Definition
Mind you, this is not the one-off deals, not the services revenue, but the recurring dollars you can count on year after year.
Why ARR matters in SaaS
ARR is often the first number investors, boards, or acquirers ask for. A few reasons why:
- Predictability- ARR gives clarity on future cash flows, helping with planning and forecasting.
- Valuation anchor- SaaS companies are often valued as a multiple of ARR, not just revenue.
- Health indicator- Strong ARR growth signals product-market fit and scalability.
- Efficiency check- ARR growth vs. spend tells you how efficient your GTM motion really is.
ARR vs. revenue: Common confusion
ARR is not the same as total revenue. For example:
- If you sell a $100k perpetual license once, that boosts revenue but not ARR.
- If you sell a $100k annual subscription, that adds $100k ARR.
- If you sign a $10k/month subscription, that’s $120k ARR (even though you might record $10k in Monthly Recurring Revenue, or MRR).
Anything one-off (like services, setup fees, hardware) doesn’t count.
Examples:
- 10 customers paying $1,000 per month = $120,000 ARR.
- A two-year deal worth $240,000 = $120,000 ARR (annualized).
Where founders often trip up is in mixing in churn, upgrades, and downgrades. In practice, companies track:
- New ARR: revenue from new customers.
- Expansion ARR: revenue from existing customers upgrading.
- Churned ARR: revenue lost when customers cancel or downgrade.
- Net New ARR: New + Expansion – Churn.
This breakdown makes ARR a management tool, not just an investor slide.
Strategic pitfalls to watch
- Overstating ARR: Counting pilots, one-off deals, or non-recurring fees inflates the number and backfires in diligence.
- Not segmenting ARR: $1M ARR looks healthy, but if 70% comes from one customer, risk is high.
- Ignoring net retention: ARR growth without understanding churn is misleading.
Why investors obsess over ARR multiples
Valuation in SaaS is often shorthand: ARR × multiple. A $5M ARR company growing 100% year-on-year may be valued 10–15× ARR, while a $50M ARR company growing slower might get 5–8×. The multiple depends on growth, margins, retention, and efficiency.
When ARR can mislead
ARR looks clean on paper, but:
- A multi-year deal with upfront payment can distort ARR vs. cash flow.
- Heavy discounting to grow ARR fast can backfire in renewals.
- “Logo ARR” (just counting new names, not upsell) can hide expansion opportunities.
AI prompt
What to provide the AI beforehand
To get the most relevant output, be ready with:
- Current ARR figure (total and by customer segment if possible)
- New ARR booked in the reporting period
- Expansion ARR from upsells or cross-sells
- Churned ARR (customers who cancelled or downgraded)
- Any contextual notes (discounting trends, major customer risks, pipeline health)
