Monthly Recurring Revenue (MRR) Explained in 5 Mins or Less
By
Rahul
Monthly Recurring Revenue, or MRR, can be one of the metrics most helpful to track in your business. It is not a new concept, but it is a concept that is used often.
Most businesses have to deal with revenue that fluctuates month-to-month. This is especially true for subscription businesses, where monthly payments are recurring, for example, $9.95 per month for an OTT subscription.
It’s important to track your revenue to know how much cash you’re bringing in. Most businesses track the revenue they make daily and weekly, but what about the growth?
This blog will help clear up what MRR is and why you should use it.
What is Monthly Recurring Revenue?
Monthly Recurring Revenue (or MRR) is a metric used to calculate how much revenue your business earns each month. It’s a style of income that’s different from the traditional way because it focuses on recurring revenue.
It is a very effective revenue metric because it’s easy to understand and important to track. It’s more accurate and reliable for measuring your business’ revenue and growth because it removes the unpredictable impact of step and ladder contracts that can distort recurring revenue reports.
The subscription business model is changing how companies look at their recurring revenue metrics. When businesses sell their monthly subscriptions, they take in the money right away or at least very soon after the sale. It can lead to a substantial cash outflow in a month.
However, the monthly recurring revenue (MRR) enables companies to see trends in their subscriptions better and include new subscription revenue in their metrics.
Types of Monthly Recurring Revenue
MRR is a good metric to track your business’s growth, stagnation, or downfall. It indicates the current business scenario and helps plan future business revenue strategies.
Based on the variations, MRR can be broken down into different types depending upon its movement in an upward or downward direction.
Here are some monthly recurring revenue terms that you should be aware of:
#1. New MRR
New MRR represents the additional revenue generated only from new customers in any given month. It shows an expansion in the number of new customers who subscribed to your products or services that month.
Here’s a simple example of calculating the new monthly recurring revenue generated in a given month:
If you start a month with 50 customers and get 10 new customers at the month’s end, then you gain 10 new customers. Let’s say that they pay $50/month, so your New MRR will be 10*$50 = $500.
New MRR helps in keeping a check on the Customer Acquisition Cost (CAC). If your customer acquisition cost is higher than the new MRR, then you need to revise the marketing budget, so you don’t end up making a loss.
#2. Expansion MRR
Expansion MRR represents the additional revenue gained from existing customers in a month. This revenue might come from upgrades, cross-sells, or any upsells.
One of the core benefits of Expansion MRR is that it’s easier to upsell something to existing customers rather than acquire new customers.
A typical formula to calculate MRR looks like this:
Expansion rate = (Expansion MRR at the end of the month – Expansion MRR at the start of the month)/ (Expansion MRR at the beginning of the month) *100
For example, if the expansion MRR at the beginning of the month was $500 and $1000 at the end of the month, then
Expansion rate = (1000-500)/ (500) * 100 = 100% Expansion MRR.
#3. Reactivation MRR
Reactivation MRR is the monthly revenue earned from your previously canceled subscription members. Simply put, some lost customers have returned to use your product or service and paid a monthly subscription fee.
For example, if 10 of your lost customers reactivated their subscriptions and each pays $50/month, the reactivation MRR is $500.
A reactivation MRR indicates a positive signal for any recent business decision. And the best thing about reactivation MRR is that these lost customers are already aware of your brand presence, and therefore it takes less effort to convert them.
If the value of reactivation MRR keeps increasing over months, try to retain these customers with your services. As a cautionary measure, avoid offering heavy discounts to get lost customers because it might increase your churn.
#4. Contraction MRR
Contraction MRR is the amount your business loses in any given month due to downgrades or discounts offered to existing users.
Although it may sound similar to churn MRR, it’s different. Churn MRR indicates subscription cancellations, but contraction may be due to other reasons like a clearance sale or heavy discounts.
#5. Churned MRR
Churn MRR represents the total amount a business loses due to the unsubscription of existing and new users in any given month. New users might pay for the product subscription and cancel the same within a specified number of days as a part of the refund policy.
In short, it’s the amount lost due to subscription cancellations by new or existing users.
A high churn rate indicates that customers lack confidence in using your product and there is room for improvement in product quality.
How to Calculate Monthly Recurring Revenue?
Calculating Monthly Recurring Revenue is simple. All you have to do is take the Average Revenue per User in a month and multiply it by the total number of new subscriptions in that month.
The mathematical formula goes like this:
MRR = Average Revenue per User(ARPU) * Number of subscribers
For example, if your ARPU is $100 and you got 10 new subscriptions, the MRR becomes
MRR = $100 * 10 = $1000.
Now that you know how to calculate MRR, this opens up a new chapter that discusses a reasonable MRR rate.
What is a Good MRR Rate?
Good MRR rate varies from business to business depending upon the market, consumer demographics, category of business, and many more factors. Here are the MRR rate stats gathered from KeyBank SaaS Survey Results.
It states the more you spend on marketing and advertising, the higher rate of MRR you should expect:
- Spend less than 20% of revenue – 21% MRR
- Spend 20-40% revenue – 24% MRR
- Spend 40-60% revenue – 29% MRR
- Spend over 60% revenue – 73% MRR
Common Mistakes in Calculating MRR
Since MRR is a crucial metric for subscription businesses, business owners must be cautious when calculating it.
Here are some of the most common mistakes that SaaS owners make while calculating their Monthly Recurring Revenue.
#1. Including One-time Payments
One-time payments are not “recurring,” and therefore, these payments do not belong in Monthly Recurring Revenue. Since you don’t anticipate receiving them frequently, including them in your MRR calculations will cause your revenue expectations to be overstated and your financial model to be distorted.
#2. Including Free Trials
Including trials and their anticipated subscription value before they become customers is perhaps the most common mistake. We all know that many trials fail to turn into sales, so doing this basically gives you a consistently high number of net new and churned customers.
#3. Including Annual or Lifetime Contracts in a Single Month
When calculating MRR, you should divide someone’s subscription value by the anticipated length of their subscription, even if they pay you in full upfront annually or buy a lifetime subscription. This is due to momentum measurement, one of the primary applications of monthly recurring revenue.
How to Use MRR for Tracking Growth?
If observed and analyzed carefully, MRR provides deep insights to help you grow your business. Let’s see a few critical insights that you can get after analyzing MRR.
Performance
MRR helps you keep track of your revenue month-on-month basis and provides insights into your business growth.
Calculating your revenue on a monthly basis averages the volatility and occasional sale spurts. It helps you estimate the steady cash flow needed to build a sustainable business.
Moreover, it creates a set of databases that you can perform analysis on and predict the progress of revenue in a given year.
Budgeting
Budgeting is crucial for every business. MRR helps you track monthly expenses and expenditures incurred on business operations. It gives you a clear idea of where you should spend money and where you stop cutting down your resources. Over a period of time, this will help you develop an expanding business plan.
Forecasting
MRR is an essential metric for forecasting revenue for upcoming months, both in the short and long term. It helps anticipate the income and strategize the efforts needed to meet the revenue targets.
As an example, if the MRR is X in a given month, you can use it as a benchmark for calculating the probable revenue in the next month. If your business is steadily growing, you can consider a 3%-5% rise in the upcoming months.
Ways to Grow MRR
Further improving your MRR is difficult. However, it merits the work. The following are two things you can do right now to work on your month-to-month repeating income.
#1. Set a Pricing Strategy
Setting the correct price for your product is not easy. Some users will find it a right fit, while others may think it’s expensive.
There is no direct science to calculating the correct pricing for your business services. One of the best ways to compare the prices to that of the competitors and check if your product justifies the amount.
You can always keep testing the prices by performing A/B tests after thoroughly analyzing your recent buyers. Check their spending capacity and the features you offer, and then experiment with the prices.
#2. Find Upsell Opportunities
Upselling opportunities are sale strategies to increase the Average Order Value (AOV) from customers. It helps generate a steady flow of Expansion MRR that will help you increase the Monthly Recurring Revenue over time.
Segment your clients in a given customer journey and proposition logical upsell at different stages in the buying process. It can be on the product page when somebody adds a product or during the checkout process. Generally, upselling conversions are higher for existing users compared to new users.
#2. Improve Product Quality
Improving your product is the most effective way to reduce the churn rate. Instead of focusing on gaining new customers, one should address any issues in the product that cause customers to switch to your competitors.
To accomplish this, you want an extraordinary product proposition and provide quality customer support, in addition to client requirements that improve the experience of your product.
#3. Make Upgrading Easier
Offer different pricing plans and make it easier for the subscribers to upgrade to the higher pricing plans. You can also come up with a scalable income model if your product usage includes some unlimited usage metrics.
For instance, if you’re selling a SaaS product that can be used unlimited times, you can restrict it to a limit of 10 users. After consuming 10 copies, users need to pay some amount for more usage copies.
Final Words
Here, we learned why you should be tracking your MRR, how to track it, and how it can be used.
Monthly Recurring Revenue is a great metric and not even a new term, but it is often misunderstood.
As we said earlier, MRR is also a great way to measure the growth of your business. It’s not any financial jargon but a critical metric that can help you prioritize strategy and focus on the future revenue model.
Next, check out the best subscription management services for SaaS businesses.
