A guide to revenue recognition for SaaS businesses

Revenue Recognition
Revenue Recognition

Stripe Revenue Recognition streamlines accrual accounting so you can close your books quickly and accurately. Automate and configure revenue reports to simplify compliance with IFRS 15 and ASC 606 revenue recognition standards.

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  1. Introduction
  2. What is revenue recognition?
  3. Accounting standards for revenue recognition
    1. ASC 606: Revenue from contracts with customers
    2. IFRS 15: Revenue from contracts with customers
  4. Challenges in revenue recognition for SaaS businesses
    1. Distinguishing between multiple-element arrangements
    2. Determining the transaction price in contracts with variable consideration
    3. Recognising revenue for post-contract support
    4. Addressing customer refunds and returns
  5. Solutions for effective revenue recognition in SaaS
    1. Automate revenue recognition processes
    2. Adopt a performance obligation approach
    3. Stay ahead with continuous training and updates
    4. Set aside a provision for refunds and cancellations
    5. Engage with financial consultants
    6. Simplify and standardise contracts
    7. Dedicate a team to revenue recognition
    8. Invest in automated software
    9. Keep detailed documentation
    10. Conduct internal audits
    11. Communicate across departments
    12. Standardise processes on a global scale
    13. Adjust financial planning
  6. Revenue recognition best practices for SaaS
    1. Distinguish between one-time and recurring revenue
    2. Recognise revenue when performance obligations are met
    3. Stay updated with regulations
    4. Use software tailored for SaaS
    5. Treat refunds and concessions carefully
    6. Account for free trials
    7. Monitor variable considerations
    8. Document everything
    9. Be transparent with stakeholders
    10. Stay consistent
    11. Collaborate internally
    12. Regularly review and adjust
    13. Prepare for contingencies
  7. How Stripe can help SaaS businesses with revenue recognition
    1. Holistic view of your earnings
    2. Streamlined reporting
    3. Custom features
    4. Real-time audit preparedness
    5. Subscription billing
    6. Automated invoicing and billing
    7. Integration with accounting software
    8. Scalable financial architecture

Revenue recognition is a key topic for software-as-a-service (SaaS) businesses. Getting revenue recognition right means dealing with added complexity such as multifaceted subscription models, ongoing service obligations, and tiered pricing schemes. With the global SaaS market valued at $261.1 billion USD in 2022 and expected to reach $819.2 billion USD by 2030, the stakes are high for these businesses.

Below, we’ll explain revenue recognition for SaaS businesses: what it is, the unique revenue recognition challenges that SaaS businesses face, and what solutions and best practices you can use to counter them. Finally, we’ll look at how Stripe can simplify revenue recognition for your business.

What’s in this article?

  • What is revenue recognition?
  • Accounting standards for revenue recognition
  • Challenges in revenue recognition for SaaS businesses
  • Solutions for effective revenue recognition in SaaS
  • Revenue recognition best practices for SaaS
  • How Stripe can help SaaS businesses with revenue recognition

What is revenue recognition?

Revenue recognition is an accounting principle that outlines the specific conditions under which income is recorded (recognised) as revenue. This principle governs when a business can include certain amounts in its income statement. According to this principle, businesses can only recognise revenue when the key event leading to the completion of the intended sales process has occurred – when the revenue was earned or fulfilled, in full or in part – and the business can reasonably expect to collect payment for the goods or services provided.

Accounting standards for revenue recognition

ASC 606: Revenue from contracts with customers

This standard was issued in 2014 by the Financial Accounting Standards Board (FASB), which primarily serves US companies. ASC 606 provides a five-step model to apply to all contracts with customers for revenue recognition. The purpose of ASC 606 is to improve consistency in revenue recognition practices across industries, especially for complex, multi-component contracts. Here are the five steps that ASC 606 includes:

  • Identify the contract with a customer
    A contract is an agreement between two or more parties that creates enforceable rights and obligations. The criteria for a contract to be recognised under ASC 606 must be met.
  • Identify the performance obligations in the contract
    Performance obligations are promises in a contract to transfer distinct goods or services to the customer. A company must identify each promised good or service that is distinct.
  • Determine the transaction price
    The transaction price is the amount of consideration a company expects to be entitled to in exchange for transferring promised goods or services to a customer.
  • Allocate the transaction price
    If a contract has multiple performance obligations, a company must allocate the transaction price to each performance obligation. It should be in an amount that depicts the amount of consideration to which the company expects to be entitled in exchange for satisfying each performance obligation.
  • Recognise revenue when (or as) the entity satisfies a performance obligation
    Revenue is recognised when control of the promised goods or services is transferred to the customer, either over time or at a point in time, depending on the criteria met.

IFRS 15: Revenue from contracts with customers

IFRS 15 is the international counterpart to ASC 606. It was issued by the International Accounting Standards Board (IASB) and provides guidelines for businesses that operate globally. Just like ASC 606, IFRS 15 uses a five-step approach for revenue recognition. The goal of IFRS 15 is to ensure businesses across different countries and jurisdictions have a consistent and unified approach to recognising revenue – facilitating easier comparison and understanding of financial statements worldwide.

Challenges in revenue recognition for SaaS businesses

Below are some of the challenges SaaS businesses face around revenue recognition:

Distinguishing between multiple-element arrangements

Bundled services or products are standard in SaaS. When a business combines several components under one price tag, it must decide how to divide revenue across each element. Consider a SaaS company that sells a package including software licences, training, and customer support for a flat fee of $10,000. What’s the best way to break down that price? If the business sells the software alone for $8,000, training for $1,500, and support for $1,000, it can allocate the bundled revenue based on these stand-alone prices.

Determining the transaction price in contracts with variable consideration

Variable payment structures, such as those tied to performance bonuses or usage-based discounts, can complicate SaaS contracts. Deciding on the exact transaction price becomes trickier when the final amount fluctuates. Imagine that a SaaS company strikes a deal through which it will get paid more if user adoption rates are high. If the rate is above 90%, the company will receive $20,000, but if the rate falls short, it will get only $15,000. If past data shows that the company hits that 90% mark 75% of the time, then the company would record revenue of $18,750 up front.

Recognising revenue for post-contract support

After a contract ends, SaaS companies often still have commitments to keep, whether they’re updates, enhancements, or other support services. For instance, a SaaS provider might sell software that comes with the promise of quarterly updates over a year. If each update brings new features, then the company would recognise the revenue for those updates gradually, as they roll out.

Addressing customer refunds and returns

There will always be customers who want refunds or decide to end their subscription early – and businesses must decide when and how to recognise this change. Imagine that a SaaS company knows 5 out of every 100 subscribers will typically ask for refunds. Instead of booking all the projected revenue up front, the company might recognise only 95% of it. That way, it’s better positioned to handle the financial impact of those inevitable refund requests.

Solutions for effective revenue recognition in SaaS

Automate revenue recognition processes

Manual accounting methods can lead to errors and inconsistencies that automated tools can help correct. Many SaaS businesses use automated accounting software to allocate revenue, adjust for changes, and guarantee compliance with standards such as ASC 606 and IFRS 15. For example, consider a SaaS company that gets 1,000 new contracts every month. Automation can manage all these contracts, ensuring revenue is recognised accurately and on time.

Adopt a performance obligation approach

Breaking down contracts into separate performance obligations can make revenue recognition smoother. If a contract promises software access, training, and support – each of those is a distinct promise. By identifying each obligation and its stand-alone selling price, companies can recognise revenue as each obligation is satisfied. For instance, let’s say a company sells software with one year of support. If the software is delivered instantly but the support spans the year, revenue for the software can be recognised immediately – while the support revenue spreads out over 12 months.

Stay ahead with continuous training and updates

Regular training sessions and workshops can keep finance teams updated on the latest guidelines and best practices for accounting standards. If the IASB tweaks something in IFRS 15, a well-informed business can adjust its practices right away and avoid potential non-compliance issues down the road.

Set aside a provision for refunds and cancellations

Refunds will always be something SaaS businesses need to handle. By setting aside a specific provision based on historical data, businesses can create a safety net – making it easier to manage the financials when refunds do occur. For example, if 5% of customers historically ask for refunds, a company can set aside that percentage from its recognised revenue.

Engage with financial consultants

Working with financial experts or consultants who specialise in SaaS can provide insights into potential pitfalls and best practices.

Simplify and standardise contracts

SaaS companies often juggle a range of subscription plans, add-ons, and bespoke deals. Simplify and standardise these contract terms when possible. For example, if a SaaS business offers three primary subscription tiers, having template contracts for each one can make it simpler to determine how to recognise revenue for each subscriber.

Dedicate a team to revenue recognition

If possible, SaaS businesses should have a specialised revenue recognition team. This team can handle complex subscription contracts, adjust revenue recognition when a customer upgrades or downgrades their plan, and coordinate with sales or customer success teams to ensure revenue is recognised accurately at all times.

Invest in automated software

Accounting software tailored for the SaaS model can handle variable billing cycles, churn, and plan changes. For a SaaS business with monthly and annual subscribers who can change or cancel at any time, automated tools can adjust revenue recognition in real time.

Keep detailed documentation

With the fluid nature of SaaS subscriptions, detailed records are key. Imagine that a customer starts on a monthly plan, shifts to an annual plan, and then adds extra features six months in. Documenting each of these changes helps clarify how and when the revenue from this customer should be recognised.

Conduct internal audits

Internal audits can spotlight areas where a SaaS business might be underrecognising or overrecognising revenue, helping it make data-driven adjustments.

Communicate across departments

When the sales and finance teams communicate effectively, the finance team can be fully informed of any deal features – such as a special discount or a trial period – that might affect how revenue should be recognised.

Standardise processes on a global scale

Many SaaS companies have a global customer base. Balancing generally accepted accounting principles (GAAP) and IFRS requirements can be tricky, but finding methods that comply with both creates consistency. If a SaaS company offers its platform in the US and Europe, standardised policies mean that revenue is recognized according to the same principles no matter where the customer is located.

Adjust financial planning

SaaS businesses should adjust financial planning to mirror their revenue recognition. If there’s a surge in new annual subscriptions during a seasonal sale, forecasts should account for that revenue being recognised over the next 12 months, not immediately.

Revenue recognition best practices for SaaS

Distinguish between one-time and recurring revenue

SaaS companies often earn revenue from both one-time sales and recurring subscriptions, and these types of revenue are recorded differently. For example, if a customer pays for a yearly subscription and an add-on training session, the business will recognise the training revenue up front, but it will spread out the subscription revenue over the year.

Recognise revenue when performance obligations are met

If a customer pays up front for a year of service, that payment isn’t fully earned until the service has been provided for the full year. Even if the cash is in the bank, the business should recognise only a portion of it each month.

Stay updated with regulations

Reviewing current regulations on a regular basis ensures that revenue is recognised in compliance with the latest standards.

Use software tailored for SaaS

Investing in software built for SaaS revenue can help businesses with tasks such as recognising multi-tiered subscriptions, handling churn, and managing upgrades and downgrades smoothly.

Treat refunds and concessions carefully

When refunds occur, it’s important to reverse the previously recognised revenue. If a customer receives a concession or a discount partway through their subscription, you’ll need to adjust the revenue recognition for the remaining months.

Account for free trials

Many SaaS companies offer free trials. Even though no money changes hands during the trial, it’s important to track these users. You’ll begin to record revenue only if and when they transition to a paid subscription.

Monitor variable considerations

Some SaaS contracts may include performance-based bonuses or penalties. These can impact the amount of revenue recognised. If a customer receives a discount after hitting a usage milestone, your revenue calculations must account for that change.

Document everything

Keep detailed records of each contract, payment, upgrade, and any other transaction. This will help you during internal reviews as well as audits.

Be transparent with stakeholders

Being clear about how you recognise revenue builds trust with investors and board members and within your team. Regularly share insights into the company’s financial health and your methods.

Stay consistent

Stick to established methods for recognising revenue, and make sure any changes are well justified and communicated to all relevant parties.

Collaborate internally

Sales, customer support, and finance teams should work together to ensure revenue is recognised correctly – and to avoid surprises later on. If a customer changes their subscription or requests a refund, all departments should be aware.

Regularly review and adjust

The SaaS model involves regular interactions with customers. Review and adjust how you recognise revenue in light of customer behaviors, market shifts, and internal changes to maintain accuracy.

Prepare for contingencies

Building a plan to address potential disruptions – such as industry shifts, economic downturns, and global crises – can help a SaaS company adjust its revenue recognition practices if and when such events occur.

How Stripe can help SaaS businesses with revenue recognition

Stripe Revenue Recognition is a comprehensive solution for high-growth businesses. As your business scales, revenue recognition becomes more challenging and time-consuming. Revenue Recognition can automate all your accrual accounting needs, recording your transactions, billing terms, and revenue – and generating reports that comply with accrual accounting. This automation allows you to focus on your business’s core operations.

And as financials become more complicated when you’re dealing with upgrades, downgrades, refunds, and disputes, Stripe can automate the process of recording these revenue changes – ensuring that you have audit-ready financial statements that offer a thorough view of your business operations.

Here’s a detailed breakdown of what Stripe Revenue Recognition offers.

Holistic view of your earnings

  • Consolidation is key: Stripe’s Revenue Recognition feature shows you all your Stripe transactions and terms, including subscriptions, invoices, and individual payment transactions.
  • Data integration: If your revenue stream also includes non-Stripe sources, you can import that data to Stripe Revenue Recognition for one consolidated Dashboard that logs all revenue, fulfilment schedules, and service terms in one place – giving you a true picture of your financial health.

Streamlined reporting

  • Automated dashboards: Stripe automates the accounting reports process, creating instantly available accounting reports featuring detailed tables, charts, and journal entries compliant with standards such as ASC 606 and IFRS 15.
  • Revenue waterfall: A revenue waterfall is a detailed monthly breakdown that displays both booked and recognised revenue by month, which allows you to easily visualise changes over time.

Custom features

  • Tailored revenue rules: Stripe allows you to create and automate custom rules for recognising revenue based on your specific accounting practices and needs.
  • Flexible accounting protocols: With Stripe, you can handle a variety of revenue types effortlessly, whether you need to exclude passthrough fees, manage tax recognition schedules, or open and close accounting periods to make historical adjustments.

Real-time audit preparedness

  • Instant traceability: Stripe can make it easier to prepare for audits. Trace any revenue amount from any report in Revenue Recognition back to its root, whether that’s a specific customer or one-time transaction.

Beyond its dedicated Revenue Recognition solution, Stripe’s broader suite of financial tools and services can also help simplify the complexities of revenue recognition for businesses. Here’s where this can help:

Subscription billing

Stripe’s subscription billing service automates recurring billing cycles and can adjust to different pricing models, pricing changes, and customer upgrades – reducing the burden on accounting departments.

Automated invoicing and billing

Stripe offers automated invoicing and billing features that speed up the billing process and ensure error-free reports. These features can be customised according to your business’s billing practices.

Integration with accounting software

Businesses can integrate Stripe with several types of accounting software, allowing for automated data transfer. This reduces manual data entry and enables easier tracking of revenue figures over time.

Scalable financial architecture

Stripe’s platform can scale with your business, providing more advanced features when you need them. This adaptability allowed the revenue recognition process to remain consistent and manageable even as business operations expand.

Learn more about revenue recognition with Stripe.

The content in this article is for general information and education purposes only and should not be construed as legal or tax advice. Stripe does not warrant or guarantee the accuracy, completeness, adequacy, or currency of the information in the article. You should seek the advice of a competent lawyer or accountant licensed to practise in your jurisdiction for advice on your particular situation.

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Revenue Recognition

Revenue Recognition

Automate and configure revenue reports to simplify compliance with IFRS 15 and ASC 606 revenue recognition standards.

Revenue Recognition docs

Automate your accrual accounting process with Stripe Revenue Recognition.