<img src="https://ws.zoominfo.com/pixel/zvVNNaJfija36JfACT7K" width="1" height="1" style="display: none;">

Forecasting Subscription Revenue: How to Do it Right

Forecasting subscription revenue requires you to calculate several key metrics. Read this post to learn what these metrics are and how to calculate them.
Niclas Lilja
By Niclas Lilja on April 22, 2022
 

Forecasting subscription revenue is essential for generating B2B SaaS funding and general marketing and financial planning.

Forecasting subscription revenue right can be tricky for several SaaS businesses. There are several parameters that play a crucial role while forecasting subscription revenue and we’ll discuss these in this post.

This article will discuss the best approach to forecasting subscription revenue in 2022. But first, let’s understand what exactly is subscription revenue forecasting.

What is Subscription Revenue Forecasting?

Forecasting subscription revenue is the process of estimating the recurring revenue a business would generate over a pre-specified period (month, quarter, or year).

Forecasting subscription revenue growth can help you understand how to best allocate your budget to different business areas and plan for business growth.

It is clear that forecasting subscription revenue is a must for a successful subscription-based revenue model. 

Before we discuss the best approach to forecasting subscription revenue, you need to understand revenue metrics relevant to a subscription-based business model.

Key Metrics for Forecasting Subscription Revenue

Following are the metrics that will help you forecast the revenue for a subscription-based business.

Average Monthly Recurring Revenue (Average MRR)

Average Monthly Recurring Revenue is the estimate of total revenue a subscription-based business is expected to generate in a month. Average Monthly Recurring Revenue is calculated by multiplying the total number of customers by the Average Revenue per Account (ARPA).

Average Monthly Recurring Revenue

For example, if your business has 30 customers and each of them pays $100 every month to leverage your services, your average MRR would be $100 * 30 = $3000.

Customer Churn Rate (CCR)

The customer churn rate is an indicator of how many customers (customers) a business loses every month/year. 

The customer churn rate is measured by dividing the no. of customers who unsubscribed during a period by the total no. of customers at the start of that period. Multiply by a hundred to arrive at a percentage.

Customer Churn Rate

However, while calculating the customer churn rate for forecasting subscription revenue, you need to predict future customer behavior. 

To predict customer churn, you can use Younium’s intelligent solutions for sales and marketing. It can help you with forecasting subscription revenue and managing subscriptions.

Average Revenue Per Accountr (ARPA)

If you divide the revenue by number of accounts, you get Average Revenue Per Account (ARPA). ARPA is essential for forecasting subscription revenue as it gives you access to your business’s revenue-generating capability at the per-customer level.

You can calculate the average revenue per account for forecasting subscription revenue by dividing the total MRR by the number of active customers in a month.

Customer Lifetime Value (CLV)

Customer lifetime value is a calculation of total revenue a business would generate from a customer during their lifespan. To calculate your customers’ total lifetime value, you need to know your post-sign-up retention rate and monthly customer churn rate.

Customer Lifetime Value-1

Now we know what subscription revenue forecasting is and its critical elements, let’s discuss the best approach to forecasting subscription revenue.

Best Approach to Forecasting Subscription Revenue

If you use subscription management platforms that can forecast revenue, there isn’t much you have to do for forecasting subscription revenue. 

Such platforms can automatically analyze your historical data to predict customer churn, acquisition, and retention rates and calculate your future revenue.

However, if you’re managing the metrics using a spreadsheet, you have to forecast subscription revenue manually. Here are the four simple steps for forecasting subscription revenue.

1. Calculate Your Customer Base

The first thing you should do is prepare a continuity schedule for your customers. The customer base for each of your months/quarters will be “customers at the start of the period + new customers- subscription cancellations.”

In a typical subscription-based environment, you can consider three revenue streams to prepare a customer’s continuity schedule:

  1. Revenue from existing customers
  2. Revenue from new customers
  3. Revenue from future subscription renewals

Here’s an example of how to calculate your customer base:

    Month 1 Month 2 Month 3
A Customers (start of the month); (last month’s D) 80 272 442
B New customers 200 200 200
C Subscription cancellation 8 30 60
D Customers (end of the month); (A+B-C) 272 442 582
E Customer base for revenue (A+B) 280 472 642

 

2. Multiply customer Base by ARPA

Once you have calculated the customer base, multiply it with average revenue per account and you’ll get monthly subscription revenue. This is typically called the MRR (Monthly Recurring Revenue).

    Month 1 Month 2 Month 3
A Customers (start of the month); (last month’s D) 80 272 442
B New customers 200 200 200
C Subscription cancellation 8 30 60
D Customers (end of the month); (A+B-C) 272 442 582
E Customer base for revenue (A+B) 280 472 642
F Average Revenue Per Account (ARPA) $100 $100 $100
G Monthly Recurring Revenue (E x F) $28000 $47200 $64200
 

The monthly or annual recurring revenue will act as the basis for the rest of the business strategies like sales, marketing, and financing.

This data that you record at the initial stages will also act as a baseline for future predictions. For starters, it can be used to calculate churn rate and determine average customer lifetime..

3. Calculate Churn Rate

Determining churn rate is essential to the success of a subscription business. Using the data recorded during the first step, you can calculate your churn rate by dividing subscription cancellations by the customers at the start of the particular month.

    Month 1 Month 2 Month 3
A Customers (start of the month); (last month’s D) 80 272 442
B New customers 200 200 200
C Subscription cancellation 8 30 60
D Customers (end of the month); (A+B-C) 272 442 582
E Customer base for revenue (A+B) 280 472 642
F Average Revenue Per Account (ARPA) $100 $100 $100
G Monthly Recurring Revenue (E x F) $28000 $47200 $64200
H Customer Churn Rate [100 x (C ÷ A)] 10% 11% 14%
I Projected Customer Lifetime in Months (1 ÷ H) 10 9.09 7.14
 

The customer churn rate can be used to calculate the projected customer lifetime. To determine that, you just have to divide 1 with the value of customer churn. In the above illustration, the projected customer lifetime for the first month is calculated as

1 ÷ 0.10 = 10 months.

4. Determine Average Customer Lifetime Value and Forecast Annual Recurring Revenue

When you have the average customer lifespan projects, you can use them to calculate the Average Customer Lifetime Value (ACLV). The ACLV can be calculated with a basic formula as 

ACLV = Projected lifetime x ARPA

Or

ACLV = ARPA ÷ Churn Rate

Moreover, you can multiply your monthly revenue (MRR) by 12 to get the Annual Recurring Revenue forecast.

This is how we can calculate our Average Customer Lifetime Value and Annual Recurring Revenue in our hypothetical example.

    Month 1 Month 2 Month 3
A Customers (start of the month); (last month’s D) 80 272 442
B New customers 200 200 200
C Subscription cancellation 8 30 60
D Customers (end of the month); (A+B-C) 272 442 582
E Customer base for revenue (A+B) 280 472 642
F Average Revenue Per Account (ARPA) $100 $100 $100
G Monthly Recurring Revenue (E x F) $28000 $47200 $64200
H Customer Churn Rate [100 x (C ÷ A)] 10% 11% 14%
I Projected Customer Lifetime in Months (1 ÷ H) 10 9.09 7.14
J ACLV (I x F) or (F ÷ H) $1,000 $909 $714
K ARR (G x 12) $336,000 $566,400 $770,400
 

Factors to Consider While Forecasting Subscription Revenue

While forecasting subscription revenue, you need to consider the following factors to ensure effectiveness. 

Analyze Recent and Current Strategic Changes

Although your historical data is a great baseline for forecasting recurring revenue, you cannot undermine the recent strategic changes since you’ve collected the data.

Think of the recent products/services introductions, new marketing activities, and sales promotions strategies that can impact your forecast.

For example, bundled services can improve your customer acquisition rate, whereas raising subscription prices might increase your customer lifetime value. 

Hence, it’s important to consider the recent strategic changes while forecasting subscription revenue.

Leverage Sales Pipeline

Sales pipelines are the most reliable indicator of how many customers you might have in the upcoming months or years.

You can find all the required information in your sales department's sales projection reports for every month or quarter. Gauge how many leads your sales teams are nurturing and what their projections are for the period.

Analyze Customer Behavior

For forecasting subscription revenue, it is essential to analyze the current user behavior. The churn and renewal rates are very diversified across the customers’ life cycles. But looking at each customer’s recent behavior, you can predict their churn likelihood.

For example, if some users haven’t logged into your application for a month, they’re less likely to renew their subscriptions. Moreover, the churn rate will be higher during the first-month trial period and a few months after that.

The best approach to calculate customer retention is cohort analysis. By grouping the customers into cohorts as per their persona and lifespan, you can predict their likelihood of renewing their subscriptions.

FAQs

1. What are subscription revenues?

The recurring revenue that subscription businesses receive is considered subscription revenue. As the subscription fee is charged to the customer for a period of time, the cash inflows are frequent.

2. How do you calculate the total revenue forecast?

The total revenue forecast for a particular month for a subscription service can be calculated with the following formula:

(Customers at the start of the month + New customers) x Subscription fee per customer

3. How do you forecast subscription revenue?

To forecasting subscription revenue, you need to calculate the estimated customer base for the upcoming months and the average value of the subscription fee per customer. Once you have both the data points, the subscription revenue forecast can be calculated as:

Subscription Revenue Forecast = Customer base for revenue x Average revenue per customer.

4. Is subscription revenue an asset?

Subscription revenue is the recurring price customers pay to hire your services. Hence, it’s an income for an organization, and even if it is yet to be received from the future billing cycles, it can be considered an asset as shown under the assets section of the Balance Sheet.

5. How should subscription revenue be recognized?

The monthly or annual subscriptions revenues should be recognized on an accrual basis, which means that the revenue is recorded in the books when it’s earned instead of when it’s received.

Wrapping Up

We’ve discussed the key metrics and ways for forecasting subscription revenue for a SaaS business. Calculating the future customer count and revenue streams is not difficult if you have a subscription revenue model in place.

You can read our recent blog on how to create a subscription revenue model if you need help.

Also, if you’re looking for a subscription management solution, do check out our subscription insights services for B2B businesses.

Published by Niclas Lilja April 22, 2022
Niclas Lilja

Want to know more? Contact us!

Sign up for our newsletter