Expansion & Contraction ARR

• By
• Chris Burgner

  Chris Burgner

  12+ years of experience, most recently as a Director of Finance at Intercom.

  

Everything outside Gross New ARR is influenced by existing customers, starting with Expansion and Contraction.

These components are really two sides of the same coin: one tells you if an existing customer increased their spend (expansion) and the other if they decreased (contraction).

The main thing to keep in mind when looking at Expansion and Contraction, and other components that we’ll cover next (e.g., Churn), is that in order for a customer’s action to fall into the Expansion/Contraction bucket, they must hold an active subscription vs. cancelling their subscription and no longer be considered a customer for the purposes of ARR reporting.

Why it matters

Understanding fluctuations in these components tells you whether customers tend to increase or decrease spend over time, in addition to the consistency in the direction of that spend.

Consider it this way: acquiring new customers is time-consuming and expensive. It often requires a large budget for demand generation, a dedicated new business Sales team, and months of engagement to get a cold lead to buy your product.

Compare that to turning your early adopters into evangelists who promote your product for you. “Word of Mouth” is a beautiful thing. It costs you (almost) nothing in terms of dollars invested, which is why almost every breakthrough startup shows signs of organic growth (with minimal spend on Sales and Marketing), and investors are so keen to track expansion dynamics.

How to optimize it

First impressions are critical to a customer’s likelihood of expanding or contracting in the future. Be diligent in tracking engagement and activation metrics as new customers are onboarded. These will be the best predictors of whether a customer will expand or contract in the future.

Work with Sales and Customer Success to roll out customer health dashboards and actively monitor response and resolution times with support. Building the right habits early on will pay dividends down the line.

Event	Expansion	Contraction	Churn
Added seats to paid subscription	✓
Upgraded to a more expansive plan	✓
Bought an additional product	✓
Removed seats from paid subscription		✓
Downgraded to a cheaper paid plan		✓
Downgraded to a free plan			✓
Cancelled subscription			✓

Levers to pull

Expansion:

• Pricing that better captures the value customers derive
• Launch new products and offerings
• Upsell and cross-sell campaigns

Contraction:

• Improve onboarding and activation of feature sets most commonly dropped
• Don’t oversell in the initial sale