When WhiteHat Jr, an 18-month-old online learning upstart, said last week it had an Annual Revenue Run rate, or ARR, of $150 million, it raised many eyebrows. The same day, India’s largest online learning firm Byju’s acquired WhiteHat for $300 million.
So, why was WhiteHat valued at double the revenue when every other player in the industry has been raising funds at a valuation 10 times the revenue? Blame it on this misleading metric called ARR.
It is not even ARR as understood by the larger global startup community.
ARR originally is an abbreviation for Average Recurring Revenue—a measure for evaluating software-as-a-service (SaaS) firms.
“I have been seeing this for a couple of years and I don’t know when the ‘Recurring Revenue’ became ‘Revenue Run Rate’. It is very misleading,” said Rutvik Doshi, managing director at Inventus Capital, an early-stage venture capital firm.
Software is sold to large enterprises that pay a recurring subscription fee, say for a Zoom or a Slack. ARR here represents the minimum revenue a company will generate at any given point with no future effort or no new customers. Basically, it is a conservative estimate.
But somewhere along the way, ARR acquired a whole new meaning as some startups reinvented it as annual revenue run. Far from SaaS, Indian consumer internet firms embraced it without batting an eyelid.
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To be fair, WhiteHat Jr is not alone in using the reinvented ARR. Dozens of others do as well.
While the original ARR safely assumes recurring revenue for a subscription product, the new-fangled ARR takes one month where the company has had its best run and multiples it by 12 for an annual estimate—a figure that is pitched to woo investors.
Consumer businesses, however, are not as steady as software businesses. Demand can fluctuate and customers buying a product today may or may not return tomorrow.
The difference gets starker in extraordinary events like the coronavirus outbreak that has seen some sectors like online education, healthtech and gaming doing very well.
Six months or a year down the line, revenues may not be the same as school and colleges resume and more people begin to see doctors in their clinics.
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“This is the most over-abused term in our industry,” said a partner at a venture firm who did not want to be named. “This revenue is neither annual nor recurring. The customer has paid for three months and you are extrapolating that you will get the money for the full year, it is not true.”
These metrics are taken for granted because these startups are on a growth path, adding users and monetising at a rapid pace.
“These metrics get passed around when there is a demand-supply mismatch and investors are competing to invest in a few startups,” said Doshi of Inventus.
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Startups have a history of fuzzy metrics.
Until 2019, the troubled office-sharing company WeWork had a “community adjusted EBITDA”, a figure that excluded basic costs such as marketing, administration and design and incorrectly indicated better financial health.
The metric acquired notoriety after WeWork’s botched IPO that forced founder Adam Neumann to step down as the CEO and saw the company’s valuation crash from $47 billion to $5.9 billion in a few months.
Closer home, over the past decade, ecommerce companies and their use of gross merchandise value (GMV) was called into question on many occasions.
GMV calculated sales or revenue by excluding discounts and sales returns. Flipkart, Amazon, Snapdeal and ShopClues, in heydays of 2014, used this metric generously. Discounts are common in this industry and a big factor in their growth. GMV, too, was par for the course for many years as these companies grew fast and raised capital.