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A run rate is referred to as an estimate of the company’s earnings. It can be based on a monthly, quarterly or annual financial performance. So when the run rate is being measured on an annual performance, it is called annual run rate.
Annual run rate is calculated based on the revenue results collected from the revenue formula. It can be either for a month or a quarter. The sales data is then annualized to predict or forecast the company’s revenue gains for the particular year.
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Let’s say your company has produced a revenue of $20000 due to sales in the first month of the year. For ARR, you can multiply it by 12 and you can forecast that the company’s ARR will be $240000.
Although, let’s say the following month produced sales revenue of $18000 and third month produced $15000. Making the first quarter sales revenue of $53000. Now looking at the quarterly performance, you can predict the ARR of the company to be $212000.
Some of the points to remember while calculating ARR:
Companies can make use of ARR forecasts to set a distinct goal for their sales team. Based on a month’s or a quarter’s performance in the revenue department, the sales department can plan their strategies accordingly to make sure they keep up with the ARR figures till the end of the year, excluding the external factors that may affect sales.
Another way to look at ARR in a company that is newly established is to look at it as a new level to catch up to. For the companies that are still small and have increasing revenue as they grow, ARR helps them to set new goals every year for sales.
It is but natural for the company to be impressed about their monthly or quarterly sales and use fashionable ARR numbers to convince the investors. Although, this is a bad idea because the investors do not believe in predicted figures and they know how these numbers can be deceptive.
As discussed earlier, ARR calculations can have various factors that will skew your results. And when we talk about budgeting, it needs to be as accurate as possible. Hence, you cannot plan your budget high just because you have impressive ARR numbers this year. Keep in mind there are seasonal factors too that affect the sales revenue.
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