Revenue recognition is one of the most time-consuming (and complex) processes for growing SaaS companies.
Fueled by the growth in technology and SaaS business models, ASC 606 Revenue Recognition (Revenue from Contracts with Customers) represents one of the most significant changes to financial accounting and revenue operations standards in the last 100 years.
Jointly issued by FASB and the IASB, the new standard sets out the accounting rules to follow when translating customer contracts into recognizable revenues. ASC 606 aims to unify the various ad hoc, industry-specific legacy accounting principles—replacing a rules-based approach with a principles-based approach.
Not only are the accounting procedures themselves complex, but systems and ERPs have also struggled to keep pace with the evolution of revenue recognition guidance over the past few years. Many specialized tools have entered the marketplace to address the various challenges introduced by new regulations and business models. The result is a fragmented systems landscape characterized by time-consuming handoffs and endless replication of data across multiple spreadsheets and reports.
To a non-Finance person, the process of converting a sales contract into revenue is often the most confusing aspect of Finance to grasp. Not only does revenue not equate to cash received or invoices issued—it’s also not necessarily tied to the signing of a sales contract!
Confused? You’re not alone!
The Difference Between Bookings and Revenue
“Bookings” is a term that has grown in popularity, predominantly in the SaaS world.
There is no standard definition in Generally Accepted Accounting Principles (GAAP) and hence the meaning can differ across companies and markets. However, “bookings” is a forward-looking metric that typically indicates the value of a contract signed with a prospective customer for a given period of time.
In general, we can assume that the dollar value of bookings equates to the aggregate value of all contracts that are considered closed at a given date regardless of the duration. Bookings are, therefore, an indicator of sales growth and are often the primary metric for sales teams.
Revenue, on the other hand, is an accounting term defined by GAAP. ASC 606 revenue recognition lays out the guidance and process of converting a contract into recognized revenue using a 5-step model to establish how much and when to recognize revenue.
Let’s walk through a simple, but typical, example of a contract for an annual software license. The first concept to be aware of is that the accruals basis of accounting requires revenue to be accounted for as it is earned. Revenue is considered earned when a service is provided to the customer. The difference between the invoiced value and the revenue recognized is called deferred revenue—this is revenue that has yet to be earned by the company.
Aaron, a sales associate with Projectify, agrees to a deal to supply software to KooKoo Inc for $60,000 on March 30. Aaron is delighted to get the sale closed before the end of Q1—helping him meet his sales target for the quarter.
He sends the contract to KooKoo’s CEO to sign and passes the hard copy to finance when he receives it on April 1. On receipt of the signed sales contract, Linda (Projectify’s revenue accountant) runs through some checks to ensure that the contract meets the criteria for recognition as outlined by ASC 606:
|Principle||What to Check||Findings|
|1. Identify if a contract is in place||When reviewing the contract: Is it legally enforceable? Is it “probable” that the amounts will be collected?||Linda verifies that the contract is signed by authorized counterparts and performs a successful credit check. |
She notes the agreed payment terms are 30 days from the date of invoice and invoices are billed quarterly in arrears.
|2. Identify the performance obligations||What service is being provided? When?||Projectify must provide access to their Projectify Premium PMO software for the duration of the contract.|
|3. Determine the transaction price||How much will the customer pay? Are there any discounts or rebates included?||The price is $60,000 without any discounts or rebates. |
Linda notes that there is commission payable to Aaron on the sale—which is a direct cost associated with this contract.
|4. Allocate the contract price to the performance obligations||Is a product or service being delivered for a set period?||Access to the product is to be provided by May 1 for a period of 12 months.|
|5. Recognize revenue||Ensure that the product team has provided access to the software before revenue is recognised|
|$60,000 across 12 months = $5,000 revenue per month|
The first period for Revenue recognition will be May 1 (the date the service is provided to the customer).
Linda is already under pressure to close out the month-end and is frustrated with Aaron for adding these additional tasks to her workload, especially after she had already planned out the financial close calendar to ensure the team would hit their deadlines.
Despite the pressure of the month-end, she’s conscious that she needs to pay attention to the detail when reviewing contracts for non-standard terms, and validating the details to the various sales and provisioning systems. As the company continues to grow, Sales seems to leave everything to the last minute, leaving Linda to work through the night to check the details in Salesforce, set the contract up in the finance system, and verify with the product team that the client has been set up.
On top of that, she needs to enter all the details into a spreadsheet to calculate revenue to be recognized for each contract, and the value to be deferred, and then add those details to the overall Revenue Waterfall schedule. After a few hours, she finally settles on a dollar value for Revenue after copying and pasting the various pieces of data from each system.
Linda heads home—she’ll post the journal to the finance system in the morning as she knows she’s likely to make a mistake after a long day wrangling with spreadsheets.
On her journey home, Linda argues with herself. Every month she promises herself that she will figure out a better process that ensures that she gets the information in plenty of time to complete her checks, validations, and calculations and leave her time to analyze the numbers before she hands them to the CFO. He’s becoming increasingly impatient for the final metrics which adds even more pressure to the finance team to prepare and report the numbers before they’ve had the time to reconcile everything and do some analysis.
Moving Up and to the Right with Revenue Recognition
For many, “up and to the right” is the only trend that matters in a growing business—graphs that show trends in users, customers, and revenue grow continuously over time.
For finance teams in this fast-moving industry, each stage of growth brings a new challenge to overcome. With new systems being added to cope with billing and collections, revenue recognition, sales forecasting, and account provisioning, quote to cash (QTC) processes can get very complex very quickly.
With a volatile external market, there is even more pressure on Finance to produce real-time, accurate revenue metrics that empower the business to make agile decisions, navigate pricing and volume conversations, and plan marketing spend in response to changing market dynamics. Business teams cannot afford to wait for information or spend time debating the accuracy or providence of each data source. The onus is on Finance to establish a single source of truth (SSOT) and create a holistic view of QTC data.
While many finance teams are time-poor and resource-hungry, in the fast-moving world of SaaS manual processes will quickly overwhelm the QTC teams and lead to errors, compliance issues and many late nights.
Since revenue is the north star metric in the SaaS industry, preparing revenue operations for scale should also be a north star for the SaaS CFO.
However, the reality is that many organizations struggle with poor strategic alignment, lack of process efficiencies to identify revenue opportunities, and tools that don’t scale as quickly as the teams do, preventing them from delivering on their top objectives. In a recent 2020 study, Forrester reports that 90% of decision-makers say their billing tools and processes need to be greatly improved, and 57% of respondents report having lost business due to an inability to effectively or efficiently process payments.
A typical QTC process in a growing SaaS company will include 4-5 separate systems glued together by spreadsheets. What starts as a manageable manual process quickly runs out of runway when even the smallest hint of complexity is introduced. A mid-contract cancellation, an unpaid invoice, or an issue with provisioning new accounts—everything is reflected in the highly regulated revenue number.
Connecting datasets from disparate systems is a foundational step for scaling revenue operations. Complying with ASC 606 revenue recognition rules requires accessing and aggregating data across the organization—from your CRM, the production platform, compensation systems, billing platforms, payment providers, and the financial reporting system.
Once you have clean, structured data at your fingertips, a world of possibilities opens up for automated reconciliations, dynamic waterfalls for revenue recognition calculations, and self-service reports covering key metrics such as ARR, MRR, churn, CAC, and CLTV.
Moving towards a centralized data strategy for revenue operations unlocks long-term sustainable organizational growth. In creating a SSOT, organizations can improve efficiencies, prevent revenue leakage, make smarter decisions, move faster, and drive insights.
Aligning your revenue teams isn’t just about making your number, it’s also about creating a thriving work environment that is built on accountability and trust. Today, the predominant challenge for most businesses isn’t a lack of data—but choosing which numbers to focus on. When most companies have multiple data systems and a wealth of data to draw from, it’s easy to feel data-driven but not actually be data-driven.
Scaling quote-to-cash in a SaaS business means that revenue operations must speak the same data language—aligned metrics, dimensions and definitions—to be truly successful with data.
If you don’t feel your organization has a clear, aligned view of performance, there’s nothing more important you can work on—from a data perspective—that will drive a higher ROI.
Takeaways: Moving Towards Data-Driven Revenue Operations
We recommend a few key strategies to follow ASC 606 revenue recognition guidelines and move towards data-driven RevOps.
1. Have a data strategy.
Customers want a seamless buyer journey. A single source of truth enables deeper customer relationships and also enables personalization.
Removing data silos and reconciliations greatly improves efficiency across revenue operations, enabling your business to scale without compromising the customer experience.
Businesses need holistic insights to stay competitive in today’s data-driven market. Without a single source of truth, data sets exist in siloes and each department operates as a black box.
2. Provide real-time visibility into your business.
Unified datasets provide transparency and accountability at every level from the boardroom to customer-facing teams.
Aligning multiple teams around a core set of customer success metrics ensures that everyone is focused on achieving the same goal. Ensuring that those metrics are readily available and transparent drives accountability throughout the organization
Creating a common language builds cohesive teaming and prevents a “Tower of Babel” situation from derailing strategy or paralyzing decision-making.
3. Automate data reconciliation.
Each time data is passed from one system to another the risk of transformation error or omission is increased.
Disparate systems result in unnecessary reconciliations, validations, and checks. Remove the data wrangling from your processes and use the time to focus on growth.
Using Kloudio’s user-configurable APIs, you can have access to the data you need, from all your systems of record, in real-time. Empowered with real-time data, directly from the source system, Finance can devote the necessary focus to ASC 606 revenue recognition duties. Create a free Kloudio account today.