What is deferred revenue?
You have deferred revenue when you receive payment for goods services that you have not yet delivered or completed.
Simply put:
Deferred revenue = invoicing > revenue
If you use accrual accounting and only recognise earned revenue, you would record prepayments as a liability on your balance sheet.
Tracking performance obligations
You also need to track your performance obligations to decide when to recognise your deferred revenue.
For example, your promised goods and services, such as the right to use your software to accomplish a task (payroll, expenses, social, etc).
Performance obligations are explicitly stated in your contract and may include something not stated but common in your business processes.
This makes it important to know and track stated promises your business practices.
Deferred revenue and revenue recognition
Many industries may have deferred revenue. Bottom line (no pun intended), they all must meet the same UK GAAP and IFRS 15 revenue recognition requirements.
For example, if you have a subscription-based business model, or a software as a service (SaaS) business, you likely have a variety of subscription or usage billing scenarios and therefore a complex revenue recognition schedule.
Many SaaS companies choose to automate their revenue recognition process to properly record deferred revenue to:
- Meet IFRS 15 requirements
- Ensure billing and invoicing are automatically updated with contract changes
- Keep their SaaS metrics reflecting real-time data.
Professional services organisations may also have deferred revenue. Unless your business strictly contracts on time and materials, you may need to account for deferred revenue.
If you bill for a project, and are yet to fully complete the work, you have deferred revenue.
If your business uses pre-payments, managed services, subscriptions and even fix-fee and milestone invoicing, you may have to account for deferred revenue and ensure you comply with IFRS 15.
Tracking may involve a deferred revenue waterfall.
It reconciles your deferred revenue account balance on your balance sheet and provides a forecast of your expected revenue stream in the future.
You can use accounting software to help you automate revenue recognition, properly record deferred revenue, and navigate other accounting and financial management requirements.
