In any business that relies on repeat purchases, two key metrics are often used to measure success: Annual Recurring Revenue (ARR) and Net Revenue Retention (NRR). While both metrics are important in their own right, NRR should be the primary focus for businesses looking to achieve long-term growth and success.
As customer satisfaction has a significant impact on customer loyalty and retention, it is critical to focus on the right metrics to ensure long-term success.
In this article, I’ll explore the differences between ARR and NRR and why Net Revenue Retention is a more valuable metric for many businesses.
What is annual recurring revenue (ARR)?
ARR is a measure of the total revenue a business can expect to generate annually from its existing customers. This is typically calculated by multiplying the average revenue per customer by the total number of customers a company has.
ARR is an important metric because it provides a clear picture of the revenue a business can expect to generate in the coming year. It is also valuable for investors and analysts, indicating a business’s growth potential.
However, ARR can be misleading.
While it is essential to clearly understand how much revenue a business can expect to generate in the coming year, you need to consider the impact of churn or upgrades/downgrades as well.
In other words, ARR needs to tell you how much revenue a business retains from its existing customers.
What is net revenue retention (NRR)?
Net revenue retention, on the other hand, takes all this into account. It’s calculated by dividing the total revenue generated from existing customers at the end of a given period (e.g., a quarter or a year) by the total revenue generated from those same customers at the beginning of that period.
Why is NRR more important than ARR?
There are several reasons why NRR is a more valuable metric for most organizations.
1. NRR accounts for churn
Churn is a significant challenge for subscription-based businesses. If a company is losing customers at a faster rate than it is acquiring new ones, its growth will be limited. ARR needs to take churn into account, which means that it can be a misleading metric for businesses struggling with high churn levels.
NRR, on the other hand, takes churn into account. By measuring how much revenue a business is actually retaining from its existing customers, NRR provides a much more accurate picture of a business’s growth potential and health.
2. NRR accounts for upgrades and cross-selling
Another significant benefit of NRR is that it considers the revenue generated from upgrades and cross-selling. When customers upgrade to a higher-priced plan or purchase additional products or services, this represents a significant source of revenue for businesses.
ARR needs to take these revenue streams into account, which means that it can be a less accurate metric for businesses that are successfully upselling and cross-selling to their existing customer base.
3. NRR is a better indicator of customer satisfaction
NRR is also a better indicator of customer satisfaction than ARR. Suppose a business is retaining a high percentage of its existing customers and generating additional revenue from those customers through upgrades and cross-selling. In that case, it is a clear sign that those customers are satisfied with the product or service.
On the other hand, if a business struggles to retain customers and is not generating additional revenue from its existing customer base, it is a clear sign of issues.
How to Improve Net Revenue Retention
Improving Net Revenue Retention requires a customer-centric approach. You need to understand your customer’s needs and preferences and provide them with a product or service that meets those needs. Here are some strategies that can help you improve your NRR:
- Focus on customer satisfaction: Make sure your customers are happy with your product or service. Address any issues they may have and provide excellent customer support. You must consistently meet customers’ expectations in every interaction across every channel. In their Future of CX report, PwC surveyed 15,000 consumers and found that 1 in 3 customers will leave a brand they love after just one bad experience. In contrast, 92% will leave a company entirely after two or three negative interactions.
- Offer personalized experiences: Use data and analytics to personalize your customers’ experiences. Offer them products or services that are tailored to their needs and preferences.
- Upsell and cross-sell: Offer your existing customers additional products or services that complement what they already have. Upsell and cross-sell can increase their lifetime value and improve your NRR.
- Improve customer engagement: Keep your customers engaged with your product or service. Offer them new features, updates, and promotions that keep them interested and invested in your brand.
- Reduce churn: Identify why your customers are leaving and take steps to reduce churn. Reducing churn can include improving your product or service, offering better customer support, or incentivizing customers to stay.
Now, not never
As we continue to venture into uncertain economic waters — with growing inflation, rising interest rates, and talk of a recession, battening down the hatches and ensuring you’re ready to ride the wave starts with improving your customer experience.
Take our product tour, and learn more about how Dixa can help you transform your customer experience today.