how to calculate annual recurring revenue
Many SaaS founders struggle to calculate annual recurring revenue (ARR), especially when they have different subscription plans, one-off fees or customers paying in different currencies. An incorrect figure can make it harder to track business growth and report performance accurately.
ARR calculation involves multiplying monthly recurring revenue (MRR) by 12 or adding the annual value of all active recurring subscription contracts. The calculation should include recurring subscription income but exclude one-off fees and VAT.
In this guide, we explain how to calculate ARR, which income to include or exclude and how to handle VAT and foreign currency contracts. You will also learn how ARR differs from statutory revenue and how to use it to track your SaaS business’s growth.
Key takeaways
- ARR measures the annualised value of your active recurring subscription contracts at a point in time.
- The most common formula is ARR = MRR × 12, where MRR is your monthly recurring revenue.
- One-off fees such as setup, onboarding and consultancy should be excluded.
- UK businesses should calculate ARR net of VAT and convert foreign currency contracts into GBP consistently.
- ARR is a management metric and is not the revenue reported in your statutory accounts.
What is Annual Recurring Revenue and why does it matter?
Annual recurring revenue (ARR) is the annual value of the recurring subscription income a business expects from its active customers. It is usually measured at a specific point in time, such as the end of a month or quarter, to show the value of its current subscriptions.
ARR helps SaaS businesses understand their recurring income and plan for future costs. It can support decisions about hiring, marketing and product development. Tracking ARR over time also helps business owners see whether their subscription revenue is growing or declining.
ARR is also an important measure for investors, lenders and potential buyers when assessing a SaaS business. In the UK, it can be used alongside other financial measures to assess business growth and support company valuations.
What does ARR measure that annual revenue does not?
Annual revenue shows the income a business has earned during a financial year. It can include recurring subscription income as well as one-off charges, such as implementation fees. ARR, on the other hand, measures the annualised value of a business’s active recurring subscriptions at a specific point in time.
For example, a SaaS business may report £1 million in annual revenue, including £250,000 from a one-off implementation project. This means its total revenue is higher than it would be from recurring subscriptions alone.
Similarly, a business that gains new customers towards the end of the year may have an ARR figure that is higher than the subscription revenue recognised during that financial year.
ARR compared with annual revenue
| Feature | Annual recurring revenue (ARR) | Annual revenue |
|---|---|---|
| Time period | Annualised value at a specific point in time | Revenue recognised during a financial year |
| What it includes | Recurring subscription income | Revenue recognised from recurring and non-recurring activities |
| Basis of calculation | A consistent internal ARR policy | Applicable accounting standards, such as FRS 102 or IFRS 15 |
| Main purpose | Tracking subscription growth and supporting forecasts | Financial reporting and assessing business performance |
| Statutory reporting | Not usually reported as a separate statutory figure | Reported in the financial statements, where applicable |
How to calculate Annual Recurring Revenue?
The method you use to calculate annual recurring revenue (ARR) depends on your subscription plans and billing arrangements. Whichever method you choose, apply it consistently so you can compare your business performance over time.
Monthly Recurring Revenue formula and conversion to ARR
Monthly recurring revenue (MRR) is the total monthly value of active recurring subscriptions. If your customers pay monthly, you can calculate ARR using this formula:
ARR = MRR × 12
Use the value of active subscriptions rather than the cash received during the month. This helps avoid overstating ARR when customers pay their annual subscriptions upfront.
Annual and multi-year subscription contracts
If your customers have annual subscriptions, you can calculate ARR by adding the annual recurring value of all active contracts. You can also track changes in ARR using this formula:
Closing ARR = Opening ARR + New ARR + Expansion ARR − Contraction ARR − Churned ARR
Here, new ARR comes from new customers, expansion ARR from upgrades, contraction ARR from downgrades and churned ARR from cancelled subscriptions.
For multi-year contracts, calculate ARR using the annual recurring value applicable to the current contract period. For example, a three-year subscription worth £90,000 with equal annual pricing contributes £30,000 to ARR. If the contract has different prices for each year, use the applicable recurring subscription value rather than automatically dividing the total contract value by the number of years.
Common mistakes to avoid when calculating ARR
Small errors in your calculations can give you a misleading picture of your subscription revenue. Here are some common mistakes to avoid:
- Annualising an unusual month: Multiplying a one-off increase in MRR by 12 can overstate ARR.
- Including one-off fees: Exclude setup, onboarding and consultancy charges that are not recurring.
- Including VAT: Calculate ARR excluding VAT, as VAT collected from customers is not subscription revenue earned by the business.
- Ignoring cancellations: Account for subscriptions that have ended or are due to end, according to your ARR policy.
- Using inconsistent exchange rates: Apply a consistent method when converting foreign currency subscriptions into GBP and document the approach used.
Calculating ARR accurately helps you understand your recurring income and make informed business decisions. Our professional accounting services help you maintain accurate financial records, improve financial reporting and manage your SaaS finances with confidence.
What should you include and exclude from your ARR?
ARR should include income from active, recurring subscription contracts. One-off charges and income that does not form part of recurring subscriptions should be excluded to keep your calculation accurate.
Include the following in your ARR calculation
- Monthly and annual fees from active subscriptions.
- Recurring income from upgrades, additional users and add-on services.
- Ongoing support fees covered by recurring agreements.
- Minimum usage payments agreed under customer contracts.
Exclude the following from your ARR calculation
- One-off setup, onboarding and implementation fees.
- Consultancy, training and project charges.
- Perpetual licence sales without recurring payments.
- Uncommitted usage charges that are not guaranteed to recur.
For usage-based subscriptions, include the committed minimum payment and assess additional usage separately. This helps you measure predictable recurring income more accurately.
UK-specific considerations when calculating ARR
Most ARR guidance is written for US companies, so there are three points UK founders need to get right.
Why ARR should be calculated net of VAT
VAT is collected on behalf of HMRC, so it is not your revenue and has no place in ARR. Most UK software subscriptions are charged at the standard rate, which GOV.UK lists as 20% for most goods and services. If you work from invoice totals, strip the VAT out first, otherwise a £100,000 recurring base quickly becomes a misleading £120,000.
Handling multi-currency contracts in GBP
Contracts billed in US dollars or euros should be converted into GBP using one consistent method, such as a fixed annual budget rate or the month-end rate. Whichever you choose, stick with it so you can show investors how much of your growth is real and how much is simply currency movement.
ARR versus revenue in your statutory accounts (FRS 102 / IFRS 15)
ARR is a management metric and does not appear in the accounts you file with Companies House. Your reported revenue follows FRS 102 or IFRS 15, so an annual subscription paid upfront is recognised over the year, with the unearned portion held as deferred income. Our guide to accruals and prepayments explains how these timing adjustments work.
For accounting periods beginning on or after 1 January 2026, FRS 102 also follows a five-step revenue recognition model closely aligned with IFRS 15, as the ICAEW explains. Your ARR calculation stays the same, but bundled contracts with setup or implementation work may be accounted for differently, which makes reconciling ARR to reported revenue more important.
ARR Calculation Example for a UK SaaS Business
Consider a fictional London-based SaaS company that provides project management software. It starts the quarter with £40,000 in monthly recurring revenue (MRR), giving it an opening ARR of £480,000. During the quarter, it gains new customers, upgrades existing subscriptions, experiences downgrades and loses some customers.
Example of ARR changes over one quarter
| Movement | Change in MRR | Change in ARR |
|---|---|---|
| Opening ARR | £40,000 | £480,000 |
| New subscriptions | +£4,200 | +£50,400 |
| Upgrades and additional seats | +£1,500 | +£18,000 |
| Customer downgrades | −£500 | −£6,000 |
| Cancelled subscriptions | −£2,000 | −£24,000 |
| Closing ARR | £43,200 | £518,400 |
To calculate closing ARR, multiply the updated monthly recurring revenue by 12:
Closing ARR = £43,200 × 12 = £518,400
The company’s ARR has increased by £38,400, or 8%, during the quarter. However, £518,400 represents the annualised value of its subscriptions at quarter-end, not revenue earned during those three months or guaranteed income for the next year.
The company also received £9,000 in one-off onboarding fees. These charges are excluded from both MRR and ARR because they do not represent ongoing subscription revenue.
This example also shows why tracking cancellations is important, as lost subscriptions can reduce the benefits of gaining new customers.
How do new subscriptions, upgrades and churn change ARR?
ARR changes when customers join, upgrade, downgrade or cancel their subscriptions. Understanding these movements helps SaaS businesses identify what is driving growth and where recurring income is being lost.
- New subscriptions increase ARR when new customers sign up.
- Upgrades increase ARR when existing customers pay for higher plans, extra users or recurring add-ons.
- Downgrades reduce ARR when customers move to cheaper plans or remove services.
- Churn reduces ARR when customers cancel their subscriptions.
Tracking these changes separately helps business owners understand the quality of their growth. For example, a business may gain new customers but still struggle to grow if many existing customers cancel or downgrade. Monitoring customer retention alongside ARR can help identify these issues early.
It is also important to update ARR consistently when cancellations are confirmed, following your chosen reporting policy and the terms of each contract. This gives you a clearer view of your recurring revenue position.
Getting your ARR calculation right
Calculating ARR accurately helps you understand your recurring income and make better business decisions. Keep your subscription records up to date and review changes each month to ensure your figures remain reliable.
At Rise Accounting, our tech accounting services help technology businesses manage their finances, understand their financial performance and plan for growth. From financial reporting to business planning, we provide support to help you make informed decisions as your SaaS business grows.
Talk to our experts to find out how our accounting services can support your business.
Frequently asked questions
Can I calculate ARR before my SaaS business has traded for a year?
Yes, because ARR is based on the subscriptions you have in place today and not the income you have already earned. You can calculate it from your first month of trading by annualising your active recurring contracts.
Should I include a subscription when the customer’s invoice is overdue?
You can normally keep the subscription in ARR whilst you are actively chasing payment and the contract is still in place. If the debt becomes doubtful, or the customer stops using the service, you should remove it and treat it as churn.
Can I count a signed contract before the subscription starts?
Most businesses only add a contract to ARR once the subscription has started, as this is when the recurring revenue begins. You may wish to track signed but not yet live contracts separately as contracted ARR, so that you can show your pipeline without overstating your position.
Does receiving an annual payment upfront change my ARR?
No, as ARR is based on the annual value of the contract and not on when the cash is received. An upfront payment will improve your cash flow, but in your accounts the income will still be recognised over the subscription period.
Should I deduct payment-processing fees when calculating my ARR?
No, you should calculate ARR on the gross subscription value, which excludes VAT, before deducting any card or payment platform fees. These fees are a cost of doing business and belong in your cost of sales and not your revenue figure.
How often should I update my ARR calculation?
You should update your ARR calculation at least monthly and ideally at the end of each month when you close your books. This allows you to spot changes in churn or expansion early and provides you with consistent data to share with investors.
Subhashree is an ACCA-qualified Chartered Accountant and Director at Rise Accounting, where she heads up the accounting function. She brings deep technical expertise across compliance, management accounts, year-end reporting, and day-to-day financial operations for SMEs.
