- 1. SaaS Revenue Recognition Principles How a SaaS Company
Should Treat Setup / Implementation Fees Introduction In 2010, when
the new revenue standards1 were issued by the FASB, Armanino
McKenna surveyed the early adopting public SaaS companies to see if
implementation/setup fees were being recognized as delivered,
rather than deferred, as allowed under the new rules. In order to
be eligible for separation and recognition independent of the SaaS
subscription fees, the implementation/setup fees must meet the GAAP
definition of stand-alone value. The new revenue rules relaxed the
definition considerably, stating the item(s) have value on a
standalone basis if they are sold separately by any vendor or the
customer could resell the delivered item(s) on a standalone basis.
The rules go on to state that there does not have to be an
observable market for the item(s), and later use the language, any
competitors largely interchangeable products or services in
standalone sales to similarly situated customers. 1 ASU 2009-13,
Codified in ASC 605-25 1Saas Revenue Recognition Principles: How a
SaaS Company Should Treat Setup/Implementation Fees
2. Initial SurveyOur initial survey of limited sample of early
adopters (eight) found split results; four of theSaaS companies
determined the professional services (delivered at the time of
implemen-tation) had stand-alone value and therefore recognized
these fees immediately, while theremaining four continued to defer
these fees.At the time of the initial survey, we cautioned against
recognizing implementation/setupfees immediately, stating that
although such practice met the newly written FASB rules,doing so
potentially conflicted with the economic reality of the
transaction: it is unlikelythat a SaaS customer would buy
implementation/setup services without the related SaaSsubscription.
Furthermore, the new FASB rules do not supersede the SECs specific
guid-ance on setup fees (issued in 2003).APPLICABLE SEC RULEThe
terms, conditions, and amounts of these fees typically are
negotiated in con-junction with the pricing of all the elements of
the arrangement, and the customerwould ascribe a significantly
lower, and perhaps no, value to elements ostensibly as-sociated
with the up-front fee in the absence of the registrants performance
of othercontract elements. The fact that the registrants do not
sell the initial services sepa-rately (i. e., without the
registrants continuing involvement) supports the staffs view.The
staff believes that the customers are purchasing the on-going
rights, products, orservices being provided through the registrants
continuing involvement. Further, thestaff believes that the
earnings process is completed by performing under the termsof the
arrangements, not simply by originating a revenue-generating
arrangement.22SAB TOPIC 13.A, paragraph 3.f Q1 Q Response, sequence
171 2Saas Revenue Recognition Principles: How a SaaS Company Should
Treat Setup/Implementation Fees 3. Second SurveyNow that a wider
array of SaaS companies have adopted the new FASB revenue
rules(January 1, 2011 mandatory adoption date for calendar year
companies), we decided itwould be valuable to conduct a second
survey to determine how practice has evolvedamong these companies.
Additionally, the survey was expanded to ask a second question:What
is the amortization period for such deferred revenues?The second
survey results identified 47 public SaaS companies, with 25
disclosing theydefer implementation/setup fees. This rate of
deferral, 53%, was consistent with the 50%found in the initial
survey. Interestingly, we found that 10 of the SaaS companies
disclosedthey defer and recognize fees over the initial contract
period, while 15 recognize such de-ferred fees over the expected
duration of the customer relationship, sometimes extendingto 12
years.APPLICABLE SEC RULE The period over which the deferred
upfront fee should be recognized should extend beyond the initial
contractual period if the relationship with the customer is
expected to extend beyond the initial term and the customer
continues to benefit from the payment of the upfront fee (e.g., if
subsequent renewals do not include a similar fee). In addition,
customers may pay a higher upfront fee for additional services,
custom features, or functionality. Upon renewal, the customers
would continue to benefit from these incremental services,
features, or functionality. Therefore, it would be ap- propriate to
recognize the upfront fees over the expected customer relationship
term rather than the initial term.33ASC 605-10-S99, A3f, ques.
1/SAB Topic 13A paragraph 3f, ques. 1 3Saas Revenue Recognition
Principles: How a SaaS Company Should Treat Setup/Implementation
Fees 4. Best Practice RecommendationsThe SEC rules offer a number
of examples illustrating treatment for setup fees,but interpreting
the examples and appropriately applying the rules against a
con-tinually evolving SaaS companys facts and circumstances is not
an easy task.Given the diversity in practice among public SaaS
companies, it is importantthat both private and public SaaS
companies read and understand the FASB andSEC rules governing
implementation/setup fees. An appropriate policy with
fullydocumented rationale for the approach adopted by a company is
the best practice.As always, we suggest you consult with an
accounting professional and adoptpractices that meet the words and
spirit of the rules and mirror the economic sub-stance of the
transaction as viewed through the eyes of the customer.A complete
copy of the public company SaaS Revenue RecognitionDatabase can be
obtained by answering five quick question
at:http://www.surveymonkey.com/s/SaaSRevenueView a sample of the
survey database on the following page.Matt Perreault is a Partner
with Armanino McKenna, a Top 40 CPA and Consult-ing firm, and is a
recognized subject matter expert in the areas of SaaS andsoftware
revenue recognition, equity accounting and public company
reportingrules. Contact Matt at [email protected] or (925)
790-2755.Ricardo D. Martinez is a Senior Manager with Armanino
McKenna and has over12 years of experience conducting audit and
advisory services predominantly inthe technology industry including
seminconductor, software, internet and on- Armanino McKenna line
educational segments. Contact Ricardo at [email protected]
or50 W. San Fernando St.(925) 790-2600 x7010Suite 600 San Jose, CA
951134www.amllp.com Saas Revenue Recognition Principles: How a SaaS
Company Should Treat Setup/Implementation Fees