When a customer starts preferring a subscription-based service rather than purchasing a software license, they often experience issues. Pain points often vary significantly with departments or product nature, but customers often issue irritating enough to force them to choose another billing method.
To cope with these problems and retain customers’ trust, many SaaS Companies embrace recurring billing management software. It covers different dimensions of subscription-based such as:
· Automation of the billing process
· Elimination of the bottlenecks to streamline the production of the SaaS product.
· Recording the details of every customer in an easily retrievable manner.
Customers’ satisfaction is paramount to the success of every SaaS business. Likewise, a growing SaaS Company should give equal importance to the bookkeeping and accounting issues. If the accounting issues continues unabated, it is likely to hurt the viability of the SaaS business in the long run.
For instance, if a SaaS Company does not have a proper understanding of accounting principles to employ in their business, they do not recognize its revenue accurately. They are likely to make bad financial decisions.
To handle the accounting-related concerns of a SaaS Company, businesses often embrace different legacy systems. Seasoned developers develop these systems for a SaaS Company. However, all the existing legacy systems solely emphasized only one accounting ledger: cash.
There is where the real problem kicks in. Accounts departments of the SaaS Company has to deal with all the facets of the business, including assets, liabilities, expenditures, and taxes.
Although the importance of healthy cash flow cannot be neglected for a SaaS business, there are too many other things that should be given utmost prominence like:
· Deferred revenue
· Earned revenue
· Credits
· Discounts
· Partial write-offs
· Full write-offs
· Accounts receivable
Many factors could positively or negatively affect the ability of a SaaS business to generate recurring revenue.
However, the metrics discussed above are the parts and parcels of the business. They are a strong indicator of the revenue growth of a business.
Accounting issues that SaaS companies’ accounting issues are utterly different from what the traditional businesses experience. A conventional business might have 1000 customers and can sell 1000 invoices to all their customers at once.
Conversely, if a subscription-based SaaS business has 1000 customers, it must send 1000 invoices to all its customers each month.
Before we move on and start discussing the main pain points of the SaaS Business, we’ll walk you through the accounting principles employed in SaaS.
Here are the topics that we’ll cover in this articles
· SaaS Accounting
· Difference between cash and accrual accounting
· The problem with using a spreadsheet
· The difference in revenue recognition
· GAAP Financials
· SaaS Accounting Pain points
· How to eliminate all the accounting pain points of a SaaS company?
What is SaaS Accounting?
One key challenge that SaaS Companies face is interpreting cash accurately. While switching to a subscription-based business from the traditional business model, many companies limit themselves to the day-old spreadsheets and the manual process to manage the finances of their business.
Moreover, infant SaaS Companies tend to use the traditional systems and software specific to the traditional software business. Eventually, they’ll end up with inaccurate figures that don’t provide them with meaningful company insights.
That being said, an accountant must manage the finances of a traditional software business and a SaaS business in an utterly different manner.
The Difference between the Cash and Accrual Accounting
The main difference between the traditional and subscription-based businesses is the accounting principles employed in both of them. Cash accounting best suits the conventional business. It implies your revenue will only be recognized when the cash is received.
Let’s suppose you buy a shirt from Walmart to keep that in perspective. Walmart will only recognize revenue from that shirt if you pay them money.
In stark contrast, in the subscription-based business, revenue cannot be recognized when the customer releases the upfront payment. It must be acknowledged separately throughout the subscription. It is due to the performance obligation of the SaaS Company.
For instance, if you buy an annual subscription plan of Grammarly, you might have to release the full payment at once to enjoy the discount. However, Grammarly could not recognize all of the revenue at once because the customer hasn’t yet rendered it.
This accounting practise is referred to as accrual accounting.
The Problems with Using Spreadsheet to Perform Accounting Tasks in SaaS
Spreadsheets have now become obsolete. Even though business owners are accustomed to using spreadsheets, they are not at par with the continuously evolving nature of the SaaS business.
Since SaaS is a subscription-based business, agreements with customers might change anytime. Consequently, SaaS business owners are forced to use multiple disconnected spreadsheets to cope with this problem.
Additionally, the periodic financial statement has become inefficient and takes longer than expected. Apart from that, the spreadsheets process is prone to errors. Therefore, generating accurate operational and financial data is practically impossible.
Another disappointing aspect of a spreadsheet for SaaS business is that tracking the real-time accurate financial data is impossible. This could have a devastating impact on the ability of the company to make informed decisions leveraging the financial and accounting data.
Furthermore, lack of access to accurate financial data makes your team’s business operations insanely cumbersome and excruciating.
When the SaaS business is not in the infant stage, many business owners used to integrate general ledger software into the spreadsheet to expand its functionality. However, business owners realize that general ledger software couldn’t efficiently manage revenue recognition or subscription billing with time.
The Differences in the Revenue Recognition
Revenue recognition isn’t an easy process. For this reason, many businesses end up making mistakes while recording revenue.
In compliance with the US Generally Accepted Accounting Principles (GAAP), a business could not entirely recognize revenue from the contract until the customer consumes the service.
With a varying nature of the contracts and contract lengths, SaaS Companies require a system that can recognize revenue in a synchronized manner with their contract terms.
In the B2B SaaS business, there is a dire need for a system able to recognize revenue upon completing certain milestones of a project.
Software upgrades, downgrades, renewal of addons, quantity-based upgrades, or downgrades have become a norm in the SaaS industry. Eventually, the financial team experiences immense pressure as general ledger software and spreadsheets are not correctly aligned with revenue accounting.
Although revenue recognition is a relatively simple process, it could become a bit complex for SaaS Companies. Moreover, SaaS Companies need to adopt the proper revenue recognition system to comply with the ASC 606 guidelines.
GAAP Financials
For SaaS Companies, complying with the GAAP is imperative for the optimal functioning of the business since the revenue model of SaaS is heavily reliant on future revenue growth.
For instance, being a SaaS entrepreneur, it is imperative to know if the lifetime value exceeds the customer acquisition cost if the company executes its expansion plans. Sheer relying on spreadsheets to track this data and make an informed decision could be problematic.
GAAP indicates the financial condition, but it doesn’t reveal anything about the reliability of recurring revenue.
Lastly, a SaaS Company must have a proper system to track primary SaaS-specific metrics like monthly recurring revenue, annual recurring revenue, churn rate, or customer acquisition cost. Only then a SaaS Company could report to its shareholders.
So far, we have discussed the standard accounting practices employed in the SaaS Company. Now we’ll delve deeper into the significant accounting concerns that a SaaS Company faces.
SaaS Accounting Pain Point#1: All the financial transaction needs to adhere to General Ledger (GL) system meticulously
A business often uses many accounting systems such as QuickBooks Online (QBO), NetSuite, Oracle, or Xero. Usually, all the accountants have the exact requirements, i.e. all the transactions in their ledger must follow the accounting standards.
Without a solid billing platform, we need to rely on manual work. We humans are not always accurate. Even though humans always try to avoid mistakes, in reality, if humans are asked to enter all the billing transactions into an accounting system, mistakes are inevitable.
As a business thrives, these mistakes will cause more damage to the company. Because manual work isn’t only prone to human avoidance, but as more demand starts from the billing departments, people are likely to adopt shortcuts.
Shortcuts often do more harm than good to the business.
The most common shortcuts that peoples often adopt are:
· Relying on the singular billing entry to process all the transactions
· Merging all the transactions in one place to keep the billing volume at a bare minimum.
These shortcuts can compromise the audit trail or make it impossible in the worst case. This situation could be devastating for an accountant working in the SaaS industry.
If an accountant fails to ensure an audit trail, he cannot prove the numbers to shareholders or other stack holders. This isn’t only an accountant headache for a SaaS Company, but it is also a severe concern.
This is where the importance of a robust billing platform comes into the picture. Leveraging the power of the billing platform, a Company can manage all the invoices and customers with little to no human intervention.
Apart from that, it can put all the essential billing information into your desired accounting platform and eliminate the hefty cost of manual errors.
SaaS Accounting Pain Point#2 Accountants need to establish a recurring billing platform to address their business requirements
Accountants are always very comfortable with double-entry bookkeeping. This means that all the payments must be either credited or debited.
A SaaS Company’s sales should be recorded as an account receivable, and the payments must be drawn from the balance of customers. A customer balance typically means how much amount has to be received from a particular customer.
Might you think of your account balance as cash in hand? But that’s not true. A bank balance is money that the bank is liable to pay you.
The same example is relevant for the subscription-based business. Suppose that a customer purchases a $30/month subscription. Technically speaking, the customer is contractually obliged to pay $30 per month to the SaaS Company.
Like revenue recognition, refunds and discounts should be treated as a separate ledger entry. After paying for the subscription plan, if a customer wants to cancel the subscription plan, a company has two available options to deal with the refund:
They can refund the money back to the customers.
They can reverse the charge that indicates the customer no longer owe the company $30 per month.
SaaS Accounting Pain Point#3 When is the revenue recognized under the GAAP?
The biggest problem of the SaaS Company is to recognize revenue correctly when the service has been delivered. According to the GAAP ASC 606 rule, in a subscription-based business, revenue could only be recognized when the customer consume the service.
The revenue recognition principle categorized earning into deferred, earned and recognized revenue therefore, if a customer has purchased a $40 per month subscription plan, then that $30 could not be recognized as revenue on the first day of the month.
$1 is recognized as revenue per day throughout the contract. Thus, upon completion of 15 days of the contract, only $15 can be recognized as revenue. Whereas the remaining $15 will be recorded as the deferred revenue.
There might be a few adjustments in this process that could be:
· Discounts
· Upgrade from the basic plan to an enterprise plan
· Downgrade from enterprise plan to basic plan
· Addons
· Acquisition of additional agents
A proper billing system should be at par with all these adjustments in real-time. Keeping the situation’s complexities in mind, if we still rely on the manual process, we will likely end up with inaccurate revenue recognition.
When a SaaS Company performs accurate calculations for revenue recognition, there will be no deferred revenue at the end of the month/quarter/year while accountants are closing their books.
To cope with this problem, recurring billing software comes in very handy. They streamline the entire revenue recognition process and eliminate all the errors. Harnessing the potential of this software, accountants won’t experience any difficulty while closing their books.
How to Eliminate All the SaaS Accounting Pain Points?
The one-stop solution to all the accounting issues of a SaaS Company is automation. SaaS-centric automation technology is punitive to glean meaningful financial insights of the SaaS Company. Likewise, it is also vital to prevent your company from working sub-optimally.
External Resources
What are the Key SaaS Accounting Pain Points?
When a customer starts preferring a subscription-based service rather than purchasing a software license, they often experience issues. Pain points often vary significantly with departments or product nature, but customers often issue irritating enough to force them to choose another billing method.
To cope with these problems and retain customers’ trust, many SaaS Companies embrace recurring billing management software. It covers different dimensions of subscription-based such as:
· Automation of the billing process
· Elimination of the bottlenecks to streamline the production of the SaaS product.
· Recording the details of every customer in an easily retrievable manner.
Customers’ satisfaction is paramount to the success of every SaaS business. Likewise, a growing SaaS Company should give equal importance to the bookkeeping and accounting issues. If the accounting issues continues unabated, it is likely to hurt the viability of the SaaS business in the long run.
For instance, if a SaaS Company does not have a proper understanding of accounting principles to employ in their business, they do not recognize its revenue accurately. They are likely to make bad financial decisions.
To handle the accounting-related concerns of a SaaS Company, businesses often embrace different legacy systems. Seasoned developers develop these systems for a SaaS Company. However, all the existing legacy systems solely emphasized only one accounting ledger: cash.
There is where the real problem kicks in. Accounts departments of the SaaS Company has to deal with all the facets of the business, including assets, liabilities, expenditures, and taxes.
Although the importance of healthy cash flow cannot be neglected for a SaaS business, there are too many other things that should be given utmost prominence like:
· Deferred revenue
· Earned revenue
· Credits
· Discounts
· Partial write-offs
· Full write-offs
· Accounts receivable
Many factors could positively or negatively affect the ability of a SaaS business to generate recurring revenue.
However, the metrics discussed above are the parts and parcels of the business. They are a strong indicator of the revenue growth of a business.
Accounting issues that SaaS companies’ accounting issues are utterly different from what the traditional businesses experience. A conventional business might have 1000 customers and can sell 1000 invoices to all their customers at once.
Conversely, if a subscription-based SaaS business has 1000 customers, it must send 1000 invoices to all its customers each month.
Before we move on and start discussing the main pain points of the SaaS Business, we’ll walk you through the accounting principles employed in SaaS.
Here are the topics that we’ll cover in this articles
· SaaS Accounting
· Difference between cash and accrual accounting
· The problem with using spreadsheet
· The difference in revenue recognition
· GAAP Financials
· SaaS Accounting Pain points
· How to eliminate all the accounting pain points of a SaaS company?
What is SaaS Accounting?
One key challenge that SaaS Companies face is interpreting cash accurately. While switching to a subscription-based business from the traditional business model, many companies limit themselves to the day-old spreadsheets and the manual process to manage the finances of their business.
Moreover, infant SaaS Companies tend to use the traditional systems and software specific to the traditional software business. Eventually, they’ll end up with inaccurate figures that don’t provide them with meaningful company insights.
That being said, an accountant must manage the finances of a traditional software business and a SaaS business in an utterly different manner.
The Difference between the Cash and Accrual Accounting
The main difference between the traditional and subscription-based businesses is the accounting principles employed in both of them. Cash accounting best suits the conventional business. It implies your revenue will only be recognized when the cash is received.
Let’s suppose you buy a shirt from Walmart to keep that in perspective. Walmart will only recognize revenue from that shirt if you pay them money.
In stark contrast, in the subscription-based business, revenue cannot be recognized when the customer releases the upfront payment. It must be acknowledged separately throughout the subscription. It is due to the performance obligation of the SaaS Company.
For instance, if you buy an annual subscription plan of Grammarly, you might have to release the full payment at once to enjoy the discount. However, Grammarly could not recognize all of the revenue at once because the customer hasn’t yet rendered.
This accounting practise is referred to as accrual accounting.
The Problems with Using Spreadsheet to Perform Accounting Tasks in SaaS
Spreadsheets have now become obsolete. Even though business owners are accustomed to using spreadsheets, they are not at par with the continuously evolving nature of the SaaS business.
Since SaaS is a subscription-based business, agreements with customers might change anytime. Consequently, SaaS business owners are forced to use multiple disconnected spreadsheets to cope with this problem.
Additionally, the periodic financial statement has become inefficient and takes longer than expected. Apart from that, the spreadsheets process is prone to errors. Therefore, generating accurate operational and financial data is practically impossible.
Another disappointing aspect of a spreadsheet for SaaS business is that tracking the real-time accurate financial data is impossible. This could have a devastating impact on the ability of the company to make informed decisions leveraging the financial and accounting data.
Furthermore, lack of access to accurate financial data makes your team’s business operations insanely cumbersome and excruciating.
When the SaaS business is not in the infant stage, many business owners used to integrate general ledger software into the spreadsheet to expand its functionality. However, business owners realize that general ledger software couldn’t efficiently manage revenue recognition or subscription billing with time.
The Differences in the Revenue Recognition
Revenue recognition isn’t an easy process. For this reason, many businesses end up making mistakes while recording revenue.
In compliance with the US Generally Accepted Accounting Principles (GAAP), a business could not entirely recognize revenue from the contract until the customer consumes the service.
With a varying nature of the contracts and contract lengths, SaaS Companies require a system that can recognize revenue in a synchronized manner with their contract terms.
In the B2B SaaS business, there is a dire need for a system able to recognize revenue upon completing certain milestones of a project.
Software upgrades, downgrades, renewal of addons, quantity-based upgrades, or downgrades have become a norm in the SaaS industry. Eventually, the financial team experiences immense pressure as general ledger software and spreadsheets are not correctly aligned with revenue accounting.
Although revenue recognition is a relatively simple process, it could become a bit complex for SaaS Companies. Moreover, SaaS Companies need to adopt the proper revenue recognition system to comply with the ASC 606 guidelines.
GAAP Financials
For SaaS Companies, complying with the GAAP is imperative for the optimal functioning of the business since the revenue model of SaaS is heavily reliant on future revenue growth.
For instance, being a SaaS entrepreneur, it is imperative to know if the lifetime value exceeds the customer acquisition cost if the company executes its expansion plans. Sheer relying on spreadsheets to track this data and make an informed decision could be problematic.
GAAP indicates the financial condition, but it doesn’t reveal anything about the reliability of recurring revenue.
Lastly, a SaaS Company must have a proper system to track primary SaaS-specific metrics like monthly recurring revenue, annual recurring revenue, churn rate, or customer acquisition cost. Only then a SaaS Company could report to its shareholders.
So far, we have discussed the standard accounting practices employed in the SaaS Company. Now we’ll delve deeper into the significant accounting concerns that a SaaS Company faces.
SaaS Accounting Pain Point#1: All the financial transaction needs to adhere to General Ledger (GL) system meticulously
A business often uses many accounting systems such as QuickBooks Online (QBO), NetSuite, Oracle, or Xero. Usually, all the accountants have the exact requirements, i.e. all the transactions in their ledger must follow the accounting standards.
Without a solid billing platform, we need to rely on manual work. We humans are not always accurate. Even though humans always try to avoid mistakes, in reality, if humans are asked to enter all the billing transactions into an accounting system, mistakes are inevitable.
As a business thrives, these mistakes will cause more damage to the company. Because manual work isn’t only prone to human avoidance, but as more demand starts from the billing departments, people are likely to adopt shortcuts.
Shortcuts often do more harm than good to the business.
The most common shortcuts that peoples often adopt are:
· Relying on the singular billing entry to process all the transactions
· Merging all the transactions in one place to keep the billing volume at a bare minimum.
These shortcuts can compromise the audit trail or make it impossible in the worst case. This situation could be devastating for an accountant working in the SaaS industry.
If an accountant fails to ensure an audit trail, he cannot prove the numbers to shareholders or other stack holders. This isn’t only an accountant headache for a SaaS Company, but it is also a severe concern.
This is where the importance of a robust billing platform comes into the picture. Leveraging the power of the billing platform, a Company can manage all the invoices and customers with little to no human intervention.
Apart from that, it can put all the essential billing information into your desired accounting platform and eliminate the hefty cost of manual errors.
SaaS Accounting Pain Point#2 Accountants need to establish a recurring billing platform to address their business requirements
Accountants are always very comfortable with double-entry bookkeeping. This means that all the payments must be either credited or debited.
A SaaS Company’s sales should be recorded as an account receivable, and the payments must be drawn from the balance of customers. A customer balance typically means how much amount has to be received from a particular customer.
Might you think of your account balance as cash in hand? But that’s not true. A bank balance is money that the bank is liable to pay you.
The same example is relevant for the subscription-based business. Suppose that a customer purchases a $30/month subscription. Technically speaking, the customer is contractually obliged to pay $30 per month to the SaaS Company.
Like revenue recognition, refunds and discounts should be treated as a separate ledger entry. After paying for the subscription plan, if a customer wants to cancel the subscription plan, a company has two available options to deal with the refund:
They can refund the money back to the customers.
They can reverse the charge that indicates the customer no longer owe the company $30 per month.
SaaS Accounting Pain Point#3 When is the revenue recognized under the GAAP?
The biggest problem of the SaaS Company is to recognize revenue correctly when the service has been delivered. According to the GAAP ASC 606 rule, in a subscription-based business, revenue could only be recognized when the customer consumes the service.
The revenue recognition principle categorized earning into deferred, earned and recognized revenue therefore, if a customer has purchased a $40 per month subscription plan, then that $30 could not be recognized as revenue on the first day of the month.
$1 is recognized as revenue per day throughout the contract. Thus, upon completion of 15 days of the contract, only $15 can be recognized as revenue. Whereas the remaining $15 will be recorded as the deferred revenue.
There might be a few adjustments in this process that could be:
· Discounts
· Upgrade from the basic plan to an enterprise plan
· Downgrade from enterprise plan to the basic plan
· Addons
· Acquisition of additional agents
A proper billing system should be at par with all these adjustments in real-time. Keeping the situation’s complexities in mind, if we still rely on the manual process, we will likely end up with inaccurate revenue recognition.
When a SaaS Company performs accurate calculations for revenue recognition, there will be no deferred revenue at the end of the month/quarter/year while accountants are closing their books.
To cope with this problem, recurring billing software comes in very handy. They streamline the entire revenue recognition process and eliminate all the errors. Harnessing the potential of this software, accountants won’t experience any difficulty while closing their books.
How to Eliminate All the Accounting Pain Points of a SaaS Company?
The one-stop solution to all the accounting issues of a SaaS Company is automation. SaaS-centric automation technology is punitive to glean meaningful financial insights of the SaaS Company. Likewise, it is also vital to prevent your company from working sub-optimally.
External Resources
https://blog.fusebill.com/resolve-accounting-pain-recurring-billing-while-scaling
