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Glossary » Annual Contract Value (ACV)

Annual Contract Value (ACV)

What is Annual Contract Value?

ACV (Annual Contract Value) is a measure of the total value of a customer contract over the course of a year – this includes both recurring and one-time payments. 

It’s a metric typically used by SaaS (Software-as-a-Service) companies as it’s useful for assessing the health of a business by providing a clear picture of the revenue that a customer is generating on an annual basis. 

Additionally, ACV can be used to compare different customers or contracts, as it offers a standard way of measuring value. 

For example, a customer with an ACV of $5,000 is considered more valuable than a customer with an ACV of $3,000. 

Synonym

  • ACV

Annual Contract Value Use in Sales

Why ACV is a Meaningful Metric

ACV is a common metric used to measure the health of a company’s sales pipeline. By tracking it over time, companies can identify trends and make adjustments to their sales strategy accordingly. 

Additionally, it’s often used as a barometer for future sales performance – if a company’s ACV is trending downward, it may be an indication that future sales will also decline. 

ACV also allows investors to compare companies on a level playing field, as it strips out one-time revenue sources (such as one-time product sales). 

Plus, it gives analysts and investors a way to track the growth of a company’s recurring revenue stream over time – a healthy recurring revenue stream is essential for long-term success, as it provides a stable source of income that can be used to reinvest in the business

Best Metrics to Combine with ACV

When it comes to measuring the success of a business, there are a lot of different metrics that can be used in combination with ACV.

Combining ACV with CAC (Customer Acquisition Cost) will provide a more holistic view of customer acquisition costs. 

Customer lifetime value is one metric that can be used to complement ACV, as it takes into account the total value of a customer over the course of their relationship with a company. 

This metric can be used to help determine whether the customer acquisition costs associated with a particular customer are likely to be worth it in the long run. 

Another metric that can be used in combination with ACV is the customer churn rate, this metric looks at the number or percentage of paying customers who cancel their subscriptions or do let their subscriptions run out without renewing them, all within a given period of time. 

In order to get a complete picture of sales performance, ACV can be combined with ARR (Annual Recurring Revenue) – this particular metric looks at the yearly recurring revenue that a business creates from its customer base. 

This metric is valuable because it captures the ongoing value of a customer relationship, rather than just the one-time value of a sale – this offers greater granular insight into sales performance and helps companies to identify opportunities for growth. 

TCV (Total Contract Value) is another useful metric to combine with ACV. TCV takes into account the entire value of a contract, rather than just the first year, and it’s especially useful for long-term contracts or deals with multiple renewal periods. 

In addition, TCV can be used to assess whether a salesperson is selling low-value deals in order to inflate their ACV. By combining ACV and TCV metrics, businesses can avoid making decisions based on incomplete data.

Who Needs to Use ACV

ACV is particularly important for businesses that sell subscription-based products or services – like SaaS companies – as it allows them to track whether their customers are renewing their subscriptions and how much they are spending on an annual basis. 

ACV is also used by investors to assess the health of a company’s business model. For these reasons, it is essential that businesses have a clear understanding of ACV and how to calculate it properly.

Annual Contract Value Calculation

ACV can be calculated in a number of different ways. One way is to take the total value of all contracts signed in a given year and divide it by the number of years in the contract

For example, if a company signs two three-year contracts worth a total of $60,000, its ACV would be $20,000. 

However, the most common method is to simply take the total value of all contracts signed in a given year and divide it by the number of customers. 

This metric can be further broken down into monthly or even quarterly ACV metrics, which can be useful for tracking customer churn. 

The formula is as follows:

Annual Contract Value (ACV) = Normalized Total Contract Value (TCV) ÷ Contract Term Length

Strategies for Increasing Annual Contract Value

There are a number of strategies that businesses can use to increase their ACV. 

One common approach is to increase the length of the contract. This gives the customer more time to use the product or service and also provides the business with a steadier stream of revenue

Another strategy is to increase the scope of the contract – this could involve adding new products or services, or providing a higher level of support. 

However, the main differentiator between the chosen strategy will depend on if a business is looking for a small ACV increase or a large one.

A Smaller ACV Strategy 

If a business wants to secure $2 million in revenue annually, and they’re currently only getting $1.6 million, there are various avenues that they can take to make this happen. 

The company has 1,600 customers paying $1,000 on average annually, so that’s a small ACV, and they’ll need to increase the number of customers by 20% (2,000) to reach the $2 million mark. 

$2,000,000 ARR / $1,000 ACV = 2,000 customers

To make this a reality, the business will need to invest more resources into the initial awareness and attraction phase of the marketing funnel.

A Bigger ACV Strategy 

If we take the same example, but change the ACV from a smaller one to a bigger one, say $20,000, then the business will need around 100 customers to reach the $2 million goal. 

While this may sound more manageable, securing these high-value clients can be challenging. 

The significant contract size will mean that fewer companies fit the buyer persona, which means the business needs to invest more time and resources into target audience research and finding the ideal client.

This resource uplift doesn’t simply stop once the client is on board, due to the high monetary value involved clients will expect a higher level of care and support so, individual account managers and support teams will likely be needed to provide this.

How CPQ Helps SaaS Companies Grow ACV

For SaaS companies that often deliver their products and services via a subscription-based model, an effective CPQ tool can help them to grow their ACV.

Highlighting future upsell and cross-sell opportunities is one key area in which SaaS companies can increase their ACV.

From quarter to quarter, businesses will not only want but need insights into potential upsell and cross-sell opportunities. 

A CPQ system enables businesses to see ACV segmented by current and future quarters, alongside the opportunity types they exhibit, such as new business, and renewals, this not only highlights potential areas to upsell or cross-sell, it also provides a comprehensive overview of what’s already in place. 

The granular data that CPQ tools provide businesses with quality data that helps them to understand how and why customers are using their products and services, helping to identify new opportunities.

From a technical standpoint, SaaS sales reps or DevOps can easily reveal the ACV for a subscription-based quote using a CPQ solution, by using tool-specific formulas to generate the desired results. 

People Also Ask

What is the difference between ACV and TCV?

ACV and TCV (Total Contract Value) are both important metrics, but they serve different purposes. ACV is useful for measuring the recurring revenue stream from a customer, while TCV is used to measure the total value of a customer relationship. 

ACV is typically used to assess the performance of sales teams, while TCV helps assess the health of a company’s customer base. Because ACV only includes recurring revenue, it can be misleading when used to compare companies with different business models.

For example, a company with a subscription business model will have a higher ACV than a company with a one-time product sale business model. However, the company with the subscription business model may have a lower TCV if its customers are less loyal or have shorter contract terms.

As such, it’s vital to use ACV and TCV in conjunction with each other to get a complete picture of a company’s customer relationships.

Why is ACV better than TCV?

ACV takes into account both the upfront costs and the recurring costs associated with a contract, and it is a more accurate way to measure the true value of a contract than TCV. This is because it recognizes that not all of the value of a contract will be realized in the first year.

ACV is especially important for long-term contracts, such as those for software subscriptions, because it provides a more accurate picture of the true value of the contract over time. 

What is the difference between ACV and ARR?

While ACV measures the total value of all contracts signed in a given year, ARR (Annual Recurring Revenue), on the other hand, is the amount of revenue that a company expects to receive on a yearly basis from its recurring customers.

Both ACV and ARR are essential indicators of a company’s health, but they have different implications for decision-making. ACV is typically used to measure growth, while ARR is more commonly used to measure profitability.