Accountants at software companies have a tough job. They have to care about things like debits verse credits, capital leases verse operating leases, and accruals verse cash accounting. But the biggest problem for accountants is revenue recognition. Most people outside the accounting department find the concept complex and daunting. So today, to help everyone understand revenue recognition slightly better, we have prepared a short example demystifying some of the confusion for people who are not accountants. And for the accountants reading this, at the end of the post, we discuss the revenue recognition advantages of NetSuite over QuickBooks.
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Let’s consider a software company that sells a “software as a service” subscription to a customer. In addition to the subscription, they also sell some implementation services. The total cost of the contract was $100,000. In addition, because of the terms of the contract, the total amount will be paid up front.
Within the sales department, there is celebration. They just closed on a $100,000 sale! This is awesome. On the other hand, the accounting department is depressed. According to GAAP revenue recognition rules, services have not actually been delivered yet so revenue has to be deferred until it is delivered. To make matters worse, the company currently uses QuickBooks as their financial management software and the software does not have built in revenue recognition processes.
An enterprising young accountant comes up with a solution. He proposes that they track the revenue schedule within a spreadsheet. A spreadsheet is designed showing the subscription start date, end date, and the total amount. It is further broken down separating the subscription from the implementation services. Using some formula wizardry, the spreadsheet automatically calculates the amount of revenue that can be booked each month. A second schedule is calculated tracking the milestones for each deliverable and the percentage of revenue that can be booked when a milestone is delivered. At month end close, the accountants entered revenue earned within QuickBooks based on the information from their spreadsheet.
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With the spreadsheet in place, accounting can be a little happy about the $100,000 sale. However, more orders start to role in. The spreadsheet starts to become really complex as more orders are tracked and more revenue is deferred. In addition, the company delivered such outstanding services that most customers requested even more services at the mid-term. The additional services required adjustments to the spreadsheets and to the QuickBooks journal entry.
After about 50 customers, the spreadsheets become unmanageable. There are too many interconnected schedules and links to keep track of. So a second even more enterprising young accountant offers another suggestion; why not purchase the NetSuite Advanced revenue recognition module?
As management begins to consider his suggestion, they notice some things. First off, migrating from QuickBooks to NetSuite is relatively simple thanks to the built in templates that are modeled based on your sales. Second, NetSuite offers data import tools that help facilitate the uploading of current account balances. Last, they noticed that within NetSuite, the revenue recognition schedule is automated, meaning that they do not have to make 50 manual journal entries anymore. The booking is done for them.
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In addition to these changes, NetSuite also offers users the ability to forecast revenue, change or update schedules without worrying about the interconnected cells, and use system reports to gain an understanding of the company’s revenue streams. None of this can be done in QuickBooks.
Although this example is hypothetical, it happens every day at hundreds of software companies. For growing software companies, there are many revenue recognition advantages of NetSuite over QuickBooks. If you would like to learn more about these advantages, please contact us.
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