Back to basics: The fundamental metrics for a software-as-a-service (SaaS) business

I sometimes hear people debate the meaning of basic concepts like monthly recurring revenue, churn rate, or conversion rate.

As far as I'm concerned, there's no debate possible. These concepts have very clear meanings—particularly for software-as-a-service companies.

I want to review and explain five fundamentals we use at Klipfolio to understand how we're doing. You can apply them to any SaaS business.

Two Foundation Metrics

Let's focus on growth first. To understand a growth-oriented company, you really only need two fundamental values.

The first is the number of accounts. The second is recurring revenue. Together, these figures tell you how many customers you have and how much they pay you on a recurring basis.

These two pieces of information are the essential building blocks for any SaaS company. You should know these numbers cold.

Number of Accounts

The number of accounts is straightforward: it's the count of your customers—existing accounts plus new wins, minus cancellations.

Accounts = New Business (Wins) - Lost Business (Cancellations)

Recurring Revenue

Recurring revenue is the money generated on a regular basis by customers who've signed up for your service. It's usually reported as either monthly recurring revenue (MRR) or annual recurring revenue (ARR). The SaaS and startup community typically uses MRR, while the financial world leans towards ARR, which aligns more easily with annual revenue figures.

Only four things can happen to your recurring revenue: new MRR from brand-new accounts, existing accounts upgrading and paying more, downgrades resulting in less payment, or cancellations.

Recurring Revenue = New + Upgrades - Downgrades - Cancellations

Both of these building blocks can be examined over time (for example, you added 10 new accounts today but lost 2, for a net increase of 8) or in total (you have 5,000 accounts as of today).

Three Growth Metrics

Now that these two foundation values are locked in, you can move on to understanding how your business is growing. We've identified three metrics that are crucial to tracking your accounts and recurring revenue:

1. Recurring revenue growth rate
2. Churn rate (for both accounts and recurring revenue)
3. Net recurring revenue retention

Recurring Revenue Growth Rate

Recurring revenue growth rate measures velocity. It takes the net increase in subscription revenue each month or year (New + Upgrades ? Downgrades ? Cancellations) and divides it by your total recurring revenue at the start of that period. This tells you how quickly you're growing and what your growth curve looks like.

The bigger you get, the harder it is to grow. Doubling $50K MRR is very different from doubling $500K MRR. A common benchmark for the first five years of operation is: triple, triple, triple; double, double.

Month-over-Month RR Growth Rate = Net RR Added in Period ÷ Total RR at Beginning of Period

Example: 6.5% month-over-month MRR growth or 110% year-over-year MRR growth

Churn Rate

Churn rate is the rate at which you lose customers. Subscription services can lose customers easily, and losing even a small percentage regularly is serious. With a monthly account churn rate as low as 4%, you'll lose half your business within a year.

This metric catches up with you as your customer base grows. In the worst case, you lose more customers than you win.

Calculate churn rate for both accounts and recurring revenue. Note that churn rate is often expressed as its inverse—retention rate—which shows how many customers you keep versus how many you lose.

Account Churn Rate = Number of Cancelled Accounts in Period ÷ Total Accounts at Beginning of Period

Example: 2.4% monthly account churn or 14.7% annual account churn

Recurring Revenue Churn Rate = Value of Cancelled RR in Period ÷ Total RR at Beginning of Period

Example: 1.9% monthly MRR churn or 9.2% annual MRR churn

Net Recurring Revenue Retention

Net recurring revenue retention (also called net revenue retention or dollar revenue retention) measures whether your base revenue is growing. You measure it over a month or year as the total change in recurring revenue from existing customers, including upgrades, downgrades, and cancellations.

Best-in-class SaaS companies have a model where upgrades from existing customers outpace downgrades and cancellations. When you achieve this, growth becomes much easier.

Net Revenue Retention = (RR at Beginning of Period + Upgrades - Downgrades - Cancellations) ÷ RR at Beginning of Period

Example: 100.5% monthly net revenue retention or 130% annual net revenue retention

Why These Metrics Matter

The SaaS model is relatively young, so it's understandable that many people don't immediately grasp how it works. Unlike a clothing store that sells you a sweater and may never see you again, SaaS is more like a newspaper selling a renewable subscription.

Your goal is to retain customers and grow your base. These fundamental metrics explain how you track progress toward both. When you understand accounts, recurring revenue, growth rate, churn, and net revenue retention, you have clarity on what's working and where to focus.

Master these five metrics, and you'll have a clear picture of your SaaS business's health and trajectory.