Annual Contract Value is the average annualized revenue per customer contract. It excludes any one-time fees.
For example, if you had one customer who signed a 3-year contract for $36,000, your ACV is $12,000. If you have 100 customers on a monthly plan at $1000 per month, your ACV is also $12,000.
Annual Contract Value (ACV) isn’t a very valuable metric by itself, but it becomes super important when compared to other metrics. If you compare Annual Contract Value to Customer Acquisition Cost, you can see how long it takes to pay back the cost of acquiring a customer.
Today, we’re digging into one of the most misunderstood but immensely valuable SaaS metrics: annual contract value, or ACV.
Like its closely related cousin annual recurring revenue (ARR), annual contract value can help you understand the health of your SaaS business. Unfortunately, almost no-one agrees on how to calculate ACV, leading to a ton of confusing information out there around how to measure ACV.
We want to clear up the confusion. Let’s go through the definition of ACV, a few examples of how to calculate it for your SaaS business, and some tips on how you can use ACV to guide your business decisions.
What is Annual Contract Value (ACV)?
Annual Contract Value (or ACV) is the value of subscription revenue from each contracted customer, normalized across a year. Say a customer signs a 5-year deal with you for $50,000—normalizing this to a single year means your ACV is $10,000.
The ACV Formula
The base formula for calculating ACV is relatively simple:
The Annual Contract Value (ACV) Formula
Examples of how to calculate ACV
Part of why ACV is confusing for SaaS founders is because it feels very similar to ARR on the surface. But while ARR measures the value of recurring revenue at a single point in time, ACV normalizes that revenue across one or more years.
Let’s go over two different examples to show how you can calculate ACV for your own business, whether your customers prefer long- or short-term contracts.
ACV for a long-term customer
Meet Customer A. They recently signed a 3-year contract worth $60,000 with your company (congratulations!), with an initial signup fee of $150. Customer A plans to pay yearly for your software.
The ACV for Customer A, then, can be calculated as follows:
An example calculating Annual Contract Value (ACV) for a long-term customer
It’s worth noting here that in this case, ACV and ARR are identical—we’ll see why in a minute.
ACV for a short-term customer
Let’s move on to Customer B, who agrees to pay $5,000 for a 6-month contract, paying monthly. Since payments are normalized over one year instead of the length of the contract, the ACV for Customer B is calculated thus:
An example calculating Annual Contract Value (ACV) for a short-term customer
In this case, assuming Customer B plans to renew at the end of the six-month period, the ARR would be $10,000.
Combining ACV for both customers
This is where things get interesting. Let’s now average our ACV for both Customers A and B.
First, we need to work out the ARR so we can show the difference between how to calculate ARR and ACV. This value gets normalized across the length of each contract, to obtain the ACV for each year:
Annual Contract Value (ACV) versus Annual Recurring Revenue (ARR)
Now you can see that ACV lets you average out the annual values of contracts across different customers, giving you a great tool to measure the health of your subscription-based business.
How important is annual contract value?
By itself, the annual contract value (ACV) isn’t a super-useful metric. But, by understanding your strategy for ACV, and by comparing it to other SaaS metrics, you can pull out some valuable insights to help guide your business decisions.