The various types of ARR : A Guide to SaaS Revenue Metrics

You are a seed stage SaaS founder walking on the street, thinking about what you want to achieve, you start building your model and selling and suddenly you realise not all revenue is the same.

There is recurring revenue and non recurring revenue, there is pure subscription and usage based, there is contracted, billed and realised ARR. It is important for you to know the difference among these because wrong reporting can not only cost you your next funding round but also can lead you to unreliable insights and most importantly give you an erroneous picture of where the business is heading.

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Let’s try to understand what these terms mean first and then we can move on to their implications.

1. Contracted ARR: This represents the total value of the agreement or contract signed with a customer. It reflects the amount specified in the contract that the customer has committed to paying over a defined period. Typically, this value is recorded and tracked in the Customer Relationship Management (CRM) system

1. Invoiced ARR: Not all contracted ARR is immediately invoiced. In some cases, invoicing may be delayed by a few months, include discounts, or be based on actual usage. Additionally, there may be instances where customers choose to pay for the entire year upfront.
2. Usage-Based ARR: This metric represents the amount that should have been billed on an accrued basis for a given month. It takes into account the usage or consumption of the software or service and helps track revenue based on actual usage.
3. Realized ARR: Realized ARR is the revenue collected after it has been invoiced. It's important to note that even after invoicing, there can still be churn, resulting in a difference between invoiced ARR and realized ARR.
4. Unbilled ARR: Unbilled ARR occurs when the company has already started providing services to the customer, but the invoice will be generated at a later date, typically at the end of a specific time period. This can create a temporary gap between revenue recognition and billing.
5. Unearned ARR: Unearned ARR refers to situations where the invoice has been generated, but the company has not yet started providing the services covered by the contract. This could occur when there is a delay in implementing or delivering the software or service to the customer.

Why do you need to measure them?

Understanding these additional terms provides a more comprehensive view of the revenue dynamics within a SaaS business. It allows for better tracking of invoicing, revenue recognition, and the timing of service delivery, ultimately contributing to a more accurate assessment of the business's financial performance and trajectory.

• When there is a significant disparity between contracted ARR and invoiced ARR, it indicates potential issues in the sales process. This can be attributed to delays in implementation or a prolonged timeline for starting the delivery of services. It can also result from offering substantial discounts to customers. Both scenarios can have long-term implications for the business. While it may be tempting to boast about a high contracted ARR of, for example, $30 million, if only $5 million is being invoiced, it is crucial to thoroughly understand the journey from contract signing to invoicing.
• Invoicing delays and a lengthy collection cycle directly impact cash flow, posing challenges and increasing the risk of bad debts. Effective management of the collection cycle is essential for maintaining financial stability.
• Comprehending the complexities of go-live and invoicing processes allows for better cash flow management, risk mitigation, and accurate revenue recognition. Streamlining these processes enhances financial stability and sustainable growth

Having clear projections for invoicing and revenue realization enables accurate financial assessments, optimizing resource allocation and guiding growth strategies and investments.

Monitoring these metrics closely and minimizing discrepancies ensures a reliable revenue stream, improves financial forecasting, and instills investor confidence, increasing the chances of securing future funding.

Tools to the Rescue:

Utilizing appropriate tools can greatly aid in addressing the challenges and complexities associated with revenue management and optimization in a SaaS business. Here are a couple of tools that can provide valuable support:

• Planning & Analytics Tools: These tools not only assist in measuring revenue metrics but also enable proactive planning for the future. They provide insights into customer risk analysis, revenue projections, and facilitate strategic decision-making. With these tools, you can identify at-risk customers, allocate resources effectively, and forecast future invoicing and revenue streams.
• Order-to-Cash (O2C) Tools: Dedicated O2C tools, such as Highradius (a company valued at $3.1 billion with approximately $250 million in revenue), focus on streamlining the visibility and management of the entire invoice-to-collection process. Particularly beneficial for early and mid-stage SaaS startups, these tools enhance visibility, reduce delays, and improve predictability of revenue collection. They help optimize the cash flow cycle, minimize bad debts, and improve overall financial performance.