ARR Formula: How to Calculate Annual Recurring Revenue and Where MRR Fits

The ARR formula is short: take your monthly recurring revenue (MRR) and multiply it by 12. The hard part is deciding what goes into MRR. One-time fees stay out. Cancellations and downgrades come out. Discounts, trials and metered charges need a rule you write down before the number appears in a report.

By Avi Vatsa, CEO, Exchange Four Agency. Avi leads the team that installs and runs AI-leveraged revenue systems for owner-led companies. His background spans law, technology, and marketing; he also co-founded Dialora, an AI voice-agent platform for automated lead capture and booking. (Marketer of the Day #1411)

What is annual recurring revenue?

It is the part of your revenue that repeats on a contract or subscription, shown as a yearly figure. It leaves out anything you earned once. Stripe defines it this way:

"Annual recurring revenue (ARR) is the income a business expects to receive in a year from ongoing payments for continued access to a product or service."

Two points follow from that. First, the word expects matters. ARR is a forward-looking figure built from what is billing now, not a record of cash already received. Second, it only applies to revenue that is meant to continue.

One naming note. ChartMogul calls its report Annual Run Rate, and its help page shortens that to ARR. Other tools label the same figure Annual Recurring Revenue. Whichever label you see, check the formula behind it, because that is what decides the number. Our piece on revenue run rate covers the wider idea of turning a short period into a yearly figure and where it goes wrong.

What is the ARR formula?

There are two versions in common use. The first is the one most owners need.

Stripe describes the step from monthly to yearly:

"Then, you extrapolate that to a full year by multiplying MRR by 12."

ChartMogul states the same rule in its own report:

"ChartMogul calculates ARR as MRR × 12."

So the formula is:

ARR = MRR × 12

MRR is the recurring revenue you bill in one month. If you charge some customers yearly, divide their annual price by 12 to put them on the same footing. If $12,000 is billed once a year for a subscription, it adds $1,000 to MRR.

The second version builds the number from the year's movements. Paddle gives it like this:

"ARR = (Sum of subscription revenue for the year + recurring revenue from add-ons and upgrades) - revenue lost from cancellations and downgrades that year."

Paddle also says the shortcut works:

"Another way to calculate ARR is to multiply your monthly recurring revenue by 12."

The two are built differently. MRR times 12 is a snapshot of today's rate, annualised. The component version adds up what happened across the year. When your base changes during the year, a snapshot and a full-year sum will not give the same figure. Pick one, say which one it is, and keep using it.

What counts toward ARR, and what does not?

Use this as a working list. It follows the sources where they speak.

One-time fees

This is the most common error, so the sources are plain about it. Stripe says:

"One-time fees, professional services, and hardware sales shouldn't be folded into ARR."

ChartMogul's report works the same way:

"Only subscription invoice line items contribute to this metric. One-time (non-recurring) line items do not."

Paddle agrees:

"Any one-time options should not be included in this calculation."

A setup fee or an onboarding project does not repeat next month. Multiplying it by 12 pretends it will.

Expansion, downgrades and cancellations

Expansion counts, but only when it recurs. Paddle gives the test:

"any expansion revenue earned through add-ons or upgrades must affect the annual subscription price of a customer."

A customer who buys a one-off extra has not expanded their ARR. A customer who moves to a higher plan has.

The other direction matters just as much. Stripe warns that ARR must move down as well as up:

"ARR isn't static. It should be updated to reflect cancellations, downgrades, and contractions, not just new sales and upsells."

Discounts

Stripe's Billing documentation treats this as a setting:

"You can configure whether to include or exclude discounts in your MRR calculation."

It also says which choice is more cautious:

"Subtracting discounts from MRR is considered a more conservative approach to reporting MRR because it more closely reflects the present value of these customers."

Neither choice is wrong. The error is switching between them from one report to the next. If you subtract discounts, ARR falls by twelve times the monthly discount.

Trials and failed payments

ChartMogul states what its report includes:

"Only active (currently billing) and past due (payment failed but not yet churned) subscriptions contribute to this report."

Read plainly, that means a customer who has not started billing is not in that report, and a customer whose card failed is still in it until they churn. We are reading the wording, not a trial rule the page spells out. Check how your own billing tool treats trials, and write the answer down.

Usage-based and metered revenue

The four pages we read do not say how usage-based or metered charges should be treated in ARR. We are not going to invent a rule. If part of your revenue varies with use, the safe approach is to report the fixed recurring part as ARR, show the variable part on its own line, and say which is which. That is our suggestion, not something the sources state.

A worked example, with simple numbers

This is an illustrative example. The numbers are invented to show the arithmetic. They are not a benchmark and not a client result.

A company bills these customers each month:

• 30 customers on a $1,000 monthly plan: $30,000
• 10 customers on a $2,000 monthly plan: $20,000

That is $50,000 of MRR before discounts. In the same month it also billed $15,000 in setup fees and $8,000 for an onboarding project. Those are one-time items, so they are not MRR.

Step 1: put discounts on the table. Suppose discounts reduce what customers pay by $2,000 a month. Using the more conservative approach Stripe describes, MRR is $50,000 − $2,000 = $48,000.

Step 2: apply the formula. ARR = $48,000 × 12 = $576,000. Without subtracting discounts it would be $50,000 × 12 = $600,000. The $24,000 gap is $2,000 × 12.

Step 3: add the month's movements. Over the next month:

• New customers add $3,000 of MRR.
• Upgrades add $4,000.
• Downgrades remove $1,000.
• Cancellations remove $2,000.

New MRR = $48,000 + $3,000 + $4,000 − $1,000 − $2,000 = $52,000. New ARR = $52,000 × 12 = $624,000.

Now the mistakes. If you ignore the downgrades and cancellations, MRR reads $55,000 and ARR reads $660,000. That is $36,000 too high, which is $3,000 × 12. If you fold in the $23,000 of one-time fees, MRR reads $75,000 and ARR reads $900,000. That is $276,000 too high, which is $23,000 × 12. The second figure is not a yearly rate at all. It is one month of one-time money multiplied by 12.

What mistakes do owner-led companies make with ARR?

Counting one-time money. The example above shows the size of the problem. Setup fees and project work are easy to sweep into a revenue line because they arrive on the same invoice run.

Only adding, never subtracting. A report that shows new sales and upgrades but never cancellations produces a number that only rises.

Switching the discount rule. If last quarter's ARR was before discounts and this quarter's is after, the fall in the number is a change in method, not in the business.

Mixing period lengths. Annual contracts and monthly plans have to be put on one basis before you multiply. Divide the annual price by 12 first. Do not add a yearly price to a monthly total.

Treating ARR as cash or profit. ARR says what is expected to recur. It says nothing about when the money arrives or what it cost to earn. If customers prepay for a year, the cash and the revenue do not line up month by month, which is the subject of our note on deferred revenue. To judge what a customer is worth after delivery costs, see CAC payback period, which uses gross margin rather than revenue.

Quoting ARR without the definition. Two people can both say ARR and mean different things, because of the points above. The number is only useful with its rules attached.

How does ARR fit with retention?

ARR tells you how big the recurring base is at a point in time. It does not tell you how well you keep and grow it. For that, read it beside net revenue retention, which takes the same recurring base and asks what happened to the customers already in it.

A business can post a rising ARR while losing existing customers, if new sales are large enough to cover the loss. That is why the second number matters.

What should you ask for in an ARR report?

If an agency, a finance lead or a software tool gives you an ARR figure, ask for these items on one page:

1. The formula. MRR × 12, or the component version, and which one was used.
2. The date. The month the MRR snapshot was taken.
3. What was excluded. Confirm that setup fees, project work and other one-time items are out.
4. The discount rule. Before or after discounts, and whether that has changed.
5. The movements. New, expansion, downgrade and cancellation amounts on separate lines, so you can trace the change from one report to the next.
6. The treatment of trials, failed payments and variable charges. Written down, even if the answer is that variable charges are shown separately.

The aim is an ARR number you can trace back to invoices and re-run yourself.

What is the short version?

ARR is MRR times 12. Put only repeating subscription or retainer revenue into MRR, leave one-time fees out, take away cancellations and downgrades, and choose a discount rule and stick to it. Where the sources are silent, as they are on usage-based charges, say so in the report and show that revenue on its own line. State the definition beside the number every time.