Every SaaS business has two primary focus areas:
- Acquiring new customers
- Keeping and growing existing customers (to increase the Lifetime value)
To keep running SaaS business in good health, business needs to understand, measure and monitor the following key metrics.
CAC – Cost to Acquire a Customer
CAC (Cost to Acquire a Customer) is defined as
CAC = Sum of all Sales and Marketing Expenses / Number of New Customers Acquired
So let’s say you’ve spent $1,000 this month on sales & marketing and have acquired 10 new customers. Your CAC would be $100, which means you’ve spent $100 to bring each new customer.
Monthly Run Revenue (MRR)
Monthly Recurring Revenue, almost always referred to as MRR, is probably the most important metric at all of any subscription business. The general concept is that MRR is a measure of the predictable and recurring revenue components of your subscription business. MRR is calculated as
MRR = SUM(Paying customers monthly fee)
The better way of doing it is to simply sum the monthly fee paid by every single paying customer of your installed base. So let’s say you have Customer A paying $200/mo and Customer B paying $100/mo. Your MRR would be $300.
Annual Run Revenue (ARR)
Annual Run Revenue is a term used to describe annualized earnings extrapolated from a shorter time frame. ARR is used to estimate future revenues or to represent the size of a business in terms of annual revenues.
Let’s say your company had $1,000,000 in earnings in January; you could say predict that your annual run rate for that year would be $12,000,000 by simply multiplying $1,000,000 * 12.
But run rates may cause inaccurate projections if your business has a seasonal cycle for revenue. If the time period used to calculate the run rate is not indicative of normal revenues, then the annualized earning could either be overstated or understated. For instance, some retailers experience higher sales during the holiday seasons and lower sales during the summer months. If a retailer uses December sales as the basis for the run rate, sales will be overstated. If the retailer uses July sales as a run rate, sales will be understated.
Churn is the number or percentage of subscribers to a service that discontinue their subscription to that service in a given time period. In order for a company to expand its client base, its growth rate (number of new customers) must exceed its churn rate (number of lost customers).
Customer Churn = Total # of Churned Customers
Churn Rate = Total # of Churned Customers / Last Month Total # of Customers
Revenue Churn = SUM (MRR of Churned Customers)
Let’s say that 3 customers have discontinued their subscriptions to your service in a given month. Now let’s consider that the first customer was paying $100/mo, the second was paying $50/mo and the third was paying $100/mo.
Your revenue churn would be the sum of subscription fees that will no longer come into your bank account from next month, which in this case will be $250
MRR Churn = SUM (MRR of Churned Customers)
MRR Churn can also be represented in a percentage, referring to how much it represents your total MRR.
MRR Churn % = Churned MRR / Last Month’s Ending MRR
LTV – Customer Lifetime Value
Customer Lifetime Value usually referred to as LTV (sometimes as CLTV or CLV) measures the profit your business makes from any given customer. The purpose of the customer lifetime value metric is to assess the financial value of each customer, or from a typical customer in case you’re measuring it generally.
Customer Lifetime value is calculated as
LTV = (ARPA * % Gross Margin) / % MRR Churn Rate
ARPA is the Average Revenue per account. This is different from MRR as typically single account might have multiple subscriptions.
ARPA = MRR/ Total Number of Accounts.
Gross Margin is the total revenue the company generated minus the cost of goods, which in the case of a SaaS company can include the cost of operations and support services.
Gross Margin = Total Revenue – Cost of Goods