I was taught that ARR is the value of the currently paying, deployed, and contracted customers, annualized. In other words, the ARR is a guaranteed annuity. The guarantee implies predictability, which investors prize and value at high multiples.
Over time, the definition of ARR has slackened. First, SaaS companies modified it to include customers who weren’t contractually obligated to pay, but did pay the same amount regularly.
Next, infrastructure companies, which charge by use (by CPU hour used, API called, or GB stored), and amassed customer bases’ with spending habits that vary by the month, adopted ARR. They argue that though customers’ usage wasn’t predictable on a small scale, over a large enough customer base, customer behavior is similarly predictable to contracted spend.
Then, consumer subscription businesses began pitching using ARR. After all, there’s not much difference between an SMB paying monthly and a consumer paying monthly. However, there is a meaningful difference in net-dollar retention because most consumer companies have negative NDR, and most SaaS companies benefit from positive NDR (accounts that expand over time). But let’s set that aside.
And then, marketplaces shifted from GMV to annualizing net transactional revenue and calling it ARR. Tom-ay-to / tom-ah-to.
To come full circle, there’s a newer ARR metric for SaaS companies called cARR, which is contracted ARR, or the annualized value of the contracts signed but not deployed. That number is typically larger and provides a bigger number to multiply, hence a higher valuation.