Dealing with Refunds in SaaS Accounting
Refunds always remain a matter of great concern for SaaS companies. If you are looking for a solution to the refunds, you have come to the right place.
Here is what you are going to learn upon the completion of this article:
- Cons of frequent refunds
- Downsides of not handling refunds properly
- Why should you never say “NO” to customers asking for refunds?
- How does an accountant deal with the refunds?
- Acceptable refund rates
- How to handle Refunds?
- Whether you should refund the money or not?
- Why do SaaS companies face cancellations?
- What could be a win-win situation for both customers and company owners?
- Why do conglomerates always want refunds?
SaaS startups, particularly those with yearly subscription plans, always deal with customers who claim refunds. Even customers who pay via credit card sometimes often ask for refunds.
Cons of Frequent Refunds
SaaS companies with too many refunds will likely lose their credibility in the market. Furthermore, frequent refunds are poised to disrupt the company’s financial stability. If a company bleeds too much cash in refunds, it won’t have sufficient money to reinvest in its business.
From the business standpoint, too many refunds mean a product is not aligned with the customers’ requirements. Therefore, frequent refunds should be considered as a red flag. Companies that don’t heed the refunds end up with financial upheaval.
Downsides of Mishandling of Refunds
A vast majority of SaaS companies do not heed refunds and don’t know how to overcome the losses incurred by the refunds. Eventually, they had substantial losses due to the lack of proper handling of customers’ refunds.
Since all SaaS business requires money to finance their operating and running expenses and growth plans, frequent refund claims could devastate a SaaS company’s cash flow.
Almost all SaaS companies blatantly refuse to refund requests. When customers ask for a refund, they deny the signed contract. Customers strongly dislike this attitude from their vendors.
On the flip side, some SaaS entrepreneur claims they do not care about refunds because they have never experienced them. However, whenever a refund request arises, much of their energy and resources are wasted in dealing with refunds.
Many industry experts strongly recommend fulfilling the customers’ refund requests and giving them what they want.
In the early days, well-reputed SaaS enterprises offered an annual subscription plan. However, with increasing customer demand, companies switched to the quarterly subscription plan.
Later on, monthly subscription plans have become a norm in the SaaS industry.
This approach to billing has entirely transformed in the past couple of years. Nowadays, SaaS companies, irrespective of their price points and customer base, push their customers to pay for yearly subscription plans in advance.
The monthly payment option, albeit significantly rare, is expensive. To keep that in perspective, let’s say you want to buy a monthly subscription to Grammarly Premium.
That being said, yearly subscription plans are more cost-competitive for customers. On the flip side, an emphasis of the SaaS companies on the pre-paid annual subscription plan gives rise to a tricky question. Do SaaS companies offer a refund policy for paying customers who want to cancel their subscription plan during the year?
Based on your early agreed-upon terms of service, you are unlikely to accept any early cancellation requests. But forcing unsatisfied customers to stick with the product could devastate the SaaS reputation.
Consequently, no customer will continue with your product, and the ‘no-cancel’ rule will undoubtedly break.
Why Should You Refund Money to the SaaS Customers?
Here are the reasons you should surrender to the customers’ refund request:
- You can gain customers’ loyalty and trust in this way. Eventually, customers’ retention rate will likely go up in the foreseeable future. According to the Harvard Business School, if you can retain at least 5% of your existing customers, your business profitability will increase by 95%. Thus, a good refund policy is good for business in the long run.
- Refunds might hurt your SaaS company’s bottom line in the short run, but simultaneously, you are creating brand equity for your SaaS business.
How does the Accountant Deal with the Refunds?
Account record refunds and allowances separately due to the two main reasons. Firstly, they negatively impact the company’s income; secondly, a company can later use them for investigation.
Furthermore, SaaS companies with higher-than-expected refunds have some operational issues that must be resolved.
While maintaining the company’s book, the accountant credits account receivables with the refunded amount. For instance, if a customer cancels a subscription worth $200, on which sales tax is 10 percent. Accountant debit refund amount by $200, debit sales tax liability by $20, and credit cash by $220.
Acceptable Refund Rate
SaaS companies should keep their refund rate below 5%. The lower the refund rate, the more traction your product will likely capture.
How to Handle Refund Requests in the SaaS Business?
As a growing SaaS company, refunding customers seems complicated except in extreme situations. Even in severe conditions, there was never a full refund, but it was pro-rated. As the word ‘extreme’ tells us, sometimes there is no other other other than accepting a refund request.
If your product meets your customers’ highest standard, you are unlikely to receive refund requests too frequently. But it still came out in some cases. At this time, SaaS teams start wondering, “What could be our refund policy?”
Even though refund requests should be significantly lower, it helps design a framework for handling refunds if you want to achieve sustainable growth.
Should you Refund or Not?
If you have sufficient resources to offset a refund’s negative cash flow implications, do it. However, always keep your cancellation rate low by targeting the right customers and improving the product.
As a SaaS entrepreneur, you cannot afford unhappy customers and a bad reputation for frequent refunds.
If you cannot afford refunds’ negative cash flow implications, we strongly recommend you bill your customers quarterly. Eventually, your company’s bottom line won’t hurt.
Keep your refunds at the bare minimum to remain profitable and prevent your SaaS Company from insolvency. Refunds should be deemed as a red flag. Make sure to resolve all your customers’ problems as quickly as possible before they become exhausted and ask for a refund.
A Win-Win Situation
As discussed earlier, go with quarterly billing to mitigate the potential threat of negative cash flow due to rare refunds.
Even though annual pre-paid billing is a good option for a company’s balance sheet and cash flow, quarterly payment is better and safer.
Quarterly payment is equally beneficial for the cash-strapped company and the customer. As a result, customers feel satisfied that they can get refunds quickly without waiting for an entire year. Furthermore, rebates in the quarterly billing are not very deterrent to the financial health of even the cash-strapped company.
Why do SaaS Companies Get Refunds?
Customers rarely request refunds in the pre-paid billing and abandon the product if their expectations are not fulfilled. Even the most successful SaaS companies experience cancellation of their subscription.
If you have too frequent refund requests, you should sit with your team and ask them why it is happening. If there are some issues in your product that customers are facing and complaining about, they are not being facilitated by your team.
If that is the case, it needs to be resolved immediately. So, trace out the root cause of refund requests. It could be because customers have wrong expectations with your product or the product has some functionality issues.
You might also target the wrong customers, or your customer support might fail to tranquilize customer complaints.
Large Customers Expects Cancellation Request in Contract
Some of your high-paying customers will not sign your standard terms and conditions. In stark contrast, they want you to sign their Master Service Agreement. MSA comprises cancellation and refund conditions you must follow throughout the contract.
However, you can amend the terms and create a win-win situation. Always opt for quarterly billing to offset the potential threat of squeezing revenue due to refunds from large clients.
To sum things up, we would say that refund is a small price that we pay to keep our customers happy and for the long-term benefits of your SaaS Company. It shows our commitment to the customers’ satisfaction.
If we do not have a proper strategy to deal with the consequences of refunds, we still have to give the refunds if customers ask nicely. But that could be devastating for the SaaS company’s financial health.