents the likely revenue current customers will produce over the next year. For a one year contract with no expansion or contraction, ARR would equal the revenue from that customer for the year. If there is expansion or contraction, ARR reflects the revenue that would be received if the most recent version of the contract continues for another year. Therefore:

ARR = MRR X 12

ARR is most appropriate for SaaS that primarily sell annual contracts since it’s most predictive for companies with relatively infrequent logo churn. However, it can also be used for businesses with monthly or quarterly contracts, as long as it’s analyzed in conjunction with retention rates to get a full picture of customer behavior. ARR can even be used for usage-based businesses, though in that case it’s better called Annualized Run Rate to indicate that there’s no assumption that the revenue will recur.

Benchmarks: ARR and ARR growth are some of the most important metrics used by VCs. As a rule of thumb, investors are seeking:

Series A: $1m+ ARR, 3x Year over Year Growth (10% CMGR)

Series B: $5m+ ARR, 2.5x Year over Year Growth (8% CMGR)

Series C: $10m+ ARR, 2x Year over Year Growth (6% CMGR)

It’s important to note that VCs are typically seeking to invest in companies with top decile growth rates and consider many factors when making investments. Companies that don’t hit these benchmarks can still get funded, or continue to grow their businesses with non-venture capital.

Growth Rates: Period over Period, Year over Year, CMGR

‍Settings: Segments, Date Range, Date Aggregation, Revenue Type

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Stage Conversion Rate

Stage Conversion Rate is the While Pipeline Value sums the total ARR of active opportunities in pipeline, weighted pipeline is weighted based on the current deal stage. Weighted pipeline value is a more accurate estimate of Closed Won ARR based on the current pipeline value.

How do I calculate pipeline?

Let's assume we have the following list of opportunities currently active in our sales process:

‍

Deal Name

Sales Owner

Stage

ARR

ACME Corp. - New Business
Bugs Bunny
Stage 1
$10,000
Bonner Books - Upsell
Bugs Bunny
Stage 2
$25,000
CHOAM - New Business
Daffy Duck
Stage 2
$15,000
Daedalus Research - Upsell
Daffy Duck
Stage 3
$30,000
Bugs Bunny
Electric Enterprise - New Business
Stage 3
$50,000
$20,000
Fabulous Factories - New Business
Daffy Duck
Closed Lost

‍

The total pipeline for these opportunities is $130,000. Additionally, we can also get pipeline totals for our two sales reps: Bugs Bunny ($85,000) and Daffy Duck ($45,000).

Note that Fabulous Factories - New Business is omitted from this sum, as the stage is marked as "Closed Lost".

We can summarize our pipeline by Stage to understand how much ARR is in each step of the sales process. To summarize the Pipeline ARR by Stage, we generate the following ARR table:

Stage 1 Pipeline

Stage 2 Pipeline

Stage 3 Pipeline

Total Pipeline

$10,000
$40,000
$80,000
$130,000

‍

While we have the total pipeline value here, we can apply the weightings to more accurately estimate how much of the pipeline ARR will be Closed Won.

What is probability to close?

Probability to Close is a percentage that estimates how much of the ARR that is in a particular stage of a pipeline is expected to be Closed Won. Typically, Probability to Close will be lower in earlier stages of the sales process and higher in later stages of the sales process.

If we multiply the probability to close by the Pipeline ARR, we'll get the Weighted Pipeline ARR value in each stage.

Stage 1

Stage 2

Stage 3

Pipeline ARR ($)

$10,000

$40,000
$80,000

Probability to Close (%)

25%
40%
65%
$2,500
$16,000
$52,000

Weighted Pipeline ARR ($)

Probability to Close assumptions for each stage assume that deals in different stages have a different chance of being won. Deals in Stage 1 are 25% likely to be won, while deals in Stage 2 are 40% likely to be won, and deals in Stage 3 are 65% likely to be won.

After applying the probability to close to the Pipeline ARR, we now have $2,500 in Stage 1, $16,000 in Stage 2, and $52,000 in stage 3, for a total weighted pipeline value of $70,500. This estimate is closer to the real value we expect to have in Closed Won ARR.