i wonder if service revenue is included in arr

Is Service Revenue Included in ARR?

SaaS companies generally have two types of revenue: subscription revenue and professional services revenue. You might have asked the question, Is service revenue included in ARR?

If you’re new to acronyms, ARR is annual recurring revenue. ARR is a SaaS metric used in business valuation (among other things). A simple SaaS valuation formula is ARR x a Company Multiple. Thus, a higher ARR leads to a higher valuation.

SaaS Capital has an answer to this question in their white paper titled “How to Value a SaaS Company.” If your company’s revenue mix is 80% subscription revenue (or higher) to 20% service revenue (or lower), include all of your revenue in ARR. There is not a valuation adjustment for revenue composition.

If your revenue mix contains more than 20% service revenue, there will be a downward adjustment and a lower company valuation.

Why does a higher mix of subscription revenue drive a higher valuation? The answer is because subscription revenue is more valuable than service revenue. There are 2 main reasons for this:

  1. Subscription revenue is recurring and can last several years.
  2. Subscription revenue is cheaper to produce than service revenue (i.e., gross margins are higher).

You can find the full white paper from SaaS Capital here.

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