What is the real definition of MRR and why does it matter to your SaaS business? Is the SaaS metric a source of confusion in your financial department? Below is a clear guide on MRR and the components that your financial team should keep an eye on when calculating the metric.
One of the important metrics in a SaaS monthly subscription business is the MRR, which means Monthly Recurring Revenue. The MRR is an arrears measure of the subscription revenue realized through a contract or commitment.
How to Measure MRR
There are no standards on the sales items that should be included in the MRR. Therefore, you are free to determine what should or should not be included. It is good practice to include base or fixed fees in your MRR calculations. For consumption or variable fees, you can include them only if your revenue stream is consistent or predictable. The general rule of thumb is that if consumption or variable fees are included, they should be segmented for more distinct line items.
For SaaS business, MRR measures normalized revenues estimate of the monthly revenue rather than the “reported revenue”. For example, if your SaaS business has a recurring billing subscription of $1,200 from May 15th 2012 to May 14th 2013, the MRR value of each of the active 13 months during the term is $1,300.
In this example, the MRR ($1,300) does not equal the actual revenue of $1,200. SaaS companies can have a difficult time with this MRR figure mostly as the finance team is used to numbers tallying up. To make the numbers tally on the revenue sheet, companies can include the $100 only in May of either 2012 or 2013.
Measuring Cancelations in MRR
Measuring cancelation is another big challenge when measuring MRR. Some of the finance tools in the market, for example QuickBooks, do not include contract jobs and have no way of measuring revenue streams. Most SaaS companies turn to spreadsheets to track their contracts and cancelations.
However, it is not easy to measure cancelations on a spreadsheet when you do not have the data to support it. Your recurring billing systems should be able to form a cancelation data element that you can clearly record and measure. When measuring cancelations, you have to consider their timing. The general rule of thumb is to record a cancelation at the same time that you would record a renewal. This will give you a clear picture of churn.
For example, if a subscription ends on May 31 and is renewed, the renewal date of the new term will be June 1. Your MRR renewal calculations should be June 1. On the other hand, if the contract is canceled, the cancellation should be recorded on June 1 and not May 31.
The Importance of MRR
MRR measures the predictable revenue of recurring subscription businesses. Depending on the contract, MRR may exclude variable and one-time fees but for monthly subscription businesses, the items can be included.
The importance on MRR lies not on a single revenue number, but on the momentum around the company’s numbers. MRR can be used to measure downgrades, upgrades, renewals, new accounts, revenue churn, etc.
To explain this better, MRR growth is communicated as
- From New Sales
- From Upgrades/Renewals
- From Downgrades
- From Cancelations/Non-Renewals
MRR helps SaaS businesses to make sense of all aspects of their service operations that relate to finance. The data from MRR can help SaaS businesses identify areas that need more resources to improve revenues and reduce churn.
MRR is a critical metric for any subscription based business. Companies have to segment different areas of MRR to get a true picture of their numbers. MRR is a core operating and board-level metric.
And obviously, MRR growth is a key metric in the SaaS community. The calculation of this metric becomes extremely complicated when your customer base and operations grow.
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