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What is ACV in sales? Annual contract value explained

Discover what ACV is and why it is a valuable metric that your team need to be tracking.

Rose McMillan · April 18, 2024
What is ACV in sales? Annual contract value explained

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Wouldn't it be great if you could predict your sales future?

Among the many metrics out there, ACV (annual contract value) often flies under the radar. Yet, it's necessary for nailing your sales process and can serve as a key indicator in sales forecasting.

With ACV, you get clarity and direction, cutting through the noise of less impactful metrics. Coupled with other KPIs – ACV becomes even more powerful.

Ready to find out how this overlooked gem can transform your approach to sales?

What is ACV in sales?

ACV, or Annual Contract Value, tells you how much revenue you can expect every year from a single customer contract, minus any one-time fees.

Think of ACV as a clear indicator of the steady income your business will see, which is super important for making smart, future-focused decisions.

Example: A five-year one-million-dollar contract has an ACV of $200,000.

ACV shows you where to direct your efforts and resources for the best growth. So, if you're looking to measure your results better, understanding ACV is a great place to start.

Why you need to measure ACV

You need ACV to see tomorrow's revenue today. It's that simple. This clarity is your roadmap for where to invest and grow.

See who brings the most revenue

ACV spots your goldmine customers. Knowing who brings in the cash lets you know where best to divert your efforts. If your ACV jumps after launching a new feature, you're winning. Keep pushing in that direction!

Spot growth opportunities

Looking for growth? ACV points the way. It indicates where upselling or new offers could boost your bottom line.

Retain customers

ACV shines a light on retention too, as it shows which customers stick with you. A steady or growing ACV means happy customers. Focus your retention efforts based on ACV insights.

Keeping a customer is cheaper than finding a new one. ACV helps you keep your valuable customers close. It's imperative for a solid, loyal customer base.

Rising ACV means you're on track. A falling ACV? Likely, time to pivot.

But, how do you calculate ACV?

ACV calculation example

ACV helps you understand the annual value a customer contract brings to your business.

Example scenario:

Imagine your company sells a project management software subscription. You might have a variety of customers – but let's focus on one particular contract to see how ACV works.

Customer contract details:

  • Contract length: 3 years
  • Total contract value: $36,000
  • One-time setup fee: $4,000
  • Annual maintenance fee: $2,000 (starting from the second year)

Step-by-step ACV sales calculations:

1. Identify the total contract value (TCV):

The TCV is the total revenue from the contract. In this case, it's $36,000.

2. Exclude one-time fees:

  • Subtract any one-time fees from the TCV to focus on recurring revenue. Here, you subtract the $4,000 setup fee.
  • Adjusted TCV = $36,000 - $4,000 = $32,000

3.Consider additional recurring fees:

  • If there are additional recurring fees outside the standard contract payments, add them to the adjusted TCV. Here, the annual maintenance fee starts in the second year, but for ACV, we consider the annual value, including all recurring fees.
  • Since the maintenance fee is $2,000 annually for the last two years of the contract, it adds $4,000 to the total value over three years.
  • New TCV = $32,000 + $4,000 = $36,000

4. Calculate ACV:

  • Divide the adjusted TCV by the number of years in the contract to find the ACV.
  • ACV = $36,000 / 3 years = $12,000

So, the ACV for this contract is $12,000.

This means that the deal brings in $12,000 each year.

You might also want to know the average ACV for your business. Here's an example of an average annual contract value calculation:

Imagine your business has three types of contracts:

  • Contract 1: $12,000 a year
  • Contract 2: $18,000 a year
  • Contract 3: $24,000 a year

Here's how you calculate the average ACV:

  1. List your types of contracts: You have three, each with its own yearly value.
  2. Calculate ACV for each: Already done. You have $12,000, $18,000, and $24,000.
  3. Add them up: $12,000 + $18,000 + $24,000 = $54,000. This is the total annual value of all contracts.
  4. Count your contracts: You've got three contracts.
  5. Divide to find the average: $54,000 total divided by 3 contracts = $18,000.

So, your average ACV across all contracts is $18,000. This number helps you see the yearly value you're getting from your contracts, a key metric for understanding your revenue streams.

Now that you know how to calculate ACV, let's get down to how to use it in practice.

ACV usage

ACV is a fundamental number in many areas of a business. It helps in sales, marketing, product development, customer success, and even at the executive level.

But, it's not a solo act.

ACV teams up well with other sales metrics like Customer Acquisition Cost (CAC), Annual Recurring Revenue (ARR), and Customer Lifetime Value (CLV) to build a full picture.

Sales teams set targets with ACV

Sales teams use ACV to nail down their sales targets. How does it work? Sales managers look at the yearly value of each customer's contract. This shows them how much money they can expect to make.

If they combine it with CAC, they get an answer on whether the big contracts are worth chasing. With this info, sales managers set realistic goals.

Sales teams might also use ACV to:

  • Identify high-value clients: ACV gives sales teams an instant look into the most valuable contracts.
  • Tailor sales strategy: Each of these lucrative contracts can then get tailored messaging from sales reps.
  • Adjust sales targets: ACV tells your sales team where to allocate the most time and resources.

It’s about finding and closing the ones that really boost revenue. This way, sales teams know what to aim for each year.

Marketing teams plan targeted campaigns with ACV

Marketing teams turn to ACV to craft their campaigns. They start by understanding which contracts bring in the most money annually. Then, this insight directs them to focus their efforts on attracting similar high-value customers.

Instead of casting a wide net, they create messages and offers that speak directly to high-value prospects.

Marketing teams can also use ACV for the following:

  • Segment audiences based on value: Marketing teams segment their audience by ACV and target those who historically sign higher-value contracts.
  • Develop high-value customer profiles: They create detailed profiles of high-ACV customers to understand and replicate success in future campaigns.
  • Measure campaign impact on ACV: Marketing evaluates how different campaigns affect ACV, so that they can better plan their future efforts on strategies that, actually, increase contract values.

Marketing teams often match ACV with CLV to focus on long-term valuable customers.

The goal is clear: spend money on campaigns that attract the best customers.

ACV helps finance teams build budgets

The ACV provides the finance team with an overview of the cash flow for the year. It brings them more detailed info into the current financial situation.

They use this insight to plan out the budget and find out where the money's coming from – and where it's going. This way, they keep the company on solid ground, ready for what's next.

Finance teams leverage ACV for:

  • Forecasting annual revenue: Finance teams use ACV to predict the company's cash flow to see the big financial picture and plan some improvements if needed.
  • Informing budget allocation: With insights from ACV, they pinpoint where revenue is strongest and allocate the budget to support further revenue growth in these areas.
  • Fortifying financial stability: ACV guides finance teams in making strategic decisions that keep the company financially healthy and prepared for future opportunities.

With ACV, instead of guessing, they make every dollar work hard.

Product managers decide what's next with ACV

Product managers can use ACV to figure out which features or services customers really value. Particularly in SaaS businesses, they can see which contracts are bringing them big bucks.

This often pushes them to ask: "What do these customers love about our product?". Based on the answers, they decide what to do next with the projects and products.

ACV can help them:

  • Prioritize feature development: Product managers look at high-ACV contracts to decide which features to build or enhance.
  • Understand customer preferences: They analyze why certain customers sign more valuable contracts, and shape the product roadmap further.
  • Align product strategy with revenue goals: ACV helps product managers match their development plans with the company's financial targets.

With ACV, product managers focus on what makes the product a winner in the market – all while also impacting the revenue.

Customer success teams improve retention with ACV

Customer success teams use ACV to guarantee that high-value customers remain satisfied and engaged with the product.

They can tailor their approach with personalized support – and take the business to the next level. This targeted strategy directly impacts the company's financial health by retaining and expanding its most profitable accounts.

Here's what they do:

  • Identify high-value customers: They look at ACV to see which customers generate revenue, and match it with support options.
  • Customize support and services: Knowing a customer's ACV allows for personalized support plans that cater to their specific requirements.
  • Spot upsell and cross-sell opportunities: High ACV accounts often have the most potential for additional sales. Customer success teams look for opportunities to introduce these customers to new products or upgraded services.

ACV works best with CAC, ARR, and CLV. A low ACV doesn’t have to be bad if you have lots of customers. But, a high ACV loses its shine if getting those contracts costs too much.

The trick is to balance attracting valuable customers without overspending. It's about smart moves, not just hard work.

At this point, ACV might look somehow similar to ARR.

However, these are not the same – and we'll explain the differences below.

ACV vs ARR (annual recurring revenue)

As we mentioned, ACV stands for Annual Contract Value. It's all about the yearly cash each customer contract brings in. ACV is a detailed analysis of a specific deal, showing how much value it adds. It is useful for figuring out which customers are worth more effort and how to keep customer acquisition cost in check.

ARR means Annual Recurring Revenue. This is the big picture of what's coming in from all customer subscriptions, month after month. It's your steady income, the reliable cash flow from customer accounts that you can count on. You can use ARR to track revenue growth and adjust pricing strategy.

How to calculate ARR

Let's break down ARR with a simple example. Imagine your company has three customers:

  • Customer A pays $100 every month.
  • Customer B pays $200 every month.
  • Customer C pays $300 every month.

To find the ARR:

  1. Add up the monthly payments: $100 + $200 + $300 = $600. This is your monthly recurring revenue (MRR).
  2. Multiply by 12 to get the ARR: $600 * 12 = $7,200.

So, your ARR from these subscriptions is $7,200. This number gives you a clear view of the yearly income you can expect from your current customer base.

In short:

  • ACV helps you zoom in on individual contracts to make smart moves and manage costs.
  • ARR zooms out, showing the steady income that keeps your business running. Both are super important for tracking how well you're doing and planning your next steps.

Helpful tools for boosting your ACV

When it comes to making the most of ACV (and other key metrics!), having the right tools can make all the difference.

Capsule & Plecto

One standout solution is the integration of Capsule CRM with Plecto. This powerful combo brings your data to life and makes it easier than ever to plug numbers into metrics formulas to see your financial landscape visually.

Capsule CRM keeps track of customer relationships, managing customer contracts and interactions in one place. It's where you can see the potential ACV of each deal.

Plecto steps in to visualize this data. It takes the numbers from Capsule CRM and turns them into clear, easy-to-understand visualizations.

This means you can see your ACV, along with other metrics like CAC, ARR, and CLV, in real-time dashboards.

Capsule & Looker Studio

Another helpful integration is Capsule and Looker Studio. Together, they make your data straightforward and actionable for small businesses.

Here's how it works:

  1. Capsule CRM organizes your customer details and sales.
  2. Then, Looker Studio steps in to transform this data into understandable, visually appealing charts and reports.

Capsule & Freshbooks

Pairing Capsule CRM with FreshBooks can help you improve your ACV.

Seeing each customer's yearly value is easy with this integration. You enter data once, and it appears where you need it. No double work. With this setup, you can spot who spends more – and might spend even more again.

You also get to see all invoices and payments right in Capsule. This means you know who's paid and who hasn't, and you can plan your next moves (for example, sending reminders to chase payments).

Automating invoices saves time and keeps cash flowing without extra hassle.

Final thoughts

ACV gives you a clear view of your business's financial health – so if you haven’t measured it yet, high time to do that now!

Monitoring your average ACV is a smart way to assess your business's vitality and set goals. Combined with other metrics, ACV becomes yet another indicator of the health of your business. Let it inform your decisions and shape your actions.

Here's to making every contact count and driving your business forward!

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