Businesses, especially those that are subscription-based, constantly search for metrics to measure their retentionWhat is retention? Retention refers to a customer continuing to use a business’ product or a service and to pay for the said product or service. It is a key… performance.
And people often think that committed monthly recurring revenue (CMRR) is the single metric for such businesses.
Or that it is the foundational metric VC looks for investment.
But forget about it all.
Net Dollar Retention (NDR) is the most important metric you need to track!
In this article, I want to explain what NDR is and how its calculated but before, let’s see how CMRR works:
What is Committed Monthly Recurring Revenue (CMRR)?
CMMR measures the flow of subscriptions in a SaaSWhat is SaaS? SaaS is the abbreviation of Software as a Service, and refers to a software licensing model based on user subscription with monthly or annually payments. The model… company.
Recurring revenue is what fuels the business, so you certainly need to know if you are on the right track.
Before moving on to CMRR, we need to learn the jargon and other metrics that matter in SaaS businesses that make the CMRR calculation possible.
Monthly Recurring Revenue (MRR) calculates the monthly subscription revenue.
Simply, if you have 100 customers that pay $50 per month in subscriptions, your MRR is $5000.
You only need to consider the recurring portion of the revenue and leave aside the one-off payments or other charges. And Annual Recurring Revenue (ARR) is the annualized version of MRR. You can calculate it by multiplying MRR by 12.
Both ARR and MRR give insight into your business’s sustainable income stream.
With ARR, you can see the yearly progress of your company, thus make long-term planning and create road maps. On the other hand, MRR shows the monthly growth of the company in more detail and helps you measure the new pricing strategies immediately.
You can see consumer behavior at different times of the year and develop different strategies. You can use this data to forecast the yearly revenue and plan what to do with it.
Further, CMRR is derived upon MRR. For a SaaS business, CMRR projects MRR in the future period by taking into account the revenue expansion and anticipated churnWhat is churn? Churn refers to a customer cancelling their subscription to your products or services. It is a common metric among especially SaaS(service as a subscription) businesses. Churn exists….
Here is its formula:
CMRR = MRR + Guaranteed Expansion MRR – Downgrade CMRR – Churned CMRR
CMRR is a future-oriented metric so it only applies when calculated for the future periods where further expansion and churn hasn’t happened.
Also, keep in mind that both Committed Monthly Recurring Revenue and Contracted Monthly Recurring Revenue refers to the same thing, CMRR.
Now let’s see the real deal, NDR.
What is Net Dollar Retention (NDR)?
Net dollar retention (NDR) is a metric to see the fluctuations within the existing revenue base.
NDR is used to further describe the changes in recurring revenue over time according to upgrades, downgrades, and churn.
Here is the math behind it. It is calculated through the following equation:
NDR = (Starting MRR + expansion – downgrades – churn) / Starting MRR*100
All numbers are in dollar amounts and the final figure is a percentage.
Let’s dig deeper into the equation and learn what expansion, downgrades, churn means, and their roles in changing Monthly Recurring Revenue(MRR).
MRR may increase by newly acquired customers or by an increase in usage within the existing customers. An increase in the price of a subscription may cause this.
MRR may decrease by churn, customers leaving your service, or by downgrades in usage within the existing customers. Customers who downgrade their premium subscription to basic one would fall into this category.
For example, company X started with $100,000 in recurring revenue. It added $25,000 expansion revenue, had $10,000 downgrades and $5000 in churn.
After plugging in the proper figures, math would look like this.
($100,000 + $25,000 – $10,000 – $5000)/$100,000 = 110% NDR
Woooow, it’s over 100% so it must be good!
you might say to yourself.
Well, you’re partially right, let’s see what a good NDR looks like:
What is a good Net Dollar Retention rate?
If NDR is over 100%, there is an increase in revenue is from existing customers.
It means that your company can grow without gaining new customers.
Otherwise, if NDR is less than 100%, it means that there is a decrease in revenue is from downgrades and churn. In this case, you need to make changes in your business; focus on customer support and customer success.
Top-performing SaaS companies have 120%+ NDR and the approximately median is 106%. So anything above 100% means you’re on the right track.
Why is Net Dollar Retention Important?
Overall, companies with good NDR that is over 100% growth rapidly and are more cash efficient relative to the ones with lower NDR.
They are more attractive to acquirers and VCs.
NDR shows you how sticky your customers are, how long do they use your service. It illustrates your companies’ value proposition and overall customer satisfaction.
It shows your companies’ customer lifetime value and gives insight into the growth of your business.
By both tracking MRR and NDR, you can more clearly see the changes in growth over time. Sometimes it is possible to have net recurring revenue growth even if your customer base is decreasing. It happens when the revenue from newly acquired customers exceeds the reduction in revenue from existing customers.
For example, a company may start the month with $100,000, books $50,000 in new subscriptions but don’t have any change in expansion revenue, $20,000 in downgrades, and $5000 in churn.
Here, MRR increased from $100,000 to $125,000 but NDR is %75.
Which means you have a hole in your business that you’re leaking money from!
NDR enables you to gain insight in such situations and keep the situation under control.
The Takeaway
- You need to track your company’s bookings in detail. All of the downgrades, cancellations should be tracked. It will help your business to get organized and you will be accountable for your investors.
- Increased retention will help you in the market.
- You need to measure NDR on different periods such as monthly, quarterly, and yearly.
- You can have different cohorts and see how certain segments are responding to your business.
- If you are looking for investors, VC’s love a growing front-end and a back-end.
And that’s enough talk, go get the dollars!
