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Deferred revenue is an essential accounting practice for any scenario where a customer prepays for goods or services. Any team operating a subscription-based business needs to understand its nuances.  Whether you’re an established SaaS enterprise or migrating your business to a subscription-billing model, you must understand how to navigate complex revenue recognition while maintaining compliance with accounting standards. Deferred revenue is a critical piece of that puzzle, and this blog clarifies what it is and why it’s reported as a liability.

What is deferred revenue?

Deferred revenue refers to advance payments made by a customer for goods and services the company will provide in the future. It’s also known as unearned revenue; since the obligation has yet to be delivered, the payment hasn’t been ‘earned. Deferring revenue appropriately is a key component of revenue recognition for subscription billing.

When do you need to defer revenue?

Following US GAAP guidelines for accounting conservatism, companies must defer revenue anytime there is a delay between when the customer pays and when the obligation is fulfilled. If the good or service is then undelivered or cancelled, the company may owe the money back to the customer.

It’s best practice to recognize revenue as it’s earned and track customer behaviour with a customer aging report. When customers pay in advance, it’s particularly important to keep accurate reports of unearned revenue, so that your company does not invest or use more of its resources than are strictly available.

What is the difference between deferred revenue and accrued expenses?

Deferred revenue and accrued expenses both appear under liabilities on a company’s balance sheet. While deferred revenue refers to money that the business has received in advance of providing goods and services, accrued expenses are money the business owes for goods and services it has already received. One way to think of it is that the two are inverses of each other.

What types of businesses record deferred revenue?

Deferred revenue is commonly held by any business where customers pay in advance for goods and services. Popular examples of businesses with deferred revenue include:

Further reading: The complete guide to 8 SaaS pricing models to grow subscriptions 

Common sources of deferred revenue

Why is deferred revenue reported as a liability?

According to the US GAAP standards regarding revenue recognition, when customers pay for products or services in advance, companies must record the income as a liability on their balance sheet rather than revenue on their income statement. This accounting treatment demonstrates that the company still owes the customer and protects the company from overstating its value.

In the event that the order is cancelled or cannot be delivered according to the original plan (ex. natural disaster, supply chain shortages, bankruptcy), the company must repay the customer their prepayment. Revenue is also taxed in the same period that it’s recognized, so if there’s even a slight chance you’ll have to repay the customer, it’s best to defer the revenue until the goods/services are delivered.

Is deferred revenue recorded as a debit or credit on the balance sheet?

Deferred revenue is a liability until the products or services are delivered, so you will make an initial credit entry under current or long-term liability, depending on whether the sale is under twelve months. You will debit the sales account and credit the deferred revenue account as you earn the revenue.

This process may seem simple, but it can become complex when applied to recurring revenue. If you’re looking for more information, our blog also covers best practices for recognizing revenue under ASC 606 and IFRS 15 and has a special primer for SaaS companies on ASC 606.

Example | How to account for deferred revenue from an annual subscription

Assigning a specific adjustment account to track deferred revenue enables you to record unearned income as a liability and accurately recognize revenue as you fulfil the performance obligation(s) in your contract.

For this example, let’s assume that you’ve secured an annual subscription with a client at a flat rate of $18000. The client pays the full amount upfront; however, you cannot recognize the full $18000 until the service has been provided. You must evenly divide the total across one year, which is the duration of the contract, and recognize the revenue in increments.

For the first month, you recognize $1500 and defer the remaining $16500 to an adjustment account. For each month after that, you’ll credit the deferred revenue account and debit the sales account $1500.

Using an adjustment account for flat-rate annual subscription

Introducing Subscription Billing Suite

Complex revenue recognition is unavoidable in any business model that employs subscription billing, but it doesn’t have to be complicated. A robust subscription management solution like Subscription Billing Suite can simplify the process by automating deferred revenue and enabling you to remain compliant with accounting guidelines such as ASC 606 and IFRS 15. Your accounting team can focus less on repetitive, mundane tasks and redirect their attention to what matters.

 

Premium pricing strategies pair well with many of the common subscription billing models and are most often used to establish a perception of higher quality in the marketplace. Traditionally, luxury brands tend to opt for this pricing strategy; however, these days, it’s used in every industry to denote better quality services and products. SaaS companies that have built a solid brand reputation often use this pricing approach in the advanced tiers that offer access to the most features.

Those hoping to implement premium pricing will want to evaluate their market position and make an informed decision by weighing the pros and cons. This blog breaks down the advantages and disadvantages, offering examples of the strategy in action, so you can make an informed decision about whether it will work for you.

 

The advantages and disadvantages of premium pricing strategies

The pros

The cons

 

Check out our complete guide to subscription management

 

When should a brand consider premium pricing?

Premium pricing is best used where there is brand recognition, and a company has garnered a reputation for high quality in a specific market. Newer brands might start with lower pricing, implementing higher price points as reputation grows, and there’s a strong foundation of social clout, reviews, recommendations, and recognition. It may be premature to implement higher price points without first developing a demand for your products and services.

Premium pricing strategies can also be used effectively in tiered offerings to help increase the perceived value of more affordable tiers. It’s well-known in pricing psychology that many customers will gravitate towards mid-tiers, and higher price points on the final tier can make mid-level options more attractive. At the end of the day, choosing whether premium pricing is the way to go will require comprehensive market research, a close analysis of subscriber churn metrics, and a solid understanding of your costs. You can learn more about choosing the right strategy for your company here.

Before you implement premium pricing

 

Examples of successful premium pricing strategies by industry

Microsoft sets itself apart in the SaaS industry with Xbox Series X

The SaaS industry is a notoriously competitive market, but one in which Microsoft has built an incredible reputation. There’s no question that most of us can quickly recognize the brand. They offer numerous affordable options, and the level of service and quality associated with Microsoft means they can implement premium pricing on select services and products. For instance, Xbox Series X builds on Microsoft’s reputation, giving gamers access to the console they know and the games they’ve come to love at a premium monthly rate. Alternatively, users can buy the console outright, but they will not have access to the Xbox Game Pass.

Canada Goose synonymous with quality in the retail industry with premium pricing

The retail industry is a place where premium pricing is associated with high-quality brands. Canada Goose prices its coats above the average cost, confident in the reputation and recognition it’s built over the years. It’s an interesting example as many of the premium-priced retail brands are designer options, but the pricing here is based on the known warmth and durability of the products. These coats are everywhere in colder North American cities, with consumers happy to pay more for the perceived value.

Fairmont Hotels and Resorts use premium pricing to signal luxury in the hospitality industry

Nowhere does premium pricing come with higher expectations than in the hospitality industry. Brands like Fairmont invest in exceeding standards at every level of their offering. The entire experience caters to premium tastes, from luxury suites to fine dining. Customers expect to be whisked away from the real world into the lap of luxury.

 

Bolster your premium pricing strategy with a subscription billing solution

Successfully implementing premium pricing strategies will require flexibility in your accounting department. Teams may need to run multiple pricing experiments and require a subscription billing solution that can effectively handle the complexity of pricing models, billing frequencies, and deferral schedules. Get the basics right by investing in a solution that automates even the most complex billing schedules and empowers you to conduct as many pricing experiments as you like without causing unnecessary work for the accounting team.

MoxiWorks saves 80 days annually

Poor data management leads to messy, error-prone data and unreliable insights. Finance teams struggling with these issues wind up left in the dark, and businesses lose their advantage over competitors and are more likely to take actions that will hurt the bottom line.

Companies must maintain a high data management standard to ensure that leadership can adequately guide the company in making sound financial decisions and remain compliant with accounting and data protection regulations.

This blog will introduce you to ten best practices in data management for finance teams so that you can harness the power of data analytics.

Interested in a specific aspect of data management? Click on the best practice below to skip ahead. 

  1. Define your data management strategy and protocols
  2. Use data to build behavioural models and forecast outcomes
  3. Be selective in what you’re measuring
  4. Remember to account for data biases
  5. Establish access levels based on projects, job roles, and functions
  6. Back up your data and have a disaster recovery plan
  7. Prioritize data security
  8. Create a culture of compliance
  9. Curate an in-house team of data analysts
  10. Don’t keep your data in silos

1.) Define your data management strategy and protocols

It’s much easier to spot and correct problems early on with a well-structured framework for data management and analysis. To garner better insights, your organization must have clear workflows detailing how to handle data for each of the five steps of data analysis; data definition, collection, cleaning, analysis, and application.

The five-step process of data analysis

Below are some sample data management workflows covering the five steps of data analysis:

 

2.) Use data to build behavioural models and forecast outcomes

One of the most valuable applications of data is predictive analytics. This information is vital to creating an action plan for proactively responding to threats and opportunities. Companies can build customer behavioural models with today’s technologies and reliably predict future outcomes.

For example, say you want a good idea of when a customer will pay their due invoice. A robust data management system will enable your team to analyze past payment trends, compare them with other customers, and build a forecast model to determine when that customer will most likely pay their balance. By harnessing these insights, you can build reliable customer aging reports and inform dunning policies to maintain positive customer relationships and reduce involuntary churn.

3.) Be selective in what you’re measuring

You’ll gain reliable insights from nothing if you try to track everything. While it’s very tempting to maximize your usage of every available feature and collect every fragment of data, you’ll only burn through your resources and become too distracted to find information to answer your initial query.

After all, good data management is about enforcing the seven standards of reliable data:

 

This best practice is similar to the first step of data analysis, but you apply it to your entire data storage system. First, understand which metrics you want to track. Then, identify your search parameters and the variables that impact those metrics. After completing these steps, you can collect the necessary data to build your model.

4.) Remember to account for data biases

Beware of data biases! Bias is introduced to data when an error causes certain dataset elements to be over-weighted or overrepresented. Common examples of data biases include:

 

If leadership transitions from intuition-based to data-driven decision-making, they need clean data, or they could make a bad decision that harms the bottom line. Data analysts must note the different biases at each data management and analysis stage. Finance teams can even use AI and machine learning to help check data sets and flag potentially biased data to help raise awareness to leadership.

Common sources of bias in data analysis

5.) Establish access levels based on projects, job roles, and functions

A common problem with poor data management is that team members lack access to necessary data. Leadership may be unaware that certain information already exists because the data is hiding on their servers and make unwise decisions that could have easily been aided by data analytics.

Of course, that doesn’t mean that everyone at the company should always have access to your company’s financial information. The best course of action is to set up data classification protocols that restrict and grant data access based on projects, job roles, and functions. Another strategy is to implement dashboards that track custom company performance metrics and share them at company-wide meetings.

6.) Back up your data and have a disaster recovery plan

According to Veeam’s 2022 Data Protection Report, the average cost of downtime is $88,000 per hour. While it’s true that number is skewed by larger organizations, that doesn’t mean that it’s cheap inconvenience for small and medium businesses.

Data loss is a distressing, costly event with a plethora of ramifications. Human error, unexpected updates, damage to physical devices like servers, and cybersecurity attacks are all common causes of data breaches and data loss.

The best ways to prevent the more serious impacts of these events are frequently backing up data and having a disaster recovery plan (DRP). A DRP will help to keep business continuity while IT quickly recovers operations, mitigating disruption of product and service delivery.

Essentials of an IT disaster recovery plan

7.) Prioritize data security

Protecting your company’s data must be a top priority for all teams. Financial information is confidential, and a breach could result in reputational damage, lost opportunities, and regulatory fines. Strict security protocols are not optional, and any vendors or partners must adhere to the highest data protection standards.

Investing in scalable security tools that support secure sharing and encrypting data flow is essential. Look for SSL encryption, two-factor authentication, advanced firewalls, and automated notifications for new logins. Hosting security awareness training sessions at least once every six months will help your team stay vigilant.

8.) Create a culture of compliance

Another great way to protect your data is to build a culture of compliance within your company so finance is always audit-ready. Depending on your industry, you’ll also have to adhere to specific data protection regulations. For example, healthcare organizations must have strong security measures to protect personal information and remain HIPAA compliant.

Check in with your risk and security officers about new technology with autonomous data capabilities that can support compliance. An invaluable data management tool is data discovery, a feature that reviews, identifies, and tracks data chains necessary for multijurisdictional compliance.

However you decide to tackle this issue, no software alone can completely guarantee compliance. Your policies must supplement your technologies to ensure that your team and tools are sustainable and keep pace with rapidly evolving accounting standards.

9.) Curate an in-house team of data analysts

Spreadsheets quickly lose their appropriateness as the volume and variability of data increase. Real-time reporting and data mining can only truly be achieved with sophisticated business analytics tools and features with AI capabilities.

More importantly, you’ll need a dedicated team of data analysts trained on these latest technologies to enable prompt and accurate insights. Upskilling your existing talent on the finance team will help them become better data managers and result in better forecasting for cash flows, tax liabilities, and revenue growth.

10.) Above all, don’t keep your data in silos

A data silo is an archive controlled by a single entity or is otherwise isolated from the rest of the organization. These repositories crop up in many ways, from files to emails to entire servers, but all share the same trait of hiding potentially vital information.

To gain a full view of your business metrics and understand your financial health at a deep level, your data must be accessible, and your models must include data from different sources. Unstructured, decentralized, and unshared data often cause problems and undermine the rest of the best practices written about in this blog.

Problems caused by data silos

If you can only implement one change to your existing data management—abolish the data silos. Whether you need to integrate a legacy system or clean excess raw data, obtaining an accessible and unified data set is worth it.

Further resources for improved data management

If you’re looking for more information about data management or have a specific question in mind, feel free to browse the resources listed below or contact our team. We’d love to hear from you.

Automate transactions | financial consolidation guide

To succeed in the hospitality industry, companies must continue to exceed customer expectations while simultaneously executing plans for rigorous expansion. However, this is only made more difficult by the host of modern challenges businesses must face. From stressed-out and understaffed teams to budget constraints and poor data management, finance departments are being pushed to the limit where even high performers are struggling to keep up.

That is why many companies are in the process of undergoing a financial transformation. Implementing technology to automate and streamline operations is vital to supporting staff members in delivering quality customer service.

Modern challenges hospitality faces

Within the hospitality industry, financial transformation consists of adopting an agile mindset and upgrading to a cloud-based financial management system to streamline workflows, enhance productivity, and impact the bottom line. Often companies will implement a comprehensive enterprise resource planning system (ERP) to optimize operations and centralize crucial information.

By transforming financial management processes companywide, leadership can access strategic forecasting and achieve even the most ambitious expansion plans. Download our whitepaper for an in-depth exploration into how financial transformation can enable long-term, sustainable growth within the hospitality industry, complete with a modern-day case study, checklists, and statistics.

The CFO’s playbook for hospitality transformation

With the advent of SaaS migration taking the world by storm, it’s no surprise that many companies are asking questions about handling recurring payments better. Many accounting teams are struggling to keep up with the increased usage of subscription billing models, failing to put in place the software and best practices they need to handle the sheer volume of invoices generated by offering a variety of billing cycles.

The management of recurring payments requires a firm grounding in compliance standards, the automation of time-sensitive and repetitive tasks, and a solid understanding of revenue recognition and deferral schedules. It’s a lot to master. The complexity of introducing a new payment strategy is simply part of keeping up with evolving customer expectations.

The growth of SaaS migration and billing options across industries means that few companies can afford not to put the right tools and best practices in place. Below you’ll learn nine best practices to help you manage recurring payments.

 

The 9 best practices to help you manage recurring payments

 

1. Understand the nuances of revenue recognition for recurring billing

Modern billing models can introduce different revenue streams at varying frequencies. Some customers may pay for a year upfront, requiring you to defer the recognition of that revenue until you earn it. In contrast, others may spread the cost of their subscription over time so that you earn and recognize revenue in synch.

Flexibility is the key to success. Chances are that the more options you offer, the more users you will be able to sign up. However, it’s worth noting that introducing various options can strain the accounting department. Brief the entire team on revenue recognition for subscription billing to optimize their efforts and reduce manual labour.

 

2. Invest in security to protect sensitive customer data and payment information

With the rise of cyber-attacks, companies cannot underestimate the importance of protecting customers’ information (particularly regarding payments and billing) from any threat. Nobody is immune, so it would be remiss not to invest in security measures enabling you to collect and store billing information for recurring payments while maintaining your data integrity.

Many savvy customers will check the ratings of the payment portals and systems you implement, so be sure to consider the reputation of your partners. Partnering with established brands that customers recognize makes it easier for them to entrust their payment information to your system. Users will differ in their prioritization of this measure, but many will never sign up if the early stages of the payment cycle do not feel secure.

recurring payments and deferral account case study

 

3. Establish transparent payment processes to increase customer confidence

Have you ever signed up for a subscription service, only to find yourself wondering about a few things later? Maybe you aren’t sure about the service and want to double-check the cancellation terms, or you’re not entirely sure how refunds work, or perhaps you need to update your credit card information. Chances are the payment policies you ticked when you signed up covered all this, but you didn’t have time to read through them thoroughly.

It’s best practice to make payment terms and processes transparent on your website. The reality of today’s world is that there aren’t always enough customer agents on hand to answer all our customers’ questions. Building out knowledge bases, particularly around critical information like payments, will reduce the workload on your team by making most of the information customers require transparent. Measures like this help build customer confidence because they don’t have to suffer long wait times or engage with a defective chatbot.

4. Invest in clear communication at every stage of the billing cycle

Often, there’s a disconnect when communicating effectively with our customers concerning minor changes. With so much automation at the heart of SaaS migration best practices, it can sometimes be easy to forget the human aspect of things.

Significant shifts will occur as you hone your SaaS pricing strategies and respond to outside forces such as inflation. Every time there’s any billing or payment process change, you must invest in clearly communicating this to your user base. Inform them of tweaks regardless of how “inconsequential” you think these might be, for instance, security improvements, cancellation policy updates, new billing options, or a change of payment processor.

 

5. Reduce revenue leakage with a solid dunning strategy

Failed payments are a fact of doing business. Whether the case is expired cards or a technical error, it still impacts your bottom line. Particularly with subscriptions, it’s critical to recoup as much revenue leakage as possible to bolster monthly recurring revenue (MRR). An effective dunning strategy enables your team to protect against revenue losses more effectively.

Modern billing requires effective dunning management to boost revenue and prevent involuntary subscriber churn. Solid strategies should include pre-dunning communications strategies to remind customers that upcoming payments might fail due to expiring cards. Check out this guide to mastering dunning management for a thorough breakdown of how it prevents revenue leakage and helps bolster your subscriber base against churn.

When is pre-dunning appropriate?

 

6. Monitor subscriber churn metrics with real-time reporting

Effective reporting is a crucial component of successfully collecting recurring payments. With extensive user bases, it’s easy to lose track of subscriber churn, so companies should invest in software that automatically generates reports that reflect key churn metrics.

These numbers are essential for understanding growth and financial health and can be valuable tools for customer acquisition and retention. It’s possible but time-consuming to report on these metrics manually, although, for scaling companies, it may not be feasible to keep track this way. Are you seeing a sharp increase in churns after your free trial? Get curious and find out why. Chances are the churn rate is pointing to something your team has the power to fix.

 

7. Allow customers to choose their preferred billing frequency and day

One of the most significant improvements most companies need to make to their recurring payments is increasing the flexibility around billing frequency. Users will often be subject to different restrictions in terms of cash flow. For instance, smaller companies or individuals might struggle to pay an annual fee upfront, preferring to spread the payment over the year. More prominent companies might work with a fixed quarterly or yearly budget and choose to pay upfront.

The point is that your customers not only like but expect to choose. Offering flexible payment terms and frequencies allows customers to decide which day their payments occur. It is as much about reducing failed payments as it is about increasing customer satisfaction. It is also one of the best ways to ensure customers have enough funds available when the bill arrives.

 

8. Monitor deferred vs earned revenue to comply with GAAP accounting guidelines

Compliance with GAAP is one of the main concerns of most accountants. The introduction of ASC 606 and IFRS 15 concerning revenue recognition for recurring revenue may make some companies reluctant to take the plunge. Critical to achieving success is keeping track of earned and deferred revenue, and plenty of guidelines are available to ease your team into the transition. With transparent, auditable reporting in place, compliance doesn’t have to be complicated. Check out this guide to ASC 606 for a primer on the expectations for recurring payments.  

 

9. Master recurring payments with subscription management software

It’s almost impossible to keep pace with modern billing without implementing subscription management software. Even the most agile teams will struggle to meet month ends if they stick to older accounting processes and systems. Your software should allow customers to pause payments easily, update billing information or upgrade to a different tier of services. All this functionality must integrate with the backend to update accounts automatically without causing unnecessary confusion.

Look for solutions that speak to the nuances of frequent recurring billing. Make sure you invest in software that enables dunning, streamlined reporting, flexibility around payment frequency, and automation of time-consuming processes that slow your team down. Check out the essential features to look for in subscription management software here.

 

The complete guide to subscription management