The Engine of Future Success: Focus on the Growth of Your Growth
We recently wrote that There’s More to Growth than Growth Rate, covering various measures of growth and two related Scale concepts, “growth persistence” (the predictable decline in growth rates year to year) and the “Mendoza Line” (the growth rate necessary at any revenue level to be on track for an eventual IPO).
Below we’re going to drill down into another of our top-of-mind metrics, the Net New ARR growth rate. In a venture environment where few companies raise pre-revenue Series A rounds, investors are focused on rapid Net New ARR growth sooner than ever.
After all, the rough early quarters of COVID spotlighted an important fact about growth: it’s possible to have negative Net New ARR growth and still show positive ARR growth. In SaaS, “growth” typically means ARR or GAAP revenue. It’s an easy shorthand.
Yet it might be too much of a shorthand. The measure of growth that you really want to optimize for from the beginning -- and put in your fundraising slide deck -- is the growth rate of your growth rate. That is, your Net New ARR growth rate.
How Is Net New ARR Growth Rate Calculated?
First a quick reminder that Net New ARR (NNARR) is simply New ARR for a period (say, a quarter) plus Upsell and Expansion minus Churn. NNARR therefore reflects new sales (and thus your sales motion), the total amount of upsell and expansion (which speaks to both sales and customer success), and your churn situation (covering both product and customer success). It’s a key metric to track organization-wide because it touches on pretty much every corner of your operations.
The formula for Net New ARR growth rate looks like this:
Basically you’re comparing how much the current quarter’s Net New ARR grew compared to the same growth a year prior. More growth is always better -- and more NNARR growth is even better than that.
Why Does NNARR Matter?
There is a progression of importance from ARR to ARR growth to NNARR growth. ARR says how big you are. ARR growth is how fast you’re getting bigger -- and fast is worth more to investors than slow. NNARR growth is the same, but times ten.
In a late-2020 article, Scale’s Rory O’Driscoll zeroed in on the importance of Net New ARR in annual plans for 2021, saying:
Net New ARR is a very leveraged number and the growth rate of NNARR is an even more leveraged metric. Net New ARR captures all the “work” taking place. New customer additions, upsells, and churn are all reflected in this number without the smoothing out denominator effect that you see in growth rates of Total ARR. NNARR is like an amplifier in a power circuit, making painfully clear the impact of deceleration in a way that a Closing ARR growth rate does not.
Let’s unpack this a little. Basically, NNARR is important because it rolls up a lot about your operations into a single number. It is also a leading indicator of future ARR growth. In a healthy business, NNARR growth accelerates as much or more than ARR itself.
For investors, strong NNARR growth signals a bunch of good things like go-to-market maturity, product-market fit, and happy customers all rolled up in one.
Good, Better, Best NNARR Growth Benchmarks
We’ll close with NNARR growth rate benchmarks, always available and up-to-date on the Scale Studio Reference Benchmarks page.
Here are NNARR Growth benchmarks by revenue. Mouseover the revenue levels for the Good/Better/Best percentiles.
Notice that when you toggle between the Best percentile growth rates for NNARR and ARR, you see that from $5M in ARR onwards, the highest performing companies have NNARR higher than their ARR growth rates. NNARR is the “engine” of future growth -- and success. Investors know this, and these companies fetch the premium valuations round after round.
There are many ways to express growth. But you can’t go wrong with a laser focus on maximizing Net New ARR growth rate from your first dollars in sales.
Originally published February 10, 2021.