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As we mentioned yesterday, most software startups take at least a few shortcuts in the beginning, especially when it comes to GAAP compliance. Most software startups recognize the need to produce some kind of financial statements, but since it is not their primary focus, they usually end up with whatever is the cheapest solution. For most, this is QuickBooks. However, for startups planning an exit strategy and seeking to communication their financial position with vendors, customers, and investors, QuickBooks may not be the best solution. Before settling with the cheapest solution, founders need to ask themselves – Is QuickBooks GAAP compliant?
To understand whether QuickBooks is a proper solution for a software startup, we first need to determine what it means to be GAAP compliant. This means that a company produces financial statements that comply with the historical cost principal, the matching principal, the revenue recognition principal, and the full disclosure principal. For software companies, QuickBooks provides the basic functionality to address all of the principals listed, except the revenue recognition principle.
As you are aware, software companies are held to strict rules when it comes to revenue recognition. For the most part, software companies need to be concerned with the following GAAP rules:
- SAB 104: For software that does not require significant modification or customization, revenue can be recognized when evidence of an arrangement exists, delivery has occurred, the fee is determinable, and collectability is probable.
- ASC 605: When handling multiple-element arrangements, each element needs to be separated and the SAB 104 criteria has to be met for each separate elements. If the elements are connected and cannot be separated, then revenue needs to be deferred until all elements have been delivered.
- Sop 97-2: For each separate element in a multi-element delivery, the company has to prove that a fair market price has been established. This is done by showing vender specific evidence (VSOE) of fair value through the bell curve or residual method.
The above mentioned accounting rules can be extremely complex. Tracking and calculating these rules requires a robust system that simplifies or even automates the revenue recognition process.
When it comes to QuickBooks, the revenue recognition principal was not a core concern during development. QuickBooks was designed as a book keeping system. Its appeal to startup companies is that it is affordable and provides the basic needs. However, for software startups that want to grow and expand, QuickBooks is not the solution.
Software companies that are focused on growth need an accounting system that supports their business. They need a solution that at least provides general ledger, accounts receivable, and accounts payable functionality. In addition, they may want to consider revenue recognition automation, GAAP compliant financial statements, centralized database, and Sarbanes Oxley compliance.
Is QuickBooks GAAP compliant? Not on its own. To be GAAP compliant, QuickBooks needs the help of additional spreadsheets or other systems. In the long run, this means additional expense in terms of other systems and additional manpower to properly track sales. Although QuickBooks may appear to be the cheaper solution in the beginning, it will cost more in the end.
Bi101 has spent years helping software companies comply with GAAP and have full visibility into their finances. Our Modelworks solution, built on top of NetSuite, offers a single version of the truth that companies need to stay compliant and make the right decisions. Interested in real-time visibility and less headaches? We’re here to get you started on the journey with a free trial of NetSuite and much more.