How to Value a Software Company with Recurring Revenue

Valuing a software company with recurring revenue is both an art and a science. While the recurring nature of revenue streams—especially in SaaS and subscription-based models—offers predictability and stability, it also introduces nuances that traditional valuation methods may overlook. For founders, CEOs, and investors, understanding these nuances is critical to making informed decisions around exits, capital raises, or acquisitions.

This article explores the key drivers of valuation for recurring revenue software businesses, the methodologies most commonly used, and the strategic considerations that can materially impact deal outcomes.

Why Recurring Revenue Changes the Valuation Equation

Recurring revenue—whether monthly (MRR) or annual (ARR)—is the lifeblood of modern software companies. Unlike one-time license sales or project-based consulting, recurring revenue provides visibility into future cash flows, which reduces risk for buyers and increases valuation multiples.

In fact, according to SaaS Capital’s 2023 report, private SaaS companies with strong recurring revenue models can command revenue multiples ranging from 3x to 10x ARR, depending on growth, retention, and profitability metrics.

But not all recurring revenue is created equal. Investors and acquirers will scrutinize the quality of that revenue—its durability, scalability, and margin profile—before assigning a premium multiple.

Core Valuation Methodologies

There are three primary approaches to valuing a software company with recurring revenue:

1. Revenue Multiples (ARR or MRR)

This is the most common method for high-growth SaaS companies, especially those that are not yet profitable. The multiple applied to ARR or MRR depends on several factors:

• Growth Rate: Companies growing 40%+ annually often command premium multiples.
• Net Revenue Retention (NRR): A high NRR (e.g., 120%+) signals strong customer expansion and low churn.
• Gross Margins: SaaS companies with 75%+ gross margins are more attractive to acquirers.
• Market Position: Niche dominance or defensible IP can justify higher valuations.

For example, a company with $5M in ARR, 80% gross margins, and 50% YoY growth might be valued at 6–8x ARR, or $30M–$40M.

2. EBITDA Multiples

For more mature or profitable software companies, EBITDA-based valuation becomes relevant. Multiples typically range from 6x to 12x EBITDA, depending on growth, customer concentration, and capital efficiency.

As discussed in EBITDA Multiples Continue to Trend Lower, the market has seen some compression in EBITDA multiples due to macroeconomic headwinds, but high-quality software assets still command strong interest.

3. Discounted Cash Flow (DCF)

While less common in fast-growth SaaS, DCF can be useful for stable, cash-generating software businesses. It requires forecasting future free cash flows and discounting them back to present value using a risk-adjusted rate. DCF is sensitive to assumptions and often used as a cross-check rather than a primary method.

Key Metrics That Drive Valuation

Beyond the headline ARR or EBITDA, buyers will dig into specific KPIs to assess the health and scalability of the business. These include:

• Customer Acquisition Cost (CAC) and Lifetime Value (LTV): A high LTV/CAC ratio (ideally 3:1 or better) indicates efficient growth.
• Churn Rate: Low churn (under 5% annually for enterprise SaaS) signals product-market fit and customer satisfaction.
• Rule of 40: The sum of revenue growth rate and EBITDA margin. A score above 40% is considered strong.
• Contractual Terms: Multi-year contracts, auto-renewals, and upfront payments improve revenue visibility and working capital.

These metrics are often central to buyer diligence. As outlined in Due Diligence Checklist for Software (SaaS) Companies, preparing detailed KPI reports and cohort analyses can significantly streamline the process and build buyer confidence.

Strategic Considerations That Impact Valuation

1. Customer Concentration

Even with strong ARR, a company that derives 40%+ of revenue from a single customer may face valuation discounts due to perceived risk. Diversification across industries, geographies, and customer segments is viewed favorably.

2. Scalability of Infrastructure

Buyers will assess whether the current tech stack, team, and processes can support future growth. A scalable architecture and low customer support burden can justify higher multiples.

3. Ownership of IP and Codebase

Proprietary technology, clean code, and well-documented systems reduce integration risk and increase buyer confidence. Conversely, reliance on third-party tools or contractors can raise red flags.

4. Tax and Deal Structure

How the deal is structured—asset sale vs. stock sale—can materially affect net proceeds. As explored in Tax Law Changes And The Impact on Personal Taxes From Selling A Software Company, early tax planning is essential to optimize outcomes.

Case Study: Mid-Market SaaS Exit

Consider a fictional example: a vertical SaaS company serving the legal industry with $8M ARR, 85% gross margins, and 30% YoY growth. The company has 95%+ logo retention, a strong LTV/CAC ratio, and minimal customer concentration.

After a competitive process led by a firm like iMerge, the company receives multiple offers in the 6.5x–7.5x ARR range, ultimately closing at $60M (7.5x). The buyer, a private equity platform, values the company’s sticky customer base and opportunity for cross-sell within its portfolio.

In this case, the seller’s preparation—clean financials, detailed KPI dashboards, and a clear growth narrative—helped drive a premium outcome.

Final Thoughts

Valuing a software company with recurring revenue requires more than applying a multiple to ARR. It demands a nuanced understanding of the business model, growth levers, and risk profile. For founders and CEOs, aligning internal metrics with market expectations—and telling a compelling story around them—is key to maximizing value.

Firms like iMerge specialize in helping software companies navigate this process, from valuation modeling to buyer outreach and deal structuring. Whether you’re preparing for an exit or exploring strategic options, having the right advisory partner can make a material difference.

Use this insight in your next board discussion or strategic planning session. When you’re ready, iMerge is available for private, advisor-level conversations.