Due to the changing nature of certain subscription revenue models, adhering to revenue recognition standards, ASC 606 and IFRS 15 have become more challenging over time for SaaS and other subscription companies. One of the more complex requirements for many subscription companies is the fourth step of ASC 606/IFRS 15’s five-step model: Allocating revenue based on standalone selling price (SSP).
Subscription companies may offer multiple products and services under a bundled package.
Read on to know how can companies efficiently define SSP to allocate revenue to performance obligations. We’ll deep dive into what SSP is and the top three methods that companies can leverage when developing SSP.
What is a Standalone Selling Price?
When offering multiple products and services as part of a subscription/SaaS business model, companies are required to allocate the arrangement fee to each separate and distinct performance obligation based upon a standalone selling price (SSP) methodology.
SSP is the price that a vendor would charge if the product or service was offered separately. While it may not sound complex, it considers multiple data points, judgments and estimates to arrive at an appropriate, initial SSP. Additionally, developing SSP is not a one-time exercise. It requires continuous re-evaluation based on changing facts and circumstances such as changes in product pricing and the competitive landscape.
Why is SSP Needed to Comply With ASC 606/IFRS 15?
Step four of the five-step framework for revenue recognition requires companies to allocate the total transaction price to each performance obligation based on its relative standalone selling price. SSP can be based upon standalone sales, the sale of similar goods or services, a contractually stated price, or a list price. If an SSP is not readily observable, it can be estimated by using one of these three methods: adjusted market assessment, expected cost plus margin, or a residual approach.
Three Methods for Developing Standalone Selling Price Under ASC 606/IFRS 15
The revenue recognition standard outlines the following three primary methods for estimating standalone selling price when SSP is not readily observable.
Adjusted Market Assessment
The adjusted market assessment approach considers the market in which the services are sold and estimates the price that a customer of that market would be willing to pay. This is a solid option when a competitor offers similar goods or services that can be used as a basis for the analysis. When using this method, be sure to consider a range of competitors, as well as every form of service they price out in comparison to each customization of service your subscription company performs.
Expected Cost Plus Margin
This market assessment approach considers the forecasted costs of fulfilling the performance obligation and adds a margin to the amount the market would be willing to pay. Circumstances where using this approach would be useful include:
- The demand for the good or service is unknown and information on the demand for similar goods or services from competitors is not available
- The direct fulfillment costs are clearly identifiable
The residual approach allows a company that has observable SSPs for one or more of their performance obligations to allocate the remaining transaction price to other goods and services that do not have observable SSPs. This approach involves deducting the sum of the SSPs of other goods and services from the total transaction price to find the residual estimated SSP for the remaining goods or services. An entity may use the residual method only if one of the following criteria is met:
- The company provides the same goods or services to different customers for a wide range of prices, making the selling prices highly variable
- The company has not established a price for that good or service and it has not been sold previously on a standalone basis
Before using the residual method, companies should first try to use the other two methods, adjusted market assessment and expected cost plus margin, and evaluate the reasonableness of the estimated SSPs under these methods.
Automate Standalone Selling Price Under GAAP and Scale Your Business With Chargebee RevRec
Not only is the process of determining standalone selling price challenging for subscription and SaaS companies due to data dependencies, but performing this task manually in spreadsheets is inefficient and prone to errors. An end-to-end GAAP-compliant revenue recognition solution like Chargebee RevRec offers flexible features such as a standalone selling price process that is designed to scale with growing subscription companies with complex revenue models. Avoid costly errors and be assured that your business has a predictable, auditable, GAAP-compliant process with Chargebee RevRec.
Take a deeper dive into standalone selling prices for subscription companies and download our whitepaper “Demystifying Stand-Alone Selling Price for SaaS Companies.”