For every customer, there is a health score customized to them in the customer success software but what about the health of the business? The term Annual Contract Value is abbreviated as ACV. If properly calculated can be an immensely valuable metric that you’d like to track. Indeed helps in tracking the health of the business.
What is Annual Contract Value (ACV)?
The average annual revenue contributed by the customer over a contract is exclusive of the one-time fees. So, Average Contract Value =
Illustration of Annual Contract Value for a bigger picture!
Use case of annual contract
Assume you get a contract from the customer worth $60,000 for 3 years with an initial fee of $200. In this calculation, you are excluding the cost of the first-time fee, so the annual contract value for the customer is $20,000 as we normalize it to a year.
i.e. $60000 / 3 =$20000
Use case of a semi-annual contract
This time you got a customer with a 6 monthly contract of $3,000. The Annual Contract Value of this contract is $3,000 as we normalize the contract to a year.
i.e. $3,000 / 1 = $3,000
When cumulatively calculating for the sales target you’d need to make on a yearly basis, one may need to add the total contract value from all the customers. Let’s do that,
The annual contract value of first customer = $20,000
The annual contract value of second customer = $3,000
The total Annual contract value = $20,000 + $3,000 = $23,000
The Annual contract value of the 1st year = ($23,000/2) = $11,500
The Annual contract value of the 2nd year & 3rd year = ($20,000 + 0) / 1 = $20,000
While the Annual recurring revenue = $20,000 + $6,000 (1 year) = $26,000
Customer Retention is crucial for any business. The Annual contract value determines how well you’d be able to retain your customers! Check out the different metrics to calculate retention and learn which is the best one.
Differences between annual recurring revenue (ARR) and Annual contract value (ACV)
|Total recurring revenue from the subscriptions for a year.||The average value of the contract for a year.|
|A standardized metric is used one time.||A metric used for often varied times.|
|It is not industry-specific||It is SaaS-specific.|
Annual contract value as a metric?
When together used with other metrics this will catch your mind and can be insightful.
So, time to elevate your business decisions!
ACV and CAC
If you are wondering if you have a low value of ACV, it’s not a matter of worry at all. It’s just how your product is oriented towards. It may be attracting Flies or Deers. So, a company with low ACV has to work out acquiring more customers and this viral product will have a nearly low acquisition cost!
It’s quite opposite to the big shots there as the product pricing is high, they need less number of deers to be profitable. And the customer acquisition cost (CAC) can be higher.
It gives the idea of the market fit, a clear picture of the product’s aim, and the clarity for the marketing to target appropriately.
ACV vs TCV
ACV is seldom confused with total contract value (TCV), but they are almost the same but considered for varied contract periods. It’s the total revenue from the overall contract period. For the first consumer above there, the ACV was $20,000 and whereas the TCV would be $60,000.
It aids in analyzing the valuable customers in the contract period and to figure out the discount for the loyal customers.
How to heighten the Annual contract value?
Increasing the price of the subscription
When the prices are increased if the existing customers who value your product, will want to buy the product regardless of the price, will buy. But doing this suddenly is not the key,
Segment the customers who are seeing the worth in your product and intimate them of the increasing price due to adding new features. Give them a discounted price after a free trial, so that they have time to decide to expand their budget.
Don’t expect every customer will react similarly. It’s still a risky shot.
Check out: Find out the right plan for you
Upselling or expansion of contract value
This is another way to introduce them to some new features or plans they may take based on the use case it may help them. Here they have an option to pick it and not like it is enforced. That has to be ensured.
Because the better the features introduced, it helps them to improve processes in the businesses and to make a bigger revenue, which is worth the value and they understand it. So this shouldn’t come out as a forced decision but rather a happy decision.
How can Annual contract Value help?
If you are still unsure how this can help then, here’s how:
- In the understanding of which account may give the highest revenue.
Isn’t this factor the most important for the business? Rather than putting all the efforts into the account that hardly makes a difference in your business.
- To improve the customer service to the ones who have the potential to stay longer.
The long-term customers come into the picture when they are well served and hence need much attention in caressing their customer journey with your product.
- To compare the contracts that may have higher potential.
It’s not that you are only looking at one account but multiples to derive those segments that are worth the effort for your business.
- Optimizing the strategy of the marketing efforts.
This in turn helps the marketing team to target customers with the right content they need to keep them engaged.
- To decide on the subscription plans.
What your high potential sees in your product determines how much it is worth and is room for improvising the plans as you grow.
- Checking on the health of the business.
You should know what your business is aiming at and at what stage it currently is to make better decisions.
What’s in the end?
How can you not consider the health of the business? It’s this metric that keeps you intact but most of them drop this off from the metric list. Maybe due to the confusion in the air around ACV and ARR. This should make it clear actually! The average revenue expectation compared to total revenue, helps the sales to have realistic goals while taking business health into account.