SUBSCRIPTION FINANCE
Recurring Revenue Optimization: The Guide to Monthly Recurring Revenue
What is Monthly Recurring Revenue (MRR)?
One of the biggest takeaways for businesses of any type in recent years is moving away from one-time purchases and towards a monthly subscription or consumption based business model. This approach is becoming increasingly popular among companies of all types, as it creates a longer-standing and consistent source of revenue. The technology industry refers to it as “Software as a Service” (SaaS) or “Anything as a Service (XaaS)”, but companies of all kinds can see the value in offering add-ons and services to existing customers, which can increase their monthly revenue.
MRR Definition
Monthly recurring revenue (MRR) is a predictable and consistent source of income that a business can expect to receive each month. It represents the total value of all customer relationships, normalized to a monthly basis. Although not every company is in the SaaS business, there is still value in this model because knowing the number of customers signed up each month allows for easier forecasting of future revenue and planning for expansion or new offerings.
Why is MRR important for a subscription business?
Monthly recurring revenue is a crucial metric for subscription businesses and is highly valued by investors and Wall Street. It provides valuable insights into sales and cash flow dynamics and is the foundation for calculating customer lifetime value (CLV), projecting future revenue, assessing average selling price (ASP) trends, and more. Smart MRR analysis can also help uncover a range of revenue opportunities, such as upselling to customers who are extracting outstanding value, cross-selling to customers who are receiving good value, or offering down-sells to customers who are receiving low value and are at risk of churning.
MRR can answer important questions such as: is my business growing or contracting? How much deferred revenue am I building into my revenue base to drive further growth? Why is my recurring revenue increasing or decreasing? Is it due to larger contracts, fewer discounts, or a new product? If you want to get a fundamental understanding of your business, net new MRR is a great place to start.
Monthly Recurring Revenue Formula: How To Calculate MRR
To calculate monthly recurring revenue, multiply the total number of paying users by the average revenue per user (ARPU).
Monthly Recurring Revenue Formula:
Number of Paying Users x ARPU = MRR
What Are Some Examples of Calculating Monthly Recurring Revenue (MRR)?
Here are a few examples of how to calculate MRR:
Imagine you’re a growing SaaS company with 2,358 customers who have each paid an onboarding fee of $65 and an average of $149 per month for your service. To calculate your monthly recurring revenue, ignore the one-time $65 onboarding fee as it does not count towards MRR. Instead, focus on the number of customers (2,358) and the average amount they pay per month ($149). Plug those numbers into the formula:
2,358 Paying Users x $149 = $35,134 in Monthly Recurring Revenue
In a different scenario, let’s consider a SaaS company with 2,000 customers and various pricing tiers:
Tier 1: 500 customers paying $50 per month
Tier 2: 1,000 customers paying $100 per month
Tier 3: 500 customers paying $200 per month
To calculate this company’s MRR, add up the recurring revenue from each tier: $25,000 + $100,000 + $100,000 = $225,000/month
This SaaS company has a total monthly recurring revenue of $225,000
Finally, let’s take a company that is currently losing revenue and wants to understand where this loss is coming from. In this case, we would calculate the churn MRR. We’ll do this by:
Determining the time period you want to measure
Identifying the customers who have churned (in this example, costumes who have canceled their subscriptions)
Summing the MRR lost due to churn
Dividing by the total number of customers
Let’s say a SaaS company has 100,000 customers and during the past month, 1,000 customers churned (canceled their subscription). The average MRR per customer was $100, so the MRR lost due to churn for the month would be $100,000 ($100 x 1,000 customers).
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What Are The Different types of Monthly Recurring Revenue (MRR)?
When analyzing your company’s financial health, there’s more than one way to use MRR to draw valuable insights. Here are the types of MRR you can calculate:
Gross MRR
Gross MRR refers to the total amount of monthly revenue generated from all subscribers, before any discounts or adjustments are applied.
Net MRR
Net MRR takes into account discounts, refunds, and other adjustments, and represents the actual amount of revenue generated each month.
New MRR
New MRR is recurring revenue that comes from new customer acquisitions. For example, if you add a new customer to one of your monthly subscription plans, the revenue they contribute is considered “new MRR”.
Expansion MRR
Expansion MRR comes from upselling or cross-selling to existing customers. If a current customer upgrades their subscription by adding more users to their account, that revenue counts towards Expansion MRR.
Churn MRR
Churn MRR is revenue that decreases due to downgrades or gets lost due to canceled subscriptions. This can occur when a customer cancels their subscription or downgrades to a lower tier plan. Churn MRR is particularly important because it gives insight into the health of the overall customer base and helps you identify areas for improvement. As you know, churn is the enemy of all subscription businesses and should be monitored closely. So, keeping an eye on Churn MRR is essential.
Contraction MRR
Contraction MRR measures the decrease in Monthly Recurring Revenue (MRR) over a certain period of time. It is calculated by subtracting the current MRR from the MRR in the previous period. A “contraction in MRR” indicates that the company is losing recurring revenue. This can be due to many factors, like a decrease in the number of paying customers, a decrease in the amount paid by existing customers, or a combination of both. It’s important for subscription companies to monitor their contraction MRR and identify the causes to reverse the trend and improve financial performance.
Reactivation MRR
Reactivation MRR is revenue that is recovered after reacquiring past customers. This can be done through email, retargeting ads, or even reaching out to customers on social media. It’s a good idea for subscription companies to monitor Reactivation MRR because the cost of re-acquisition models can add up quickly.
How analyzing MRR can help uncover revenue opportunities?
MRR analysis can help subscription businesses discover a range of revenue opportunities. For example, MRR can be used to help determine which customers to target for future upselling, cross-selling, and down-sell opportunities.
On top of that, MRR can be used to answer essential questions, such as:
Is my business growing or contracting?
How much-deferred revenue am I building into my revenue base that I can use to drive further growth?
Why is my recurring revenue increasing or decreasing? Is it a result of larger contracts? Fewer discounts? A new product?
What are The Benefits of Monthly Recurring Revenue (MRR) for Subscription Businesses?
There are several benefits to focusing on monthly recurring revenue (MRR) for subscription businesses. Here are some of the most important:
Increased Predictability: With MRR, subscription businesses can predict their future revenue with much more accuracy, which makes it easier to plan for future growth and expansion.
Improved Sales Planning: MRR analysis can help companies determine which products and services are selling well and which areas need improvement. This information can then be used to make data-driven decisions about products to focus on in the future.
Better Understanding of Customer Lifetime Value (CLV): CLV is the total value a customer brings to a business over the entire time they are a customer. MRR is a key factor in determining CLV, which helps businesses understand the long-term value of each customer.
More Insight into Churn: MRR also makes it easier to monitor and analyze churn (the loss of customers due to cancellations or downgrades). By keeping an eye on churn MRR, businesses can take steps to reduce churn and retain more customers.
Better Cash Flow: MRR provides a steady stream of revenue that will ensure a healthy cash flow for the business. This is especially important for growing businesses that need to invest in new products, marketing, and other initiatives to drive growth.
MRR Optimization Strategies: How to Improve MRR
Here are some strategies businesses can use to optimize their monthly recurring revenue:
Cross-selling and Upselling: When improving MRR, starting with an existing customer base is always a great idea. These customers can be offered additional products and services through upsell and cross sell opportunities, helping businesses increase their MRR per customer.
Offer Discounts and Promotions: Discounts and promotions can incentivize customers to upgrade their subscriptions, or subscribe for longer periods of time, leading to a growth in MRR.
Improve Customer Retention: When a business focuses on reducing churn, it can increase its MRR by keeping customers around for longer.
Focus on Customer Satisfaction: Ensuring that customers are satisfied with the products and services they receive is key to reducing churn and keeping MRR steady.
Introduce New Products and Services: Offering new products and services can improve MRR by attracting new customers and helping upsell to existing ones.
These optimization strategies can help businesses increase their monthly recurring revenue and ensure a more predictable, steady stream of income.
Key Takeaways on Monthly Recurring Revenue
Saas companies love MRR, and for a good reason – the model works because this metric doesn’t lie when it comes to the health of a business. This is why monthly recurring revenue is one of the essential metrics for subscription businesses. By measuring and analyzing this metric for your subscription business, you can stay on top of the information your investors care about most.
Think about what your company offers, and whether there is a way to expand further. Can you find new income streams within a monthly model that keeps customers interested enough to return? This is one of the reasons MRR is so effective for Saas companies: new MRR is a game changer financially. Having cash that a company can count on makes a big difference in future planning and projects.
Combining MRR with other key metrics essential to subscription businesses can help you make even smarter decisions. These metrics include total active customers, total active subscriptions, and total contract value (TCV), Net Revenue Retention (NRR) and others. To learn more about why those metrics are also worth your attention, check out our complete guide on The Fundamentals of Subscription Finance.
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