The Business of Software … as a Service
Customers are looking for an easier way to acquire technology. Instead of large payments up front and on delivery, customers increasingly want to mortgage the cost of the technology over a series of monthly payments or simply rent capacity. This takes a huge burden off capital budgets. It also provides a much more flexible and more appropriate financial arrangement for customers.
Fees can be determined not only by the technology itself but by how it is used, which is what really matters to the customer. The base monthly payment can be adjusted by usage levels so the relationship is much easier to scale up and down according to business requirements. Budgeting, paying bills, and controlling the technology are all substantially easier for the customer. In addition, because of the more attractive financing, ROI can often be achieved more quickly.
Even though we’re primarily talking about B to B relationships, the economic gap between SaaS and traditional models makes it a very powerful market force. For a good lesson on what is happening in software industry today, look no further than the telecom industry. Innovation and market share are a matter of how services are sold. Rollover minutes, off peak pricing, free weekends, family and friends plans, these offerings are all simple for customers to understand because they are based on how the service is used. Bringing them to market required a financial infrastructure capable of supporting new billing and revenue requirements. Companies that made the transitions first got the biggest market share advantages.
The Path to Market Goes Through Finance
When you sell software as a service you are essentially bundling a whole set of products and services with support and other customer entitlements into a single financial arrangement. Contracts become more intricate with tiered pricing strategies that differ by customer, product and consumption levels. This triggers a number of technical accounting rules that make revenue accounting very complex.
Billing capabilities must also become more sophisticated. Services have to be added to the bill upon completion, support has to be tracked against the commitment level. Usage items must be billed in arrears while subscriptions are billed in advance—on the same invoice. Making sure revenue is being optimized while all this is going on requires the ability to monitor vast amounts of transaction activity and quickly find meaningful insights.
The crux of the issue is integrating contract terms into all the downstream financial workflows from order entry to billing, metering, renewals, revenue and expense accounting, and financial forecasting. Many existing financial systems are not equipped to support these demands and there is a risk of having spreadsheets crop up like weeds around the core system. This is one of the key things CEOs are concerned about today—how many spreadsheets did it take to produce the financial data they are being asked to sign off on? Ideally the answer is none.
The New Performance Metric—Future Revenue
In order to better forecast future performance CEOs are asking for more details on the whole revenue chain from bookings to backlogs, billing, and revenue recognition. Some financial reporting capabilities that will be essential to success include:
Reporting in all of these areas is required to measure the success of your SaaS initiative and to support the ongoing strategic decisions that will need to be made. In particular, analyzing how efficiently revenue goes from deferred accounts onto financial statements is emerging as an effective tool for finding operational problems as well as keeping revenue recognition practices in compliance with complicated accounting rules. Not only will these reporting capabilities help you manage for success, these are the metrics your board and financial analysts will be looking for to evaluate your SaaS business.
The Complexity Tradeoff
This is no small undertaking for most companies, especially if separate systems for contracts, orders, billing, and accounting are entrenched, or if spreadsheets have proliferated. The key thing for CEOs to keep in mind is not to underestimate the operational issues that the addition of a SaaS model is going to demand, particularly in the finance department.
Robert O’Connor is president and CEO of Softrax, a leading provider of enterprise billing and revenue management systems. He can be contacted by email at email@example.com.