SaaS companies may struggle with ASC 606 for many reasons. Upfront, the accounting standard looks straightforward. However, the complexity of subscription billing models makes managing compliance with the standard look more complicated, particularly when it comes to revenue recognition and deferrals.
Before we explore the complexities, let’s look at the five basic steps that ASC 606 outlines.
The five key steps of ASC 606 for SaaS companies are:
- Identify the contract with a customer.
- Identify the performance obligations in the contract.
- Determine the transaction price.
- Allocate the transaction price to the performance obligations in the contract.
- Recognize revenue when or as the entity satisfies a performance obligation.
Now, let’s dive into the complexities these steps introduce when it comes to the subscription billing models that are popular with SaaS companies.
(Note: If you’d like a quick primer on the background of this accounting standard, read our blog on the path to ASC 606.)
Complexities introduced by ASC 606 for SaaS companies
1. Customers upgrading or downgrading their subscription plans
Subscription plans are usually quite flexible and prone to change. Customers often make changes to their pricing plans (e.g. updating to a premium account or temporarily cancelling or suspending their plan). SaaS companies expect and plan for this, but few think about how this impacts their revenue recognition under ASC 606.
Under the accounting standard, only earned revenue can be recognized, and it can become challenging to keep track of earned revenue without a robust software solution. If systems can’t deal with the demands of usage, it may lead to billing errors. Sometimes these changes require a new contract, and other times the changes require a contract modification. Either way, this behaviour can be complex to manage.
Recommended read: Understanding revenue recognition subscription billing
2. Recognizing revenue for different components of the same subscription
Complexities only increase when you start to consider the many components of a billing model. For instance, does it have one-time set-up fees? How should these be recognized? Generally speaking, revenue is recognized over the contract’s lifetime, but then again, there are evergreen subscriptions. What then? SaaS companies are going to need a system built to manage these types of nuances. Trying to track all the different components on a regular accounting system isn’t going to cut it.
Check out our blog on the differences between accounting software and subscription billing software here.
3. Proving compliance can be trickier for SaaS companies
It’s time to retire those spreadsheets and look at automation to reduce errors in your data. The European Spreadsheet Risks Interest Group reported that 50% of spreadsheet models used for larger businesses’ operations have defects. Just a glance at their log of “horror stories” will give you some insight into the cost these kinds of defects can have on your company.
There’s no shortage of software solutions out there to help you deal with recurring billing, but few of the options will enable compliance or best accounting practices. For your SaaS company to scale and grow, proving compliance is a significant piece of the puzzle. Investing in solutions that know about ASC 606 and how to implement it, and what your reports need to show will be crucial.
4. Managing price-based marketing incentives and discounts
Another complexity introduced by ASC 606 for SaaS companies will be managing rev rec for discounts and special limited-time pricing for new customers. A system built to understand advanced billing options and price-based marketing incentives will be essential. Companies may be hesitant to implement ASC 606 into their reporting, but creating reports that show compliance to the standard (regardless of promotions!) will be critical.
5. Technology that’s simply not built to handle ASC 606 for SaaS
As mentioned above, technology plays a significant role in successfully implementing and maintaining the ASC 606 accounting standard. The wrong software could set your company back months, with arduous admin work and the slow and painful process of going back through data to correct errors and prove compliance. By investing in the right subscription software, all this is avoidable.
Most companies will want to invest in a system that not only allows for automation but generates the right reports in a streamlined and compliance-friendly manner. Without this, accounting teams will fall behind. Companies may struggle to stay financially afloat as they will need to remain compliant to secure funding and invest in further growth opportunities.
Solving the complexities introduced by ASC 606 for SaaS companies
Subscription Billing Suite (SBS) provides consistent and reliable invoicing for a wide range of pricing models while maintaining accurate financial reporting and enabling compliance with ASC 606 for SaaS companies. It presents a comprehensive answer to how you can cut through the complexity of regulatory compliance. Using intelligent deferral schedules, you can streamline your revenue recognition process and eliminate your reliance on time-consuming and error-prone manual processes with ease.