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Net Revenue Retention: the key metric for healthy SaaS business growth

Carl Timm
By
June 02, 2022

It’s all about growth, isn’t it? Healthy, sustainable growth.

 

 

You know what that is? Growth.

At least for me it is. I jumped into the game of business to build something, to make something out of nothing. To grow a business. And I love the challenge of it.

 

Growth is a great form of feedback, so I know if I’m creating something useful or valuable. Conversely, if the business isn’t growing, it’s an indication some things need to be addressed.

 

So, how do we know if we have healthy, sustainable growth? As many have said, you can’t manage what you can’t measure…

Net Revenue Retention equals growth

A LOT of insightful posts have already been made about Net Revenue Retention (aka NRR, Net Dollar Retention, and NDR). And many of these posts were by thought leaders who have been in the SaaS game for a long time.

 

For instance, the folks at Insight Partners claim that business growth depends on net retention. They show how companies with high Net Dollar Retention enjoy both faster growth and more efficient growth.

 

In Jason Lemkin’s post about How to Build a $100+ Billion SaaS Company, he stated that “Net Revenue Retention is the #1 most important metric in SaaS.”  Jason believes that revenue from current customers is more important to growth than revenue from new customers. I’ll explore why this might be true in more detail below.

 

Finally, Tomasz Tunguz eloquently and succinctly made the case for optimizing NRR when he explained how a 20% increase in NRR leads to a doubling of company ARR in 5 years! Talk about real growth.

So how do you measure Net Revenue Retention (NRR)?

One of the beautiful things about NRR is how simple the formula is.

 

Net Revenue Retention Rate equals Starting Revenue plus Expansion Revenue minus Churn Revenue divided by Starting Revenue

 

A few things to keep in mind:

  • Technically, NRR is a rate. So, I suppose it should be NRR rate (or NRRR), but it’s often shortened to just NRR.
  • Starting Revenue can be for any timeframe (month, year, etc.), so long as it is consistent on both the top and bottom of the equation.
  • Expansion Revenue includes new revenue from cross-sells, upsells, and contract expansions.
  • Churn Revenue includes lost revenue from downgrades, closed accounts, or contract contractions.
  • Finally, NRR is a non-GAAP metric. This means there is not a standard equation. Publicly held companies usually create a formula that is tailored to their business. So, you might find slightly different formulas for this metric.

The value of Net Revenue Retention

For me, there are three reasons why NRR is a key SaaS metric:

1. NRR is a comprehensive, business-level metric with component parts that can serve as guides to various teams across the business

Look, some metrics can be used to guide the entire business. Others are more suited for individual teams. NRR is definitely a metric for the entire business.

 

One reason I argue NRR is a business-level metric is because it monitors such a large and important piece of the business: revenue from existing customers. Another reason is because NRR has elements that can be used as key metrics for individual teams within the business.

 

For instance, if your Revenue or Operations teams want to track Annual Recurring Revenue (ARR), you can pull this from the numerator of the NRR rate formula shared above. You can see the ARR formula here:

 

Annual Recurring Revenue equals Starting Revenue plus Expansion Revenue minus Churn Revenue

Or, as Jason Lemkin recently advocated, your Customer Success team might be responsible for Gross Revenue Retention (GRR). If so, you can pull GRR from NRR by simply removing the Expansion Revenue piece.

 

Gross Revenue Retention Rate equals Starting Revenue minus Churn Revenue divided by Starting Revenue

Similarly, you can track Expansion Revenue for your Sales or CS team--or whichever GTM team is responsible for your expansion revenue. Simply remove Churn Revenue from ARR:

 

Expansion Revenue equals Starting Revenue plus Expansion Revenue

Finding multiple valuable metrics embedded within NRR is helpful for a few reasons.

 

First, if you are not hitting your NRR benchmark, you can easily break apart the formula to find where there is opportunity to improve. Then the team responsible for that sub-metric can go to work.

 

Second, the metrics within NRR align nicely with specific team charters across your organization. This gives each of your teams something specific to own that also rolls up to a common business goal. That kind of alignment is priceless.

 

2. It’s increasingly easy to find industry benchmarks for NRR

LTV-CACNot too long ago in the world of SaaS metrics, LTV:CAC was the bee’s knees (What's wrong with bee’s knees? We’re in the Roaring ‘20s again, aren’t we?).

 

People liked the LTV:CAC ratio because it measured the Customer Lifetime Value (LTV) to Customer Acquisition Cost (CAC). This helped people gauge the unit economics of a business.

 

Conventional wisdom said if your LTV:CAC ratio was 3+, you were in good shape. But we all know how dependable conventional wisdom can be. And because most companies don’t share their LTV or their CAC it is near impossible to find reliable benchmarks that can be applied to your unique business situation.

 

However, readily available benchmarks are available for NRR. So, you can now skip the guesswork. Check out these great benchmark resources:

Collectively, this information is incredible. Just a few years ago you were still relying on conventional wisdom for what constituted a good NRR. Now, you can easily find NRR benchmarks that reflect your business model, ACV, industry, etc. I can't overstate how helpful this is.

3. NRR is a key SaaS metric because it measures healthy, sustainable business growth

The reason NRR can be relied on to measure healthy growth is because it includes customer retention revenue and customer expansion revenue. In other words, NRR measures revenue from current customers. And as Jason Lemkin asserts, business growth depends on revenue from current customers.

 

But why does sustainable business growth depend on revenue from current customers?

First, maximizing revenue from current customers both reduces costs and boosts profits.

According to this HBR article, it can be 5 – 25 times more expensive to acquire customers than it is to retain existing ones. Talk about low hanging fruit!

 

Along these lines, the 2021 KBCM SaaS Survey shows on average it costs $1.67 to generate $1 from a new customer (p.42). Whereas it costs $0.63 on average to generate $1 of cross/upsell revenue from an existing customer.

 

If you told me for every $0.63 I gave you, you’d give me $1 in return, I’d have two questions for you. How many times can I do this? And where do I sign up?

Next, it’s possible to see the biggest revenue gains from your current customer set.

Logically, it holds that you’ve already won the hearts and minds of your current customers. You’ve proven your mettle, so to speak. They are likely to believe your claims and trust you to provide more value. This is a great example of “getting a running start”. And who doesn’t love a running start?

 

Of course, beyond the logic, there is the oft quoted Bain study that found “a 5% increase in customer retention produces more than a 25% increase in profit” for financial services firms. This provides tangible evidence there is a big payoff in customer retention.

Finally, maximizing value from your existing customers paves the way for a heavy investment in customer acquisition.

I think we can all agree that no matter how big your market is, there is a finite limit to it. There is not an endless supply of new customers available to you. So, it makes sense to maximize your engagement with every one of your existing customers.

 

That said, it’s impossible to reach your full business growth potential without acquiring new customers. The only caution is if you focus on acquisition before you’ve solved for retention and expansion, you could end up with a leaky bucket problem.

 

Therefore, it just makes sense to use NRR as a key metric to monitor your retention and expansion. Then you can ensure you’ve reached your benchmark NRR rate before pouring fuel into your acquisition efforts. And you’ll know you are set up to fully leverage every new customer you acquire.

Tingono’s mission is to make it easy to boost Net Revenue Retention

Logo-Square-ColorAt Tingono, we understand how critical Net Revenue Retention is to monitor healthy SaaS business growth. In fact, we’re on a mission to make it easy for everyone to boost NRR through automation.

 

Our ultimate goal is to make it easy for you to retain revenue and expand customer accounts.

 

We do this by using machine learning to create advanced data models that make your data more accessible and impactful. Specifically, we identify unique business signals in your data by using AutoML and deep learning techniques. It’s like you have your own internal data science team creating predictive analytics models specifically designed to meet your business needs.

 

Once we have the predictive analytics insights, we identify specific churn risk and expansion opportunities within each one of your customer accounts. We then turn that insight into action by driving the right customer activity at the right time.

 

For your long tail, low touch accounts, we automate actions to boost revenue. This enables your team to scale their efforts to ensure more accounts are covered while also reducing possible distractions.

 

For your high touch accounts, we augment your go-to-market team's efforts by orchestrating recommended actions. This enables your team to collectively use their intimate knowledge of each customer to ensure every activity lands in the best way possible.

 

In short, Tingono makes your go-to-market team smarter and more efficient, enabling them to both scale their efforts and improve revenue retention.  ​

 

And now that early access is available, we’d love to show you how our solution will help you increase your Net Revenue Retention. Please get in touch!