Software is one of the fastest-growing industries in the world. As we move into a digital-based world, software as a service (SaaS) becomes more prevalent and profitable. For that reason, SaaS startups need to have the right accounting system in place from day one.
Startup founders often don’t prioritize accounting when getting their business up and running. They’re more focused on creating a great product and building an all-star team. But the sooner startup business leaders consider their accounting options, the less stress (and financial mess!) they will have to deal with in the future.
What Is SaaS Accounting?
SaaS accounting is a type of accounting specifically designed for software-as-a-service companies. This type of accounting takes into account the recurring revenue and subscription model of SaaS companies and provides financial statements specific to this type of business.
Why Is Reliable Accounting Important for SaaS Companies?
SAAS accounting is essential for any SaaS company because it provides accurate financial statements and insight into its operations to help make business decisions. Without accurate financial statements, making informed decisions about the company's direction would be difficult. For a fast-growing SaaS startup, access to this information can make or break the company's future.
Along with the functional benefits of good accounting, having your startup financials in order streamlines the process of raising venture capital funds or preparing your business for an exit. If your startup does not have clear, reliable financial records and up-to-date financial statements (profit and loss, or income statement, balance sheet, and cash flow statement), you may have a hard time raising capital, delay the fundraising due diligence process, or take a hit on your earnings in the event of an exit.
Additionally, state and federal tax regulations require accurate financial records. Maintaining these accounting helps prevent unintentional tax violations and surprise tax bills. Plus, keeping organized financial records helps maximize your startup taxes and R&D tax credits.
What Makes Accounting For SaaS Companies Different?
Revenue tracking is the most notable difference in SaaS accounting because of the subscription model used by SaaS businesses. SaaS customers pay subscription and add-on services fees, which require routine “maintenance” as customers upgrade, downgrade, or opt-in/out of different services.
SaaS businesses also use different accounting tools — like subscription management software and recurring billing platforms — which demand other skills and knowledge of best practices than a traditional startup or small business accounting.
Key Elements of SaaS Accounting
The differences between regular accounting and SaaS accounting are clear. So solutions for SaaS accounting should include the following elements to truly benefit a startup.
Cash vs. Accrual Accounting
Many startups start by tracking their finances using cash basis accounting. Cash accounting counts revenue as you receive cash and subtracts costs from that. This method is easy to use, simple to maintain, and suitable for small businesses or those with little inventory or customer base, but not recommended for SaaS businesses.
Accrual basis accounting doesn’t count revenue until you earn it, regardless of how much cash is on hand. Even though this method of accounting is more complicated, it’s better for large businesses and SaaS companies with subscription-based income. Plus, investors and government regulators may require your business finances to follow accrual accounting, so it’s not a bad idea to get ahead of these mandates.
Read our blog on cash basis vs. accrual basis accounting to learn more.
GAAP-Compliant Financial Management
Generally Accepted Accounting Principles, or GAAP, is a set of accounting rules, guidelines, and regulations to standardize business accounting methods across industries. GAAP exists to create transparency and consistency in financial reporting from one organization to the next.
While startups are not required to follow GAAP accounting principles, there are benefits to SaaS startups doing so from an early stage.
Because GAAP requires organized, consistent, and comparable financials, your forecasting financial modeling and analysis are more accurate and reliable. For SaaS businesses, which rely heavily on financial projections to inform important business investments and decisions, working with accurate and up-to-date financials is crucial.
Furthermore, investors, bankers, and auditors will use GAAP to evaluate your company’s finances. If your business seeks an investment, having this in place will save time and effort restating financial information during these cycles.
SaaS-Specific Financial Reporting and Metrics
1. Financial Statements
When following GAAP guidelines, there are three required financial statements every SaaS startup (or any business) should generate monthly:
- Profit & Loss (P&L) or Income Statement — Summarizes the revenues, costs, and expenses from a specified time period. Learn more about how to read a profit and loss statement here.
- Balance Sheet — Provides a snapshot of a company’s assets, liabilities, and equity; things owned and owed by the company.
- Cash Flow Statement — Shows incoming and outgoing cash movements, typically every month, in much more detail than a P&L statement.
Your number of bookings paints a picture of the revenue you expect to earn over a period of time, based on customer commitments; it looks at the value of a contract ahead of the payment completion.
Bookings are an important metric for SaaS businesses to understand the success of their sales efforts and potential revenue growth.
Billings are the actual amounts billed to customers. This figure is the actual amount you plan to collect from customers and represents the money owed to your company.
4. Revenue and Revenue Recognition
Revenue is the total income generated by a business's primary operations, typically the sales of goods or services, and represents the business’s total earnings or profit.
Revenue recognition is the accrual accounting principle that specifies how and when you can record your business’s sales and non-operating income as revenue. It requires businesses to classify pre-payments for services as liabilities called deferred revenue or unearned revenue and only earn the payment and recognize it as revenue once you’ve provided the customer with the service promised.
SaaS revenue recognition can be tricky to understand. For example, imagine a 1-year subscription. The customer paid upfront, but you don’t count the entire payment as revenue yet; this is cash categorized as deferred or unearned revenue. At the end of each month, after the customer consumes your service, your accountant will apply the portion of cash your business earned during the one-month period from deferred revenue to revenue.
5. MRR & ARR
Subscription-based services accumulate recurring revenue, which businesses typically measure with two SaaS metrics: monthly recurring revenue (MRR) and annual recurring revenue (ARR).
Both are measurements of your predictable revenue stream over a period of time. Businesses typically calculate their MRR and then multiply that figure by 12 to find their ARR. MRR should reflect:
- Recurring revenue from all customers
- Upgrades and downgrades
- Customer churn, or lost revenue
6. SaaS KPIs
KPIs (key performance indicators) give you the best picture of your company's overall performance. Which key financial metrics you track depend on your business, but there are five types of startup KPIs that all SaaS companies should track:
- Top of Funnel KPIs
- Revenue KPIs
- Unit Economics KPIs
- Product/Market fit KPIs
- Financial KPIs
When Does a SaaS Startup Need a Bookkeeping and Accounting System?
We recommend that all companies set up an accounting solution on day one, along with a bank account. You never know when your SaaS startup’s growth will take off, and you won’t regret having a trusted accounting system to help guide and support your business through these exciting (and complex!) times.
The Easiest Way to Manage Your SaaS Startup’s Accounting
Zeni is a full-service finance firm that provides bookkeeping, accounting, tax, and CFO services for startups. Our team of finance experts has deep experience working with SaaS businesses (Zeni itself is a SaaS business!) and brings 100+ years of experience to your startup’s bookkeeping and accounting system.
Whether you’re looking for a service that manages your every financial function (bill pay and invoicing included!), a senior finance expert to put together budgets and projections, or advice on filing your annual tax return, Zeni’s complete solution has you covered.
Advanced bookkeeping practices are the basis of what Zeni does and come in all our service plans. Our customers tell us they prefer Zeni to other startup bookkeeping solutions because they get the following benefits:
- Tech-powered efficiency — We use artificial intelligence and machine learning to complete your bookkeeping daily to GAAP standards and manage every bookkeeping and accounting task quickly and accurately.
- A responsive team of experts — You get a single point of contact for all your queries, so there’s no back-and-forth around finding the right person to speak with. We’ll assign your request to a team member with the appropriate expertise so you get an informed answer fast. Plus, you have 24/7 access to a finance dashboard and finance concierge.
- Comprehensive advice — Our team draws on decades of experience working with technology and SaaS businesses to give detailed answers to your questions. We’ll tell you the pros, cons, and best practices for your business to support your strategic decision-making process.
- A predictable monthly fee—We’re a SaaS business too, which means Zeni charges a monthly fee based on your expenses for all your bookkeeping.
- Instant finance insights — There is no need to wait for your bookkeeping service to deliver financial statements or respond with the metrics you need: You can instantly access up-to-date financial data on the Zeni Dashboard.
- A complete range of services — As your business grows, our team can continue to offer the additional finance support you need, including complex accounting, CFO-level guidance, and yearly tax returns (including R&D tax credit).
From one founder to another, let us help you navigate the world of SaaS startup bookkeeping.