Understanding the Difference: ACV vs TCV in SaaS Contracts

In the realm of Software as a Service (SaaS), understanding key metrics is crucial to properly evaluate the health and growth potential of your business. The list of SaaS metrics to potentially track is expansive and includes numerous terms that differ only slightly. This leads to many of these SaaS metrics being misunderstood and conflated with each other.

ACV (Annual Contract Value) and TCV (Total Contract Value) are two such crucial metrics. While they may sound similar in that they both put a price on the value of your SaaS contracts, they serve different purposes and offer distinct insights into the revenue potential of your SaaS contracts.

In this blog post, we’ll dive deep into ACV vs TCV, defining them, exploring their differences and helping you grasp their significance in the SaaS landscape.

Let’s start with the basics.

ACV vs TCV: What are they?

●  What is ACV (Annual Contract Value)?

ACV, or Annual Contract Value, is a key performance metric that represents the average annual value of a single subscription contract. It provides a snapshot of the revenue that your business generated from a single customer or contract in the timespan of a year.

This includes every kind of charge including one-time, recurring or usage based one but localized into the timespan of a year.

● What is TCV (Total Contract Value)?

TCV, or Total Contract Value, measures the total revenue that a SaaS subscription contract generates for your company over its entire term. This includes recurring revenue, one-time payments, overage charges etc.

In essence the total sum of payments received against a contract. TCV considers the full duration of the contract, irrespective of whether the revenue is recognized upfront or over time.

ACV vs TCV: How to Calculate?

● How to Calculate ACV?

Calculating ACV is relatively straightforward. The following formula can be used in which,

ACV = Total Contract Value (TCV) / Contract Term (in years)

To illustrate, let’s say you’re selling a customer relationship management (CRM) SaaS tool.

You sign a 2 year SaaS contract with a client detailing a $8000 setup fee to import their data, customize the platform to their needs and train their team members, and a $1000 monthly flat fee to access the platform.

This contract is set to generate $32,000 (TCV) during its entire span. The ACV for this contract is $16,000 per year.

● How to Calculate TCV?

The formula for calculating TCV is simple:

TCV = Annual Contract Value (ACV) x Contract Term (in years)

To illustrate, if a customer signs a three-year contract with an ACV of $10,000 per year, the TCV for that contract is $30,000.

ACV vs TCV Comparison: Key Differences

Now that we understand what ACV and TCV refer to, let’s explore the fundamental differences between these two key SaaS metrics:

1. Scope of Measurement

ACV focuses on the annual revenue generated from a single contract where TCV considers the total revenue generated over the entire contract term. This naturally means that they tell you about different revenue generation timelines for your SaaS.

You may want to look at a macro perspective and look at the total contract values in a financial quarter or over multiple years. ACV is a good way to look at the year-on-year growth of contract value for revenue forecasting and planning.

2. Timeframe

ACV provides an annual perspective, making it suitable for assessing short-term revenue performance. TCV offers a longer-term outlook, ideal for understanding the cumulative value of a contract over its duration.

3. Use Cases

ACV is often used for sales and marketing purposes, helping teams assess the immediate impact of contracts. TCV is valuable for finance and accounting teams, as it reflects the total revenue commitment and guides long-term financial planning.

4. Granularity

ACV allows for more granular insights, as it analyzes revenue on an annual basis. TCV provides a broader, high-level view of contract value.

TCV vs ACV: When to Use Which One?

Knowing when to use ACV or TCV depends on your specific business goals and the insights you seek. Here are some scenarios where each metric shines:

Use annual contract value (ACV) when:

  • Assessing the short-term impact of contracts. With this granular approach you can gain insight on your year-on-year revenue growth.
  • Optimizing pricing strategies for annual subscriptions. Data on your yearly revenue generation performance can assist you in revising your pricing strategy to maximize profits.
  • Analyzing the performance of sales and marketing efforts on an annual basis. Given its annual nature, it helps give you a neat look on how much revenue was generated yearly, similar to ARR (annual recurring revenue) for a year of sales activity.

Read More: 10 Most Important Customer Success Metrics for SaaS Subscription Businesses

Alternatively, use total contract value (TCV) when:

  • Evaluating the long-term financial health of your SaaS business. TCV gives you a better macroscopic view of your revenue performance.
  • Making strategic decisions about resource allocation, expansion, and scaling. Given the macro-perspective on revenue performance this information is useful in strategizing growth.
  • Reporting financial results to stakeholders or investors over the entire contract term.

Final Remarks

ACV and TCV are invaluable metrics in the SaaS world, each offering unique insights into your subscription contracts. While ACV focuses on annual revenue from individual contracts, TCV paints a broader picture of the total contract value over time.

Understanding the differences between these metrics is essential for making informed decisions about pricing, resource allocation, and long-term business strategies. If you’re a SaaS business owner, utilizing ACV and TCV effectively can help you navigate the complex landscape of SaaS contracts and set your business on a path to sustainable growth and profitability.