By: Cris Wendt
Software license revenue recognition is the one accounting process that piques the interest of most executives in software and high-tech device companies that rely on license keys to enable different functions. Revenue recognition is the process by which a company can account for revenue associated with a sale as part of the P&L. The process appears fairly easy at first blush – book and process the order, ship the software and associated license rights, and finally "recognize the revenue" associated with shipment. The goal for most software vendors is to recognize software as soon as possible after the sale has occurred in order to meet quarterly guidance and maintain market valuation (stock price).
For a little backdrop, in the United States, the rules for software revenue recognition are generally defined in the American Institute of Certified Public Accountants (AICPA) Statement of Position SOP 97-2 and, for publicly traded companies, in SEC Staff Accounting Bulletin: No. 101 - Revenue Recognition in Financial Statements.
The SEC, paraphrasing the AICPA, says:
- Persuasive Evidence of an Agreement Exists
- Delivery Has Occurred
- The Fee is Fixed or Determinable
- Collectability is Probable
However, for most software and high-tech device companies that deliver "license keys", the second item is often the most problematic. The presence of the "hockey stick" (the name of the icon given to a graph representing the late surge in sales orders at the end of each fiscal period), the internal processes involved with processing and shipping a large number orders in a short timeframe can result in some of those orders being processed past the boundary of a fiscal period. The result is that a company can miss meeting earnings expectations, and, suffer a setback in stock prices. If the company tries to ignore the requirements for revenue recognition and state the revenue too soon, the result can be legal and financial loss. The irony is that the company performed well enough to meet quarterly, but inefficient processes prevented sufficient completion of processes in a timely fashion.
The best way around these issues and to accelerate revenue recognition is to follow a few basic principles which combine technology and process:
Use Electronic Delivery (Electronic Software Download or ESD) as your primary vehicle for the delivery of digital goods, including software and license keys. An extremely important reason for using electronic delivery is that you really don't have to deliver the software license or license keys to recognize revenue; you simply have to provide access to the software or license keys. This provision can only be met by an electronic software download facility. As SOP 97-2 also states: For software that is delivered electronically, the delivery criterion is considered to have been met when the customer either (a) takes possession of the software via a download (that is, when the customer takes possession of the electronic data on its hardware), or (b) has been provided with access codes that allow the customer to take immediate possession of the software on its hardware pursuant to an agreement or purchase order for the software.
Integrate your ERP or Finance Systems with the software download facility. This means that once an order is processed in an ERP, it can be electronically transmitted to the software download facility where the customer or channel partner can be immediately notified of access to the software.
Deploy a Self-Serve Portal to allow customers to access software and license keys: Once a customer is notified that the contents of their order is available, the customer should be able to retrieve their software and license keys by providing information that was provided in the email, along with machine ID to generate license keys.
- Collect Email addresses, but not machine ID information at the time an order is placed: As part of your ordering processes, do collect email addresses for customers so that they can be notified that the content of their order is immediately available. Also, do not require that your customers provide machine ID information at the time the sales order is placed. Often this information is unavailable and will delay the sales process. Instead, have the customers provide machine ID information that is used to generate license keys at the time they retrieve the license keys.
If you follow the advice above, you will be minimizing your financial risk and have more capacity to handle higher sales volume at the end of the quarter. And more than likely, you'll have happier customers.
Read how Sybase Transforms Its Operations and Achieves Outstanding Customer Satisfaction Levels with Electronic Software Delivery.