Assumptions and Accounting Decisions
Model Documentation
Model Assumptions
Some of the model’s assumptions are below. If you need more clarification or a way to approximate a change in these assumptions, please email us.
Setup fees (if any) charged to customers are always paid, and are not refunded if the customer churns before going live.
Customers pay a monthly or annual amount for each period (assuming successful completion of the initial Setup phase, i.e. once they’re onboarded). There are no inputs for multi-year deals.
Commissions are paid (on SaaS product and Ongoing Professional Services amounts) when the customer is invoiced. The model assumes no commission for setup fees.
Upgrades/downgrades do not change the contract length and contracts retain their original renewal date (i.e. 12 months from original start date).
Cancellations (customer churn) of remaining contracts can occur mid-contract, the consequences of which are determined by the Cancellation Policy input (found on the “Funnel Buttom” tab). The majority of SaaS companies allow for this, as they often don’t enforce the contract terms. Note that a cancellation of future service (and thus invoices) is different from a refund of prior services/product use.
Accounting decisions set in the model
Revenue is recognized when a customer successfully completes the Setup phase. According to accounting standards, revenue is recognized as the company satisfies a performance obligation (e.g. when the client has access to the platform). See this Grant Thornton guide on ASC 606 and ASC 340-40 for further info.
The treatment of setup fees charged to clients (if any) depends on the type of setup/onboarding:
– Normal set-up/activation means this setup revenue is not recognized in the setup phase, bur rather recognized over the same time period that the recurring revenue is recognized over
– Detailed implementation means this setup revenue is recognized over the course of the setup phase only (i.e. a shorter period)
See this Grant Thornton guide on ASC 606 and ASC 340-40 for further info.
Depending on the choice in the refunds for cancellations input, refunds related to cancellations of remaining contracts will reduce non-recurring revenue.
Cancellable:
– refund issued for unused months
– setup revenue (if any) recognized either during setup phase or in customer’s first live month
Non-cancellable and penalty enforced:
– refund not issued for unused months
– setup revenue (if any) recognized either during setup phase or over contract term
Non-cancellable but penalty is not enforced:
– refund issued for unused months
– setup revenue (if any) recognized either during setup phase or over contract term
Commissions are expensed when they are paid out to sales reps. They are included in the Sales and marketing line item, as they do not directly enable the satisfaction of a contract’s performance obligations.
See this Grant Thornton guide on ASC 606 and ASC 340-40 for further info.
While this model complies with US GAAP in most ways, its main purpose is still capturing the economic reality of the business for use in decision-making.
There’s a strong argument to be made that capitalizing software development costs (like payroll) weakens the interpretability of financial statements for managerial purposes. This article takes a strong stance on the topic.
Since each company is different and many private companies do not capitalize software costs in their accounting systems, it would be overly complicated for the model to try to reconstruct a starting B/S balance for capitalized costs. This is especially true given that the model most likely won’t have the company’s entire history recorded in it, which would be required to understand what makes up the balance (i.e. what’s been capitalized and what’s already been amortized).
Also see this PDF for public SaaS companies that choose not to capitalize software development costs and their reasons why in the footnotes of the 10-Ks.
If you choose to capitalize, here are some links that can help.
Note that if you choose to capitalize you’d have to tag the B/S balance as something like “Other Current Assets”, and amortize that balance each month. A corresponding expense for this amortization will also have to be recorded in the “Other” expense bucket.
Tableau 10K:
“Software development costs associated with the development of new products, enhancements of existing products and quality assurance activities consist of employee, consulting and other external personnel costs. The costs incurred internally from the research and development (“R&D”) of computer software products are charged to expense until technological feasibility has been established for the product. Once technological feasibility is established, all software costs are capitalized until the product is available for release to customers. Judgment is required in determining when technological feasibility of a product is established. To date, we have determined that technological feasibility of software products is reached shortly before the products are released. Costs incurred after establishment of technological feasibility have not been material, and therefore, we have expensed all R&D costs as they were incurred. “
Income Statement line item allocations
FlowCog lets you choose the mapping of your accounting system accounts to Income Statement line items, below are our recommendations.
Line item mapping recommendation: Subscription Revenue – SaaS Product
Line item mapping recommendation: Subscription Revenue – Ongoing Professional Services
Line item mapping recommendation: Non-Subscription revenue
Line item mapping recommendation: Cost of revenue – SaaS Product
Line item mapping recommendation: Cost of revenue – Ongoing Professional Services
Line item mapping recommendation: Select the “Allocate based on department payroll” option. This method will automatically allocate the account (from your accounting system) to each P&L line item based on the % of salaries allocated to each P&L line item (found on the “Other Inputs” tab in the “Financial Statement Classification” section.
Line item mapping recommendation: Select the “Allocate based on department payroll” option. This method will automatically allocate the account (from your accounting system) to each P&L line item based on the % of salaries allocated to each P&L line item (found on the “Other Inputs” tab in the “Financial Statement Classification” section.
Line item mapping recommendation: Sales and marketing. This is based on how public SaaS companies categorize sales commissions.
Line item mapping recommendation: General and administrative
Line item mapping recommendation: Allocate to each P&L Line Item expense.
Line item mapping recommendation: Allocate based on department payroll.
Line item mapping recommendation: Allocate based on department payroll.
Line item mapping recommendation: Sales and marketing.
Line item mapping recommendation: Allocate to each P&L Line Item expense.
Line item mapping recommendation: Allocate to each P&L Line Item expense.
Line item mapping recommendation: General and administrative.
Line item mapping recommendation: General and administrative.
Line item mapping recommendation: Allocate to each P&L Line Item expense.
Line item mapping recommendation: General and administrative.
Line item mapping recommendation: General and administrative.
Line item mapping recommendation: General and administrative.