Software as a service (SaaS) is taking the world by storm. Tech companies are opting for this business model because it is highly scalable and becomes very profitable when the right ingredients are put together. This guide will help you understand the basics when it comes to setting up SaaS accounting for your startup.
What’s different in accounting for SaaS businesses?
Monthly recurring revenue (MRR) is the key distinction when it comes to SaaS accounting. The subscription-based model allows users to customize their service with different features and add-ons. This requires regular upkeep to track the expansion, retraction, and churn of MRR.
Additionally, SaaS models use different accounting apps like subscription analytics with Chartmogul, billing with Stripe, and invoicing with Chargebee or Chargify which requires an accounting partner that understands these platforms and how they integrate with each other.
Why is timely accounting data important for SaaS companies?
In an age where data drives strategic business decisions, startups cannot wait to speak to their accounting firm only when it’s time to pay the taxman.
Regular check-ins with your accountant to go over financial performance such as profitability, revenue growth, or how much runway is available before financing is required. Investors offering term sheets will require timely financials and without a reliable accounting function that streamlines this process leads to fundraising delays. Once a startup reaches Series A, the board of directors will require quarterly board packages and additional tracking of KPIs and other financial and non-financial metrics.
When does a SaaS startup need a bookkeeper and accounting solutions?
From day one, it’s important to set up a robust accounting framework with an accounting partner that is tech-focused. We are partnered with Xero which is our go-to solution. Xero integrates with a multitude of apps that allows integrations to deliver strong and reliable data. The earlier you adopt a solution and a streamlined accounting process, the easier it becomes to make the right decisions at the right time.
How to set up an accounting system for a SaaS model?
This question could be an entire article of its own but we will summarize at high-level key elements.
First, choose an accounting solution, there are plenty of paid options like Xero and Quickbooks. If you’re bootstrapped, Wave is free. Our recommendation is Xero for its high customizability, smooth user interface, and integration capabilities. Additionally, most modern accounting solutions will offer direct connections to your banking platform to allow data to flow directly into the accounting software with minimal oversight.
Second, there are different accounting frameworks to choose from. Here in Canada, Canadian GAAP (Generally Accepted Accounting Principles) allows for two frameworks. The first is IFRS (International Financial Reporting Standards) and the second is ASPE (Accounting Standards for Private Enterprises).
Without going into detail, IFRS is generally used for public companies although adoption is allowed for private enterprises. If the ultimate goal is to IPO, adopting this early on could lead to cost savings in future if conversion from ASPE to IFRS is required. Most small to medium businesses adopt ASPE for its ease of use and generally lower cost to implement.
Furthermore, opt for accrual accounting vs cash accounting. The key difference here is that accrual accounting records revenues and expenses regardless of if cash was exchanged. For SaaS companies, this is important as invoicing and billing don't necessarily happen simultaneously and could lead to MRR discrepancies.
Another element to consider is deferred revenue for annual subscriptions. It’s critical to track deferred revenue to be compliant with accounting standards for the revenue recognition criteria. Revenue can only be recognized when it is earned, therefore unearned revenue becomes a liability for the business.
Third, set up an accounting framework that has a robust month-end process. This entails recording all transactions for the period, doing bank reconciliations, and gathering data from all supporting applications (billing, invoicing). The data is then summarized in the accounting platform which delivers financial statements on a timely basis.
Nex CPA is a boutique Canadian digital accounting firm that provides online accounting solutions by combining technology and forward-thinking businesses. Tailored for the modern entrepreneur, we provide an easy, automated and client-focused service so you can focus on working 'on' the business and not 'in' the business.
For more information, please contact us at firstname.lastname@example.org.