Would you spend your efforts on a customer who’s bringing $2000 in ARR or customer B who’s bringing in a sales ACV of $10,000?
Obviously the latter makes more sense.
That’s basically all there is to it. At the end of the day, sales managers have to optimise resources to deliver maximum value. Calculating customers’ ACV is a great way to figure which accounts can be given a bit more attention.
But, what exactly is sales ACV and how to calculate it? This guide will tell you everything to calculate and improve your sales ACV.
What is ACV in sales?
ACV contract value is the amount of money that your SaaS business gets from a customer in a given year.
To calculate the annual contract value, you need to focus on two elements: total contract value and total contract duration.
By tracking this key metric, B2B companies know the value and revenue each customer brings to the table.
For example, if a customer opts for a two-year contract worth $5000 for your SaaS product, then the ACV would be $2,500.
Major differences between ARR and ACV
Both annual contract value (ACV) and annual recurring revenue (ARR) focus on annual revenue however, there’s a distinction between them.
Below we share the exact differences to help you understand how the two are different:
Sometimes it includes a one-time contract fee.
It never includes the one-time contract fee.
How to calculate sales ACV?
To calculate the annual contract value (ACV), subtract one-time fees from the total contract value (TCV) and divide it by the total contract length.
Here’s what the standard formula would look like:
For example, if customer A signs a three-year annual subscription plan worth $30,000, then the ACV calculation would look like this:
Annual contract value (ACV) = $30,000 / 3 = $10,000
But, if another customer, customer B opts for a three-year contract with a monthly subscription plan of $99, then how will you calculate your ACV? Here's what the sales calculation would look like:
Annual subscription rate = $199 * 12 months = $2388
Total contract value (TCV) = $2388 * 3 years = $7164
Annual contract value (ACV) = $7164 / 3 = $2388
What's the average ACV in sales?
The average ACV in sales depends on the size of the company. That’s why, there is no one-size-fits-all answer to this question.
Let's analyze a few studies done on SaaS businesses and their ACVs and arrive at an average.
In a report by Vendr, the ACV for enterprise-level tech companies like Salesforce and Microsoft ranges between $250,000 and $100,000.
The ACV for high-value products like Zoom, Slack, and Netsuite ranges from 50,000 to $250,000, whereas medium-value products like Hubspot, Figma, and Carta have ACV ranging from $20,000 to $49,999.
Different factors affecting ACV value in sales
The ACV contract value gets affected when factors like the number of customers and recurring revenue increase or decrease. Here are the 6 factors that affect ACV value in sales:
Overall subscription cost per year
Understanding the overall subscription cost is important to calculate the ACV of a SaaS company. The subscription cost includes the subscription plan the customer opted for the specific period of time, and the sum of additional upgrades, downgrades, and canceled customer subscriptions.
This means the ACV for customer A is higher compared to customer B.
Recurring revenue earned from upgrades
Recurring revenue is the total revenue earned from the customer base on a monthly and yearly basis consistent with the subscription and the additional add-ons, or upgrades they opted for.
This is an important factor in increasing the annual contract value (ACV). By focusing on this key factor, you’ll know how much recurring sales revenue the company is bringing in annually, and how much of this revenue has been earned through upgrades.
Revenue lost from cancellations or downgrades
When customers cancel their subscription, the SaaS company experiences churn.
Focusing on cancellations or downgrades are equally important for your company as you need to subtract this amount from the revenue earned to calculate the ARR. This is an important step to maintain the financial health of your SaaS business.
Number of customers
The number of customers is directly proportional to the sales ACV. Whether you have closed a few high-value customer deals or many of the smaller deals, knowing the number of customers you currently have helps in estimating the overall revenue.
By keeping track of the number of employees, you can analyze your sales pipeline and add new customers to the pipeline in case the sales reps haven’t achieved their sales goal.
Number of contracts
Just like the number of customers, you need to track the number of contracts in the pipeline. However, you should note that the customer contracts you’re tracking should be active. It is these active contract values that will help you achieve your yearly revenue targets.
Furthermore, by knowing the number of active contracts in the pipeline, you’ll know how many more contracts you should have in order to achieve the annual revenue goal.
Subscription renewal rate
Are the customers renewing this subscription? If the customers aren’t renewing their subscription, it will naturally impact your ARR. So, you should prioritize the contract renewal rate over the length of the contract.
For example, if you have 60 active accounts for renewal but five out of them cancel their subscription — this would leave you with 55 active customers. So, the subscription renewal rate will be 91.6%.
But if instead of 5 customers cancelling their subscriptions, the number was 10, your subscription renewal rate would be 83.3%
If you observe, the subscription renewal changes with the number of downgrades or customer churn. So, to increase your ACV in sales — focus on reducing the subscription cancellations.
To increase your sales ACV, focus on factors that can lead to increase or decrease of annual contract value like:
- Recurring revenue earned from upgrades
- Recurring Revenue earned from downgrades
- Number of customers,
- Subscription rate and so on.
Once you work on scaling these numbers, you'll naturally see the rise in your annual contract value.
Q1. What is ACV vs. TCV vs. ARR?
ACV - Annual contract value measures the average subscription revenue your business makes every year from the customer's contract.
TCV (Total contract value) indicates the total revenue of the contract including one-time charges, service fees, and recurring charges.
Annual recurring revenue (ARR) indicates the recurring revenue earned by the business every year, excluding the one-time and variable fees.
Q2. Why is ACV better than TCV?
It is better to calculate ACV than TCV as sales ACV analyzes the contract revenue for a single year and evaluates what customers have paid in advance.
With TCV, you calculate the total contract value, which sometimes can be unrealistic to measure, especially in cases where the customer drops off the contract.
Q3. Is ACV the same as LTV?
No. Lifetime value (LTV) measures the average revenue generated by the customer before they churn while ACV measures the average contract value generated by the customer excluding the one-time fees.
Q4. How to increase the sales ACV?
Here are four ways you can increase the sales ACV:
- Segment your repeat customers to nurture them more (using emails and in-app messaging) as these people are likely to upgrade to your advanced pricing tiers in the future.
- Use cross-selling techniques to sell complementary products to the customer and increase your contract value. For example, HackerEarth offers different products like Assessments, FaceCode, Hackathon, and Learning and development. If their customer is using Assessments for candidate screening and wants to improve their overall interview experience, they can opt for FaceCode.
- Structure your pricing plans in a better way. Then, send personalized in-app messages to segmented users (based on their frequency of user or customer accounts) telling them about the rise in subscription prices, and inclusions in the pricing plan.
- Use interactive guides and tooltips to educate the users about newly launched product features. This way, they'll be able to quickly learn how to utilize those features to their potential, which enhances their customer experience.