SAAS Models in the eyes of the Company and its CFO - Part 2/3
- Haim Ratzabi
- Nov 3, 2022
- 5 min read
In this article I want to highlight the expenses side essence in SAAS for selling of Software examine the commissions on sales discounts and rebate. As this issue is highly complicated and being handle in ASC 606, I will highlight some major points and will attached more in-depth articles in related for this issue in the end of this article.
Sales Commissions
What are Sales Commissions?
Sales commissions refer to compensation paid for making a sale. They are usually a percentage of the sale that is then added on top of one’s base salary.
Treatment of SaaS Commission Costs
In general, as explained in SaaS revenue recognition with ASC 606, for businesses based on recurring revenue, complying with the new accounting principle ASC 606 (IFRS 15) means recognizing revenue from customer contracts along with the costs incurred to obtain and fulfill them. (for example, a sales commission).
ASC 340 revenue recognition standard covers amortization of assets arising from costs to obtain or fulfill a contract, and impairment of assets arising from those costs. This implies that businesses must now capitalize commission costs and amortize those costs over a period of time (i.e) the life of the sales contract to match the timing of the revenue – a complicated, high-stakes task.
The Impact of ASC 606 and ASC 340-40 on SaaS Sales Commissions
With regards to sales compensation, ASC 606 requires finance to amortize commission expense for individual sales reps over the length of contracts. Simply put, you’d have to recognize your sales incentives over the period of service depending upon the customer contract and estimated lifetime. This completely alters the way you recognize commission expenses which is one of the biggest portions of CAC (Customer Acquisition Cost) for your SaaS business.
Treatment of SaaS Commission Costs under ASC 606 and ASC 340-40
The adoption of ASC 606 and ASC 340-40 in your accounting activities starts with identifying the costs that can be accounted for when incurred and which ones need to be capitalized.
Generally, the below-mentioned costs can be capitalized and amortized:
Sales commissions
One-time SPIFs (sales performance incentive fund) /bonuses related to sales
Fringe benefits related to the sales commission, SPIF, and bonus payouts
Generally, the below-mentioned costs can be capitalized and amortized:
Source: everstage
Discount Accounting - in a Glance
In step four of the revenue model, entities are required to allocate the transaction price to the performance obligations in the contract. The transaction price is generally allocated according to the relative standalone selling price method. The standard includes two exceptions to the relative standalone selling price method: allocating discounts and allocating variable consideration.
In many transactions, goods or services are bundled together and sold at a lower price than the respective standalone selling prices of the items. These discounts can be a variable amount based on the customer meeting specific requirements or a fixed amount that the customer receives for entering into the contract.
Variable Discounts
The staff’s view is that ASC 606-10-32-41 establishes a hierarchy for allocating variable consideration such that any form of variable consideration, including variable discounts, is subject to the guidance on allocating variable consideration. If, under the variable consideration guidance, the variable discount does not meet the criteria necessary to be allocated to a specific performance obligation in the contract, then the discount is subject to the guidance on allocating discounts.
Fixed Discounts
Generally, discounts are allocated to all the performance obligations in the contract using the relative standalone selling price method unless there is observable evidence that the discount relates to only one or more, but not all, of the performance obligations. The discount should be allocated to one or more, but not all, of the performance obligations if the following criteria are met:
All goods or services are regularly sold separately or as part of bundles on a stand-alone basis.
The entity also regularly sells the separately sold good, service, or bundle at a discount.
The normal discount of the separately sold good, service, or bundle is substantially the same as the overall discount offered in the contract.
Discounts should be allocated to the transaction price before applying the residual approach.
What is a Rebate?
A rebate is a type of incentive that’s typically valid for a specific period of time. A rebate is an agreement to return a portion of the purchase price to the buyer after the sale has been made.
Although many people want to think of a rebate as a discount (because theoretically, it is), it is different from a discount because it is retroactive, meaning it occurs after the purchase. Discounts, on the other hand, are taken at the time of purchase.
What are Supplier and Vendor Rebates?
Vendors and suppliers can offer rebates. If you’re a business that purchases from a supplier who offers a rebate, you can expect the supplier to provide the rebate directly to the customer. For your rebates accounting entry, you’ll adjust your business’ expenses and cost of goods sold.
Supplier rebates can come in many forms. For example, a supplier can offer a volume rebate to businesses that purchase a certain number of goods in a set period of time. Or, they may offer a target percentage rebate in the case the business reaches a target percentage increase in the number of goods sold.
How to Account for Vendor Rebates?
Rebate accounting for vendor rebates is often a point of question for many accounting teams. Since there are many different hands involved, we will clarify what’s expected.
ASC 705-20 offers accounting guidance for this matter. Here’s what it states:
Cash consideration that’s received for a vendor is considered a reduction in the price of the vendor’s products or services
However, there are exceptions to this rule, including:
The sales incentives can be in the form of rebates to end-buyers when the consideration received from the manufacturer is for sales incentives to the customers (as opposed to the vendor).
The consideration received represents a reduction of costs and need to be specific, incremental, and identifiable in the case that the consideration is received for the reimbursement of costs incurred by sellers for the vendor’s products.
How to Account for Customer Rebates?
Customer rebates are sales rebates that go to the customer after the purchase. Rebates are given to the customer after the purchase, which is equivalent to cash value. If a rebate is offered at the register, then you can consider it to be a coupon instead of a rebate as it discounts the purchase price.
Rebates accounting for customer rebates depends on who grants the rebate. When suppliers pay for the rebate to the customer, then it’s to be considered a reduction of the cost of goods sold (COGS).
The customer receives the money back from the manufacturer, whereas the vendor selling the product can consider it a reduction of the purchase price. Depending on the product, the reduction may also affect the depreciation schedule (for example, if a car manufacturer offers a rebate).
What is Vendor Rebates Accounting Treatment?
Vendor rebates exist so that companies can better manage their supplier rebate programs. The rebate will specify the terms in which the company qualifies for a rebate if they reach the target sales of a product or service. A third party provides the rebate to the business that is offering services or goods to another business or customer.
In terms of accounting, the service provider must recognize the rebate as income. An example makes this easier to understand. Let’s say a utility company is offering a rebate to customers who install solar panels. The company installing the solar panels is paid by the customer to perform the service.
The company will offer the customer this discounted rate (equal to the rebate) upfront. Then, the utility company will pay the installation company the rebate. In this case, that rebate is considered income because it’s the missing amount that the customer would’ve paid for the service that was performed.
Below are the links for the in-depth articles:
Comments