Calculating ARR with daily exchange rates for better reporting and forecasting

Annual recurring revenue (ARR) and monthly recurring revenue (MRR) are two core metrics for any SaaS business. But does your ARR change when your customers pay in different currencies? Let’s say exchange rate fluctuations have impacted the value of a particular currency. Wouldn’t that also impact your revenue, without any change in the number of customers, during a specific period? 

This article explains how you can calculate ARR with daily exchange rates to make data-backed course corrections and stay on top of your revenue forecasts. 

How exchange rate fluctuations can impact your SaaS business

While exchange rates rarely fluctuate drastically on a day to day basis, they do fluctuate. Small changes in exchange rate can lead to significant gains and losses over time, and if coupled with heavy macroeconomic pressures, can significantly influence your company’s  key financial metrics. 

Take the 2008 Great Recession, for example.  As the impacts of the U.S. housing market collapse began reverberating in markets around the world, major currencies started to fluctuate wildly. The USD strengthened significantly against currencies like the GBP, EUR, and SGD. As a result, US-based businesses saw their revenue decrease as they converted payments made in these currencies to USD.

Similarly, the COVID-19 pandemic contributed to intense volatility in the currency markets amid all the uncertainty and economic disruptions. Major currencies initially dropped in value against the USD during the various lockdowns due to capital outflow and low exports, but eventually picked up and stabilized as the pandemic was brought under control. With all the volatility in the exchange rates, companies converting payments in foreign currencies to USD during this time would need to be very strategic and ready to act quickly to avoid losing revenue in the process.   

Why do you need to track your MRR and ARR using daily exchange rates?

MRR and ARR might not feature directly in financial reporting. However, they are crucial internal metrics that provide valuable insights into your business performance. 

Tracking ARR and MRR with daily exchange rates allows you to:

• Get an accurate picture of your revenue based on currency fluctuations.
• Anticipate the impact of exchange rate changes on future revenue.
• Adjust pricing or take other measures in different markets to maintain profitability.
• Identify and mitigate potential losses due to currency fluctuations.

Most businesses review the impact of currency fluctuations on their MRR and ARR monthly, usually in alignment with their reporting cycles. Businesses with fewer foreign transactions may perform quarterly reviews to account for exchange rate fluctuations. Others, especially those companies with a high volume of foreign transactions, often opt for daily conversions.

How to calculate your SaaS business’ ARR with daily exchange rates

Step 1: Calculate MRR in the customers’ payment currencies

Calculate the MRR for each customer or group of customers that pay in a foreign currency. You’ll use their payment currency for this step, summing up the revenue in that currency. This calculation will include recurring revenue from subscriptions, upgrades, and add-ons. Then, subtract any revenue you’ve lost due to downgrades or cancellations, again using the payment currency.

Step 2: Convert MRR to functional currency

Convert each foreign currency MRR into the functional currency of your SaaS business (e.g., USD). This is where you will use daily exchange rates.

 For conversion, use the exchange rate applicable on the transaction date when each payment was made.  

Step 3: Aggregate and annualize MRR

Once you have the MRR for each foreign currency converted to your functional currency, add them up to get the total MRR for the month. Multiply this total MRR by 12 to get the ARR.

Let’s say your SaaS business has customers paying three currencies—EUR, GBP, and USD, and USD is your functional currency. Here’s your ARR calculation using the daily exchange rate: 

Challenges of currency fluctuations when calculating MRR and ARR 

While calculating MRR and MRR with daily exchange rates may seem easy enough, there are a few challenges in its actual application. These include:  

1. Exchange rate volatility: Calculating ARR gets complicated if your business operates in multiple countries or regions  and exchange rates in one or more of them are volatile. Frequent fluctuations may lead to unpredictable gains or losses when you convert the transactions to your functional currency.

2. Financial reporting: Accurate calculation of foreign exchange (FX) gains and losses is important for financial reporting. Inaccurate reporting can distort the consolidation of financial statements. It creates new challenges for the finance teams in terms of accurate reporting. 

3. Revenue recognition: The revenue earned from foreign currency conversions is not the same as revenue from operational activities. Fluctuations in exchange rates can lead to inconsistencies in revenue recognition and can falsely inflate your business’ profits or losses. It can also lead to discrepancies between the actual cash flow and reported revenue. 

Currency fluctuations can also lead to an increased potential for churn

While this issue doesn’t pertain specifically to calculating MRR and ARR, understanding the potential impacts of currency fluctuations on churn can help you act strategically to help you avoid losing customers as a result.  

When the value of a currency (say the Euro) drops significantly, your customers in the Eurozone may find your product more expensive in their local currency. In such scenarios, you might consider offering discounts or adjusting your pricing strategy to prevent churn. This adjustment helps to make your product more affordable for your Eurozone customers despite the unfavorable exchange rate.

Tips for overcoming the impact of exchange rate fluctuations 

Currency fluctuations are an inevitable part of doing business on a global level. You can use the strategies below to mitigate their impact on your MRR and ARR.

• Use reliable data sources: Ensure you have reliable data sources that provide daily exchange rate forecasts for your calculations and projections. Numerous online platforms and APIs offer this service and allow you to access real-time and historical data.
• Review historical trends and follow the market: Historical exchange rate trends can help you understand more about potential future fluctuations. You can implement a SaaS financial planning software that automatically tracks and analyzes historical data. It will help you identify patterns and correlations that can inform your forecasting models. 
• Prioritize the US dollar (when possible): While it may not be ideal in every scenario, conducting business in USD (the global reserve currency) can simplify transactions and eliminate the risk of currency fluctuations. If your customer is willing to pay in dollars, it can save you the hassle and uncertainty of dealing with foreign exchange.
• Keep currency convertibility in mind: Some currencies are freely convertible, meaning they can be easily exchanged for US dollars. However, others may have restrictions or limitations. So, when considering expanding into a country or region with a foreign currency, it’s important to research the convertibility of the foreign currency before you make that decision. Your international banker can be a valuable resource for this information.

Leverage technology to make working with foreign exchange (FX) rates easier 

Calculating ARR using daily exchange rates can help you get more accurate numbers for your SaaS business. FP&A solutions like Drivetrain can be used to streamline the process of calculating ARR. Drivetrain is a strategic, third-generation software that combines business budgeting tools and revenue forecasting software to automate the process of collating daily exchange rates accurately, making it easier to analyze historical data and giving you greater visibility into your MRR and ARR. 

‍Explore Drivetrain and learn more about how it can help you make informed business decisions with confidence.