Revenue Recognition Considerations for SaaS Companies

© 2009-2016 Leeyo Software, Inc. CONFIDENTIAL AND PROPRIETARY - FOR INTERNAL USE ONLY - ALL RIGHTS RESERVED
www.leeyo.com
www.leeyo.com
Revenue Recognition Considerations for
SaaS Companies
Jagan Reddy – CEO & Founder of Leeyo
Watch the webinar at:
https://goo.gl/Zg1SO1

Introduction
Vibhor Chandra
Senior Manager
Financial Accounting Advisory Services
Ernst & Young
Vibhor.chandra@ey.com
Senior Manager based in San Jose in EY’s Accounting Advisory Practice. Vibhor works collaboratively with client teams to effectively work through
change, whether caused by a transaction or regulatory change. Advises engagement teams and technology companies on SEC reporting
compliance, financial statement disclosure and technical accounting matters.
His technical expertise in revenue recognition, especially with respect to software and life science companies, is extensive; he has helped instruct
courses on software revenue recognition principles and accounting for new product launch revenue recognition and gross vs. net in life sciences within
his office and has helped several non-audit clients with revenue recognition issues.
Vibhor has diverse client experience working in a variety of sectors including technology, life sciences and agro pharma. Vibhor also has experience in
audit including Sarbanes-Oxley and SEC filings for large-scale corporate clients.
Vibhor is a Chartered Accountant from India, has a Bachelors in Commerce and is also a Certified Public Accountant in California State.
Disclaimer:
The views expressed in this presentation are solely my own and not the views of the Firm.

Overview
Why should you care about SaaS ?
Don’t Ask - What is SaaS …Ask - Why SaaS ?
Cloud/SaaS
deals in 2015
were the largest
in volume.
Interestingly,
most of the
acquirers were
NOT traditional
software
companies but
hardware and
other technology
companies

New revenue recognition impact
Good news ?
OVERALL – REVENUE RECOGNITION MODEL REMAINS THE SAME WITH MINOR CHANGES
The new standard, by way of an example, states that a license from which the customer can benefit only in
conjunction with a related service –e.g., an online hosting service provided by the entity –is not distinct from
the hosting service.
The Basis of conclusions para alludes to the fact that license may not be distinct where the customer does not
take control of the license and therefore, cannot benefit from the license on its own without the hosting service.
Depending on the specific facts and circumstances of an arrangement, it is possible that for some
arrangements that are hosting services under current U.S. GAAP, the software license is not distinct from the
hosting services under the new standard.

Why should you care about delivery/deployment models ?
Software - as - a - Service (SaaS)
Platform - as - a - Service (PaaS)
Infrastructure - as - a - Service (IaaS)
PublicPublicPublic
HybridHybridHybrid
PrivatePrivatePrivate
CloudDeploymentmodels
Service delivery models
Deployment models could
affect accounting if software
license is transferred to the
customer and customer can
derive essential or significant
functionality
Service delivery models
could indicate essentiality of
the professional services
including number of services
/ elements that needs to be
separated

Contract modifications
Modifications are accounted for differently, depending on the attributes of the remaining
goods and/or services
Occurs when parties approve a change in scope, price or both
Does it add goods or services that are distinct
from those already transferred ?
Is the modification approved ?
Account for as part of the original contract
(cumulative catch-up adjustment)
Are the additional goods or services priced
commensurate with their stand-alone selling
prices ?
Do not account for contract modification until
approved
Account for as
separate contract
(prospective)
Account for as
termination of existing
contract and creation of
new contract
(prospective)
No
Yes
No
Yes
Yes No
Points to consider
A contract modification
that only affects the
transaction price is either
accounted for
prospectively or on a
cumulative catch-up
basis. It is accounted for
prospectively if the
remaining goods or
services are distinct.
No retrospective
adjustment required.

Consumption based or usage based structures
Although consideration paid for the use of software in many SaaS arrangements is typically a fixed monthly,
quarterly, or annual subscription, certain arrangements can be usage-based (e.g., fees are charged per
transaction processed though a software application).
Current accounting - In a multiple-element SaaS arrangement, revenue must be fixed and determinable in
accordance with ASC 605-25-30-1 before it is allocated to each identified unit of accounting. As a result,
revenue from SaaS arrangements that charge the customer on a usage basis is generally not allocated to
each unit of accounting until it is realized and considered fixed or determinable.
New standard – Revenues from software licenses that have sales- or usage-based fee structures will only be
recognized as the subsequent sales or usage occurs. It is an exception provided under variable consideration
guidance for sales-based or usage based royalties which can be extended to structures where royalty is
derived from license of IP or license of IP is predominant in the arrangement.

Service Level agreements
• SLAs are commonly used by SaaS companies that sell services that are critical to the customer's
operations, where the customer cannot afford to have product failures, service outages, or service
• interruptions.
• The terms and conditions of the SLA determine the accounting model. For example, an SLA requiring an
entity to repair equipment to restore it to original specified production levels could be a warranty. SLAs that
are not warranties and could result in payments to a customer are variable consideration.
• Currently, Diversity exists in industry– some companies defer the full penalty amount. The new standard will
required SaaS companies to estimate SLA reserve using expected value or most likely approach.

Costs to obtain a contract
• Current guidance allows capitalizing or expensing certain costs to obtain a contract – accounting policy
election
• While a lot of SaaS companies would like to capitalize sales commission costs, a recent survey found 2/3rd
of SaaS companies expense sales commission cost as incurred.
• Primarily because it requires complex tracking system
• The new standard requires capitalization of costs to obtain a contract that are:
- Are incremental, due only to obtaining a contract;
- Relate directly to a contract; and
- Are expected to be recovered.
will be capitalized.
• Cost deferral election is not longer allowed.
• An entity can elect to expense costs of obtaining a contract if the amortization period is one year or less

Upfront fees
New guidance – SaaS vendors would be required to recognize up-front fees over a period extending beyond the initial
contract period only if the customer has the option to renew the SaaS contract and the renewal option provides the
customer with a material right. The new standard’s requirement to incorporate only renewal options that represent
material rights into their estimation of a customer relationship period may not always be consistent with current GAAP,
which may take into account renewal options that are not necessarily considered material rights.
Set-up/
Implementation
Initial term Renewal term
Customer life
Types of Professional Services
• Under the current standard, If the
professional service fees do not have
standalone value and represent
instead, a nonrefundable upfront
fees, then the contractual value of
those fees are recognized as
revenue over the customer
relationship period.
Points to consider
Depending upon the cloud offering i.e. IaaS,
PaaS or SaaS, the nature and number of
professional services vary - generally PaaS
and IaaS provide greater opportunity to provide
additional services.
Do any of these services have standalone value, if No, recognize over time ?

Concluding thoughts
Cloud
Services
Recognized ratably over the term of the
services in accordance with SAB 104
Software &
maintenan
ce
Recognized in accordance with 985-605
Profession
al services
Recognized as delivered in accordance with
SEC guidance (SAB 104)
Hardware Recognized as shipped in accordance with
SEC guidance (SAB 104)
Upfront
fees
Recognized over the customer relationship
period
Recognize each of the elements based on the relevant literature
CURRENT GUIDANCE NEW GUIDANCE
Recognized ratably over the term of the services
in accordance with ASC 606
Recognized in accordance with ASC 606
Recognized as delivered in accordance with
ASC 606
Recognized as shipped in accordance with ASC
606
Recognized over the contract period if renewal
right is not a material right

EY | Assurance | Tax | Transactions | Advisory
About EY
EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we
deliver help build trust and confidence in the capital markets and in economies the world over. We develop
outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical
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EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global
Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by
guarantee, does not provide services to clients. For more information about our organization, please visit
ey.com.
Ernst & Young LLP is a client-serving member firm of Ernst & Young Global Limited operating in the US.
About EY’s Advisory Services
Improving business performance while managing risk is an increasingly complex business challenge. Whether
your focus is on broad business transformation or more specifically on achieving growth, optimizing or protecting
your business having the right advisors on your side can make all the difference. Our 30,000 advisory
professionals form one of the broadest global advisory networks of any professional organization, delivering
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are committed to measuring the gains and identifying where your strategy and change initiatives are delivering
the value your business needs.
© 2016 Ernst & Young LLP.
All Rights Reserved.
BSC no. 1311-1162097
ED None
ey.com

ASC 606 & IFRS 15 – Ready!
13

Works Well in Your Financial Systems
14

Why RevPro, What we do, Where we fit ?
15
Lead /
Opportunity
Quotes Orders Fulfillment Billing
Revenue
Recognition
Cash
Collection
Quote to Cash process
• Competitive landscape complicates pricing and product offering
• Revenue recognition is not simple anymore
• Revenue rules / guidance are changing soon
• Billing is not the only source of data for revenue recognition
• Why Leeyo is the leader in this space ?
• We solve complex revenue problems
• We keep customers in compliance with rules
• RevPro is developed by revenue people

Subscription economy & Revenue complexity
16
SaaS Company Pain Points
• Separation of billing and revenue. Rev. Rec. independent of billing
• Frequent upgrades / downgrades
• Usage based revenue recognition with payments in advance/ overages
• Amortization of upfront fees
• Multiple element arrangements requiring allocations/services with standalone value
• Reporting specific requirements MRR, ARR
• New revenue rules adds more complexity to SaaS businesses

RevPro – Comprehensive RevRec Automation
17

www.leeyo.com
+ Call: (408) 988-5800
+ Website: http://Leeyo.com
+ Email: sales@leeyo.com
/Company/Leeyo-Software
@LeeyoSoftware
LeeyoSoftware

Revenue Recognition Considerations for SaaS Companies

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