SaaS Quick Ratio

What is the SaaS Quick Ratio?

The SaaS quick ratio is a metric software companies use to evaluate growth efficiency. It compares a company’s new MRR (from acquisition and expansion) to revenue lost from churn and downgraded subscriptions to determine its actual net revenue growth.

A high SaaS quick ratio (i.e., anything greater than 4) indicates your company is growing its revenue much faster than it’s losing it and can support scale. At $4 in new revenue for every $1 of lost MRR, your churn and downgrade rates are low and your top-line growth is solid. Those are signs of a healthy startup.

A ratio below 1 means churn and contraction are outpacing growth, a huge red flag for business sustainability.

Keep in mind that the SaaS quick ratio is different from the traditional quick ratio. The “quick ratio” in accounting refers to a company’s liquidity — that is, its ability to pay off short-term liabilities with its current assets. The SaaS quick ratio is specifically designed for the SaaS revenue model.

Synonyms

• SaaS metrics

How the SaaS Quick Ratio Measures Growth

SaaS companies use the quick ratio as a benchmark of how effectively they’re growing their top line relative to their revenue reductions. Sales revenue is only one component of a company’s financial health, and growth is only half the battle.

Unlike other SaaS metrics that focus solely on total revenue or current profitability, the quick ratio captures the whole picture by taking into account both the revenue added from new customers and the retention or expansion of existing customers, versus the revenue lost due to churn.

Let’s take a look at the main components of the SaaS company quick ratio:

New MRR

Monthy recurring revenue

New MRR shows your business’s ability to attract new customers. A large amount of new MRR indicates strong customer acquisition efforts and signals market interest in your product.

Expansion MRR

Expansion MRR is the additional revenue generated from existing subscribers through upselling, cross-selling, and upgrading their current plans.

It highlights the effectiveness of customer retention strategies and the ability to increase the lifetime value of customers. And it’s a key indicator of customer satisfaction and product-market fit, as existing users would only be willing to spend more on the platform if they’re happy with using it.

Churned MRR

Churned MRR refers to the amount of recurring revenue lost due to customers cancelling their subscriptions during that same period.

MRR churn reflects customer dissatisfaction, competition, and changing market needs. It also could be from involuntary churn, such as failed payments or expired credit cards.

High churn can significantly reduce your company’s quick ratio. If this is happening, you’re struggling to retain your users and need to improve customer engagement, support, product features, or billing processes.

Contraction MRR

Contraction MRR measures the reduction in recurring revenue when existing customers downgrade or reduce their subscription plans. Here, you didn’t lose the customer. But you ended up with lower MRR from that customer than before.

Contraction can be a result of customers not seeing enough value in the higher-priced plan or finding it too expensive. It’s not as detrimental as churn, but it does show areas where the product or pricing may no longer meet customer needs.

Look for patterns in contraction MRR to know whether it’s an issue with your sales reps, pricing model, or the product offering itself.

How to Calculate the SaaS Quick Ratio

The SaaS quick ratio is a straightforward number to calculate, but it requires you to have accurate data on your revenue streams, customer churn, and the impact of your expansion efforts.

Here’s our step-by-step guide to help you calculate it effectively:

1. Gather your data.

To successfully calculate your SaaS quick ratio, you first need the four data points we’ve mentioned above:

• New MRR
• Expansion MRR
• Churned MRR
• Contraction MRR

You can find these numbers in your CRM, accounting software, or other SaaS analytics tools you use. Make sure the data is accurate and all of it reflects the exact same time period (e.g., the same month or quarter).

2. Add new MRR and expansion MRR.

New MRR shows how much new business you acquired. Expansion MRR shows how much additional revenue you gained from your existing customers upgrading their subscriptions, adding new users, or tacking on features to their plans.

These two components represent your company’s growth in recurring revenue.

Total MRR Growth = New MRR + Expansion MRR

3. Add churned MRR and contraction MRR (separately).

Churned MRR is the revenue you’ve lost due to customers completely cancelling their subscriptions. Contraction MRR is the revenue you’ve lost from customers downgrading their service levels or reducing their usage.

Together, these two figures represent your total revenue loss for that same period.

Total MRR Loss = Churned MRR + Contraction MRR

4. Divide your MRR growth by your MRR loss.

Once you’ve worked out these figures, you can calculate your quick ratio by dividing your MRR growth by your MRR loss:

Quick Ratio = (New MRR + Expansion MRR) / (Churned MRR + Contraction MRR)

Simplifies to:

Quick Ratio = (Total MRR Growth) / (Total MRR Loss)

For example, if you had the following numbers:

• New MRR = $50,000
• Expansion MRR = $20,000
• Churned MRR = $10,000
• Contraction MRR = $5,000

Your quick ratio would be $70,000 / $15,000 = 4.67.

Interpreting Your SaaS Company’s Quick Ratio

Again, the optimal quick ratio for a SaaS company is 4 or greater. At this point, you’re effectively gaining three times more revenue from new and expanding customers than you’re losing from churned or contracted users.

But what if your quick ratio is lower?

Let’s take a look at what different quick ratios could mean for your business:

Between 0 and 1

If your quick ratio is ≤ 1, you aren’t in a good place. Your company’s revenue from new and expanding customers isn’t enough to offset the loss from churned or contracted users. You need to focus on improving your customer retention strategies and reducing your churn rate.

A few different things could be causing this:

• Dissatisfaction with the product or service
• Inadequate customer support
• Ineffective sales qualification processes
• Poor product-market fit
• Misalignment between pricing and product value
• Better alternatives from competitors

Long-term, a SaaS quick ratio ≤ 1 will lead to cash flow challenges. If you’re losing customers faster than you’re acquiring them, you eventually won’t be able to cover operational expenses, let alone fund further growth.

At this level, investors are also extremely worried about your company’s stability and future. You’ll struggle to secure funding, and current investors will be seriously concerned about the instability in your revenue model.

Between 1 and 4

If your quick ratio is greater than 1 but less than 4, your company is growing but there’s room for improvement. You’re adding more new revenue than you are losing from churn and downgrades, but you aren’t necessarily net-positive — expenses like development, sales, and marketing are eating into your margins so you don’t have much (if any) to fund growth initiatives.

SaaS businesses here are in a stable phase, with a decent balance between acquiring new customers and managing churn. But the presence of some contraction or lost revenue prevents more aggressive scaling.

It’s a sign that you need to increase your growth velocity by either:

• Accelerating customer acquisition
• Boosting customer retention
• Increasing expansion revenue
• Improving your product
• Investing in customer success initiatives

Investors see this as positive, but not overly impressive. You’re growing and stable. While it won’t typically raise red flags, investors will expect you to take steps to become more efficient and scalable over time.

4 or greater

At this level, you’re in a great spot. Your MRR from new and expanding customers far exceeds losses from churn and contraction. You have the luxury of growing faster without worrying too much about short-term cash flow or needing to raise more funding.

This indicates:

• Low churn
• High customer satisfaction
• Alignmet with your ICP
• Effective sales processes
• Financial health and profitability
• Resilience against market changes

SaaS startups with quick ratios ≥ 4 are considered hyper-growth companies. If you’re here, investors will take your product seriously. As long as you can keep your ratio at 4, your investors will be happy and your company will be in a strong position to scale.

Quick Ratio vs. Other SaaS Metrics

The SaaS quick ratio is unique in the sense that it’s able to give you insight into your true revenue growth rate. If you just look at what’s coming in or what you’re losing, you might over or underestimate your ability to achieve sustainable growth.

Your quick ratio is straightforward, easy to calculate, and telling of what’s happening in your company.

But, while it’s one of the most important financial metrics, there are others you should look at to evaluate your company’s performance, growth potential, and overall health.

The Rule Of 40

The Rule Of 40 is a benchmark used to evaluate the balance between growth and profitability in SaaS businesses. It states that a company’s growth rate (% revenue growth) plus its profit margin (EBITDA margin or free cash flow margin) should equal or exceed 40%.

Rule Of 40 = Revenue Growth Rate + Profit Margin ≥ 40%

The Rule Of 40 provides a high-level view of the trade-off between growth and profitability. It recognizes, for example, that in the SaaS world, a company growing rapidly but operating at a loss can sometimes be just as good, if not better, than a slower-growing company that is profitable.

While the quick ratio focuses solely on $$$ in vs. $$$ out, the Rule Of 40 is better when you’re a startup that’s trying to grow, but has yet to become profitable.

Magic Number

The SaaS Magic Number measures the efficiency of sales and marketing efforts by calculating how much new revenue is generated for every dollar spent on acquiring customers.

SaaS Magic Number = (Current Quarter Recurring Revenue – Last Quarter Recurring Revenue) × 4 / Previous Quarter Sales and Marketing Spend

To interpret this:

• Magic Number > 1: Sales and marketing efforts are efficient; revenue is growing faster than acquisition costs.
• Magic Number < 1: Sales and marketing are not generating enough revenue to justify the spending.

By calculating this number, you have more insight into the profit you’re generating. While the quick ratio will tell you whether you’re making “enough,” the Magic Number tells you whether you’re spending too much to make that money.

CAC, CLV, and the ratio between the two

Two of the most important SaaS metrics:

• Customer acuquisition cost (CAC)
• Customer lifetime value (CLV)

Your CAC is a measure of how much you spend on acquiring new customers. To calculate it, all you have to do is add up all your sales and marketing expenses for a given period of time, then divide it by the number of customers you acquired during that same time frame.

CAC = Sales and Marketing Expenses / Number of New Customers

Measuring CLV is a bit more complicated. You have to forecast how much a customer will spend over the course of their lifetime, then subtract your costs.

CLV = Average Revenue per User × Gross Margin / Customer Churn Rate

Now, you also need to understand the relationship between the two.

• Your CAC payback period is the length of time it takes for you to make back what you spent on acquiring a customer. Ideally, it’s 12 months or less.
• Your LTV:CAC ratio tells you how much you’re spending on customer acquisition relative to their worth. You want this ratio to be 3:1 or higher.

Gross + net revenue retention

Gross revenue retention measures the amount of revenue you retain from existing customers over a period of time, without accounting for expansion revenue.

The calculation is simply:

Gross Revenue Retention = (Beginning MRR – Churned MRR – Downgrades) / Beginning MRR

Net revenue retention (NRR) factors in expansion revenue, giving a more accurate picture of how much you’re retaining from existing customers.

The calculation is:

NRR = (Beginning MRR + Expansions – Contractions – Churn) / Beginning MRR

Caclulating your revenue retention is important because it tells you the financial impact of your growing or shrinking customer base. SaaS companies commonly fail to properly understand their customer churn.

You could, for instance, have a lower rate of subscriber churn. But if you’re losing a small number of your highest-value subscribers, you’ll see a significant drop in revenue. Without caclulating revenue retention, you’d miss this.

How to Improve Your SaaS Quick Ratio

Raising your SaaS quick ratio is all about generating more revenue from your existing customers while keeping costs down.

First, you have to diagnose the issue. It could be a problem with…

• Sales. If you’re having trouble qualifying the right leads or closing deals, your quick ratio will suffer.
• Marketing. Your marketing might be misaligned with your customers’ needs, or it may not be targeted enough.
• Product. If your product doesn’t address your customers’ pain points or doesn’t provide enough value, it will be difficult to generate recurring revenue.
• Pricing. Whether you’re simply unaffordable or you’re not offering enough value to justify your price, misaligned pricing will impact sales and retention.
• Customer engagement. Onboarding, service, and success initiatives need to be top-notch if you want customers to stay.

Now, let’s take a look at how you can turn these things around:

1. Drive upsells and cross-sells.

You should be able to identify opportunities for upselling and cross-selling by analyzing your customers’ usage data. Utilize this information to offer additional features or services that will bring more value to your customers.

Once you’ve added these products/features to your catalog, use CPQ to automatically put them in front of your sales team when they’re building quotes. This way, your reps will know exactly when to offer them.

2. Prioritize customer success.

Customer success initiatives are some of the best ways to drive retention.

• Advocacy programs, such as referral campaigns, can help drive new business while keeping existing customers happy.
• Customer satisfaction surveys and NPS surveys provide valuable feedback on how to improve your product and service.
• Customer success software can track customer health, identify at-risk accounts, and offer proactive support.

3. Streamline your sales process.

Your sales team’s priority should be to close deals that have a higher likelihood of driving long-term revenue. You need to develop target buyer personas and improve lead scoring/qualification to make sure you’re spending time on the right deals.

• Develop a sales enablement strategy and invest in tools to simplify the sales process for your team.
• Create a customer journey map with specific targeted messages that will help your sales reps move deals forward.
• Invest in training and coaching to improve your sales team’s performance.

4. Use your pricing to influence value perception.

There are a lot of factors contributing to price vs. quality perception, and how that contributes to overall sales and retention. People make buying decisions when they don’t actually know much about what your product is worth. So, they look for situational cues to show them.

• Expensive products are seen as “better,” but you should only sell them if you know you’re targeting companies with a lot of money.
• High-priced products that aren’t differentiated are seen as “overpriced.”
• The right price point can make prospects feel like they’re making a smart decision.
• Having multiple tiers requires price anchoring, where the lowest and highest tiers drive most users to the middle option.
• Discounts and low prices can help you enter a market, but overusing them will devalue your product. You might even lose your most loyal customers who feel like they’re being ripped off.

5. Talk to your users.

Over time, your ability to improve your product in a way customers actually want will impact retention. Use surveys, feedback forms, and social media to gather customer sentiment about your product. Then, invite your most loyal customers to share their thoughts on new features or be a part of the development process.

6. Create guided onboarding flows.

User adoption also plays a huge role in long-term retention. If they don’t understand it, they won’t use it. You have to first determine what success looks like for your product, then build guided onboarding flows that take users through the steps to get there. Lead customers toward important features, and make it so they have to use them before proceeding.

7. Align sales and marketing.

Sales alignment is key if you want to bring the right customers in and keep them engaged with your brand.

There are a few ways to promote alignment:

• Create shared goals for sales and marketing teams.
• Prioritize content marketing and sales enablement.
• Create a feedback loop between sales and marketing teams.

Doing these things will help you bring in qualified leads and sell more, faster.

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