A SaaS company booked a $240K annual contract as revenue the month it was signed. Their P&L looked amazing. Their bank account told a different story — the customer was paying monthly, so they’d received $20K. When investors looked at the books, they didn’t see a fast-growing startup. They saw a company that didn’t understand basic accounting.
The Core Principle
Revenue is recognized when it’s earned, not when cash is received. For a 12-month subscription paid annually upfront, you recognize 1/12 each month and carry the rest as deferred revenue (a liability on your balance sheet). This is ASC 606 in a nutshell.
Common Mistakes
Recognizing Annual Contracts Upfront
The most common mistake. If you sell a $120K annual subscription, you don’t have $120K in revenue the day the contract is signed. You have $10K in revenue and $110K in deferred revenue. Booking it all upfront inflates your P&L and misrepresents your financial position.
Ignoring Professional Services Bundling
If your $120K contract includes $20K of implementation services, those services may need to be recognized differently from the subscription. Implementation revenue is typically recognized as services are delivered, while subscription revenue is recognized ratably over the term.
Mixing Cash and Accrual Basis
Some companies use accrual for revenue but cash for expenses (or vice versa). Pick one — accrual basis is the standard for any company that’s fundraising or planning to. Mixing methods makes your financials unreliable.
Why It Matters for Fundraising
Investors look at revenue trends, margins, and growth rates. If your revenue recognition is wrong, all of those metrics are wrong. During due diligence, improper revenue recognition is one of the most common findings — and one of the most damaging. It signals either incompetence or intent to mislead, neither of which helps your valuation.
Do This Monday
- Review how your company recognizes revenue. Is it on a cash basis or accrual basis? If cash, plan the conversion to accrual.
- Check for deferred revenue on your balance sheet. If you have multi-month contracts and no deferred revenue, something is wrong.
- Ask your accountant to walk you through your revenue recognition policy. If they can’t explain it clearly, that’s a red flag.
If you want help getting revenue recognition right, book a free consultation →