Operating a SaaS company can be challenging due to the various revenue types that need careful monitoring. One often overlooked aspect is revenue backlog, which refers to the total unrecognized revenue throughout a specific subscription agreement. This concept holds significant importance in accounting, particularly for subscription businesses.
The Concept of Revenue Backlog
Revenue backlog represents the amount of revenue expected from a subscription contract that is yet to be fully realized. Simply put, it's the money customers have committed to paying for a future service. Although the cash hasn't been received, it's a dependable source of anticipated income.
While revenue backlogs can occur in non-subscription business models, they are more prevalent in subscription-based models and SaaS. In B2B SaaS, revenue backlog can arise from various sources, including one-off sales, recurring revenue, investments, and one-time service provisions.
Why is Revenue Backlog Important?
Your backlog contents offer a snapshot of your success in acquiring and delivering new business. Keeping an eye on the backlog enables you to track the interplay between new delivery timelines, backlog size, and business volumes. This monitoring proves particularly valuable for SaaS and subscription enterprises.
Take, for instance, the revenue backlog's ability to showcase the total worth of both ongoing and new subscriptions. It not only sheds light on fulfillment timelines but also empowers you to forecast future revenue. In cases where you have multi-year subscriptions, leveraging the backlog allows you to project revenue well into the future.
Revenue Backlog: The Calculation
It is relatively easy to calculate revenue backlog:
Revenue Backlog = Total Contract Value (TCV) – Recognized Revenue
The calculation considers revenues committed by customers who haven't received an invoice yet as their contract is still ongoing. For a more comprehensive outlook, you can also factor in the future value of pending and active subscriptions to project your revenue.
For an authentic representation of the company's financial health and future revenue prospects, it's essential to incorporate items into the backlog only when there is substantial evidence indicating that both the customer and the company will meet their respective obligations.
What is the Difference Between Revenue Backlog and Deferred Revenue?
People often mix up revenue backlog with deferred revenue, but there's a key distinction. Deferred revenue arises from upfront payments for products or services that are yet to be provided, whereas revenue backlog pertains to contracted services awaiting payment.
A notable difference is that revenue backlog isn't a GAAP reporting number, unlike deferred revenue, which is. However, keeping tabs on both backlog and deferred revenue offers the most comprehensive insight into your organization's financial picture.
Revenue Backlog- Why Does It Happen?
Revenue backlogs in SaaS businesses can stem from various factors, and understanding these reasons is crucial for strategic planning and effective financial management. Here are some common causes of revenue backlogs in SaaS businesses:
Delayed Payment Cycles
SaaS contracts often entail periodic payments ( annually, quarterly, or monthly). When customers postpone their payments, it can result in a backlog in revenue recognition, impacting cash flow.
Complex Billing Structures
SaaS billing can be intricate, especially with add-ons, usage-based charges, or tiered pricing models. Errors or mismanagement in these structures can cause delays in revenue recognition, leading to backlogs.
Unanticipated Customer Churn
The churn rate can considerably influence backlog. Frequent exits from contracts before completion can distort the TCV calculated from active contracts, misrepresenting the actual state of the business.
Market Dynamics
External factors like competitive pressures, shifts in market demand, or economic downturns can affect customer retention and acquisition, introducing unpredictability in revenue streams.
Deferred Revenue Recognition
SaaS accounting principles often mandate revenue to be recognized over the service delivery period. This incremental recognition from long-term contracts can result in a backlog concerning total contract value versus recognized revenue.
Addressing these issues typically involves enhancing customer service, improving financial management practices, investing in robust accounting and billing systems, and optimizing sales strategies.
What Are the Best Ways to Decrease Revenue Backlog?
The simplest and most obvious way to reduce your backlog is by providing the service as promised. Here are some effective practices for cutting down revenue backlogs in a SaaS business:
- Make sure your billing process is efficient for timely and accurate invoicing.
- Offer multiple payment options to enhance collection efforts.
- Reduce payment delays and billing disputes by fine-tuning your pricing strategy.
- Utilize analytics for precise revenue forecasting.
- Track and analyze customer feedback. This helps pinpoint areas for improvement.
- Explore cross-selling, offering complementary services, or upselling to broaden revenue sources.
Gain Strategic Growth through Revenue Backlog Management
The goal is to establish a customer-focused and streamlined process that not only reduces revenue backlogs but also promotes long-term business growth and sustainability.
Some B2B SaaS companies underestimate the significance of revenue backlog calculations, and this oversight can be a significant mistake. The disparity between your revenue backlog and revenue target reveals the sales threshold that must be achieved in new deals.
