Net Revenue Retention Trends, Trials and Best Practices “Is NRR really that Important and How to Increase”

This week’s newsletter is brought to you by the SaaS Solution Showcases featuring demonstrations from the leading Subscription, Billing and Revenue Management solutions on June 11th and the top SaaS Metrics and Analytics platforms on June 12th.? CLICK HERE to register!

Net Revenue Retention Trends, Trials and Best Practices

“Is NRR really that Important and How to Increase”

Net Revenue Retention (NRR) also referred to as Net Dollar Retention (NDR) in the United States measures how much ARR is retained in the latest accounting period measured against a previous accounting period for a specific cohort of customers. The NRR calculation includes all up-sells, cross-sells down-sells and churned ARR and does not include New ARR from new logo customers.. Though NRR can be measured on a rolling three/six/twelve month period, it should be calculated on an annualized basis. Calculating NRR on a fiscal year over fiscal year basis is a best practice.

The preferred calculation method, and the standard definition published by the SaaS Metrics Standards Board, recommends calculating NRR on a cohort basis.? Effectively taking a cohort of existing customer’s ARR from the previous fiscal year and comparing it to the same cohort of customers ARR in the most recent fiscal? year.? The NRR calculation should include all up-sells, cross-sells, down-sells and churned ARR from that customer cohort only - no new customer’s ARR should be included.

As an example, if a company with $10M in ARR at the beginning of the year reports they have a 110% Net Revenue Retention Rate at the end of the current year - it suggests the cohort of customers from the previous year represents $11M ARR at the end of the current year. This is a simplified explanation based upon the easiest calculation period which is ARR at end of current fiscal year divided by ARR at the beginning of the fiscal current year for the same cohort of customers.

Net Revenue Retention Impact on Enterprise Valuation

Over the past three-plus years, Net Revenue Retention has become a higher priority for both investors and operators.? The business impact of NRR is highlighted by the correlation of NRR to the Enterprise Value to Revenue multiples for public Cloud companies.? The below table shows the correlation of NRR to Enterprise Value to Next Twelve Month Revenue multiples from the Meritech Capital regression analysis using R-Squared.??

R-Squared (R^2) shows the level of influence a specific independent variable? (NRR) exerts on the dependent variable (Enterprise Value to Revenue multiple). R-Squared values range between 0 and 1, values below 0.3 suggest weak influence, while those between 0.3 and 0.5 indicate moderate influence and those in the .80 and above indicate significant influence.

R-Squared of Three Top SaaS Metrics and their Impact on EV:NTM Revenue Multiples

You can see from the above that in July, 2021 NRR had a larger relationship to enterprise valuation multiples (R^2 = .40) than revenue growth (R^2 = .37).? Then beginning in June, 2022 and continuing through January, 2023 you can see the dramatic decrease in NRR (R^2 = .18 & .07) on enterprise valuation to revenue multiples.??

As with any metric, the insights can be biased by the number itself.? High growth, Usage-Based Pricing companies including Snowflake, Datadog and Twilio experienced very high growth rates that included never-before-seen NRR levels in the 150% - 170% range. The associated multiples were in EV:NTM Revenue multiples in the 20x - 40x range!

In May, 2024 you can see that both Revenue Growth Rate (R^2 = .33) and Rule of 40 (R^2 = .28)? have more impact on EV:NTM Revenue multiples than Net Revenue Retention with an R-Squared of .18.

Net Revenue Retention Trends

Beyond the impact of Net Revenue Retention on enterprise value multiples, it is also interesting to see how NRR has trended over the past 3+ years which impact growth rates.? The chart is based upon data provide by Jamin Ball, Clouded Judgment for the public company data and by Benchmarkit for the private company data:

?????????????????????????????Net Revenue Retention Rate Trends (2021 - Q1’24)

Net Revenue Retention Impact on Revenue Growth: Five Year Perspective

Viewed in isolation, seeing NRR decrease from 105% to 101% may not seem material. But let’s look at the impact on different NRR’s over a five year period using three NRR values: 1) 101% NRR; 2) 105% NRR; 3) 110% NRR:

????????????????????????????????????Net Revenue Retention Rates Example

By holding new logo customer ARR consistent at 20% of total ARR each year, across the five years you can see the impact on Total ARR at the end of five years.? The difference in total ARR between 101% NRR and 110% NRR for a company starting at $10M ARR in year one is $8,021,621 ARR. Using a 10x Enterprise Value to Revenue multiple that is a difference in enterprise value of over $80M dollars in the two companies. Even using the 101% NRR and 105% NRR the difference in Enterprise Value would still be over $33M!!!

Ideas and Best Practices to Increase NRR:

Conducting benchmarking research and analyzing a metric’s recent trends is a passion of mine, and what I do everyday at Benchmarkit.? However, at my core I am a recurring revenue Go-to-Market operator with far too many years to count of experience in acquiring, retaining and expanding customer relationships.? I also have the unique opportunity to meet and speak with amazing B2B SaaS founders, CEOs, GTM executives and investors on the Metrics that Measure Up and SaaS Talk with the Metrics Brothers podcasts, see multiple real life examples when we conduct SaaS Metrics and Benchmark assessments and as a result have witnessed several best practices used to increase Net Revenue Retention.

Top 7 ways to increase NRR

1?? Review and enhance the new customer on-boarding process to enhance customer adoption and utilization, which can increase Gross Revenue Retention Rates in the first subscription renewal cycle

2?? Deploy a product analytics infrastructure to capture, measure and communicate customer by customer product utilization with the Customer Success team.? Over time, the correlation of product usage to retention/renewal rates will be apparent.?

3?? Analyze Gross Revenue Retention and Net Revenue Retention Rates by customer profile attributes (industry, size, location, etc.) to understand the customer segments with the largest lifetime value and then double down on customer acquisition investments in the Ideal Customer Profiles (ICPs) that result in the highest retention and expansion outcomes

4?? Identify “near adjacent” product extension opportunities and consider prioritizing those in the product roadmap.? Sometimes, even what appears to be a small utility used by Professional Services or Customer Success may provide cross-sell opportunities.

5?? Evaluate existing Master Service Agreement for opportunity to add in an annual price increase, possibly tied to an external factor like the Consumer Price Index (CPI) or inflation. According to the Common Paper Cloud Service Agreement Benchmark Report - only 29% of auto-renewal agreements have built-in price increases

6?? Review Pricing and Packaging to see if decoupling specific features and/or functions, or by creating upgrade path packaging could be an organic source of expansion ARR?

7?? In 2024 there will be many opportunities to identify near adjacent, point solutions from SaaS companies that do not have the distribution, growth potential or cash to go it alone for the long term.? Partnering to re-sell their software or even acquire the company could provide built-in cross-sell opportunities both for their product to your customers and for your product to their customers

Summary and Conclusion:

Net Revenue Retention is a critical operating metric for recurring revenue software companies.? Moreover, NRR has material impact on both long term growth rates, total ARR and maybe most importantly enterprise value to revenue multiples.

Though it is not a best practice to isolate focus to a single “SaaS” metric, the multi-dimensional impact of Net Revenue Retention on a SaaS company’s financial performance and shareholder value suggest that NRR should at a minimum be one of the top three (3) performance metrics in B2B SaaS companies with an annual contract value of $5,000 or greater. One last? insight is to ensure that the focus on Net Revenue Retention is paired with a simultaneous understanding of Gross Revenue Retention and ARR churn trends!!!

If you are enjoying the SaaS Barometer Newsletter click here to become a Benchmarkit insider to receive preferred access to new benchmarking research, content, podcasts and events.

Benchmarkit is hosting two SaaS Solution Showcases in June featuring product demonstrations from the top solution providers in Subscription, Billing and Revenue Management AND SaaS Metrics and Analytics Reporting!

Click here to gain your free virtual pass to see the latest innovations in these two critical, continuously evolving SaaS product categories