From Startup Fortune · · 1m 50s
Most founders get SaaS quick ratio wrong
Founders often skip contraction MRR in quick ratio calculations, inflating growth metrics.
In brief
Founders often skip contraction MRR in quick ratio calculations, inflating growth metrics. Most SaaS founders miscalculate quick ratio by omitting contraction MRR, risking misleading investor perceptions. Originally reported by Startup Fortune.
Quick ratio definition
The SaaS quick ratio measures growth quality using new MRR plus expansion MRR divided by churned MRR plus contraction MRR.
“The SaaS quick ratio is new MRR plus expansion MRR, divided by churned MRR plus contraction MRR.”
Common mistake
Most founders omit contraction MRR from the denominator, inflating the ratio from 2.0 to 3.2.
“Leaving contraction out of the bottom line is the most common mistake, and it can lift a ratio of 2.0 to 3.2.”
Investor benchmark
Mamoon Hamid's 2015 benchmark for healthy early-stage SaaS is a ratio of 4 or higher.
“The benchmark popularised by investor Mamoon Hamid in 2015 is 4 or higher, while a ratio near 1 means you're running to stand still.”
Ratio calculation
Calculate monthly using new MRR, expansion MRR, churned MRR, and contraction MRR from billing tools.
“Use a single period, usually one month, and make sure all four numbers come from the same period.”
Example calculation
A company with $16,000 new and expansion MRR and $8,000 churned plus contraction MRR has a ratio of 2.0.
“Top half: $16,000. Bottom half: $8,000. Your quick ratio is 2.0.”
Why contraction matters
Contraction MRR is quiet churn that founders often ignore, but it's as critical as churned MRR for business health.
“A dollar of mrr lost to a downgrade pays the same bills as a dollar lost to a cancellation.”
Ratio misinterpretation
A ratio of 2.0 means half of new MRR is replacing lost revenue, not healthy growth.
“At 1, you're treading water. Between 1 and 4, you're growing, but at some cost.”
Ratio scale
Below 1: shrinking; 1-4: growing with cost; 4+: healthy growth for early-stage SaaS.
“Below 1, you're shrinking. More recurring revenue left than arrived, and no amount of sales activity will fix it until the leak does.”
Stage impact
Seed-stage companies with small MRR can have high ratios but little meaning, while larger companies need higher ratios.
“A seed-stage company with $20,000 in mrr can post a ratio of 8 in a month when it lands two customers and loses none.”
Customer type impact
Businesses with monthly plans face higher churn and contraction than annual contract buyers.
“Businesses selling to small companies on monthly plans tend to have more churn and contraction than those selling annual contracts to mid-market buyers.”
Ratio distortion
Annual contracts cause monthly ratio spikes that misrepresent true performance.
“If most of your customers renew in January, your churn and contraction land almost entirely in one month.”
How to fix low ratio
Address contraction issues first, then expand MRR to improve the ratio without new sales.
“Start with contraction, because it's the part you've probably been ignoring.”
Tracking ratio
Track monthly with a rolling three-month average to avoid one-off distortions.
“Calculate the ratio at the end of every month, record all four components next to it rather than the ratio alone.”
Investor communication
Show the full formula with contraction MRR to prove honest measurement.
“When an investor asks for your quick ratio, hand over the formula and the four monthly inputs along with the answer.”
Why it matters
Correct ratio calculations prevent misleading investors and ensure sustainable growth.
“The ratio says nothing about cost. A company can reach a quick ratio of 5 by spending $3 on sales and marketing for every $1 of new mrr it signs.”
The key point
Most SaaS founders miscalculate quick ratio by omitting contraction MRR, risking misleading investor perceptions.
