Revenue RecognitionApril 13, 2023
Remaining Performance Obligations (RPO) is an essential metric for SaaS companies. Understanding the remaining performance obligations helps to provide visibility into the company’s future revenue and gauge momentum. RPO represents the total value of contracted services that still need to be delivered to customers. As such, it reflects the revenue the company can expect to recognize in the future.
SaaS companies typically operate on a subscription-based model where customers pay for access to software over a period of time. In this case, as per ASC 606 compliance, revenue recognition is spread out over the duration of the subscription rather than being recognized upfront, as in traditional software sales. As a result, RPO becomes a key metric for SaaS companies to understand how much revenue they have committed to delivering in the future. Analyzing the year-over-year RPO growth rate indicates revenue growth, which is heavily scrutinized by investors, shareholders, and the board of directors at SaaS companies. A recent Acceleration Economy article discusses and compares the RPO of four cloud companies in Oracle, SAP, ServiceNow Soar on Key RPO Metrics but Salesforce Drops.:
#1 Oracle: total RPO of $61.2 billion, up 68%
For the 12 months ended Nov. 30, CEO Safra Catz said Oracle’s RPO balance was up 68% (constant currency) to $61.2 billion “due to strong cloud bookings” and the acquisition of Cerner. Of that $61.2 billion, 48% — or about $29.4 billion — will be recognized as revenue within 12 months.
Catz added that for the quarter (not the full year) ended Nov. 30, Oracle’s organic RPO growth rate — that is, excluding Cerner’s results — accelerated to 28% from 22%.
So, while all that RPO growth is not totally from Oracle’s cloud business, a huge portion of it clearly is.
#2 SAP: total RPO of $35.7 billion, up 35%
CEO Christian Klein used those RPO figures to support his bullish expectations for the company throughout 2023, particularly considering that the RPO for its hypergrowth cloud ERP suite, S/4HANA Cloud, rose 82% to $3.33 billion.
#3 ServiceNow: total RPO of $14 billion, up 25%
CFO Gina Mastantuono shared those numbers on the company’s Jan. 24 earnings call and said they’re a core factor in ServiceNow’s bullish outlook for 2023.
#4 Salesforce: total RPO of $40 billion, up 10%
For its quarter ended Oct. 31, Salesforce CFO Amy Weaver said total RPO is $40 billion, up 10%. As you can see, that is a much lower RPO growth rate than was reported by its direct competitors —Oracle and SAP — and by its kinda/sorta competitor ServiceNow.
Now, there’s no denying that $40 billion is a huge number, and that CEO Marc Benioff has to feel good about having that volume of business under contract, with probably about half to be reported as revenue within the next 12 months.
“…these RPO results indicate that they’re each very well-positioned for the challenging year that 2023 is sure to be.”
In addition to being an indicator of future growth, the RPO metric can help SaaS companies better manage their cash flow and plan for future growth. By understanding their RPO, SaaS companies can better forecast their revenue and adjust their sales and marketing efforts accordingly. RPO can help SaaS companies identify potential revenue shortfalls and take steps to address them before they become problematic.
Remaining Performance Obligations are a required financial disclosure for US public companies in their financial statements filed with the SEC for ASC 606 compliance and per ACS 606-10-50-13 – Transaction Price Allocated to the Remaining Performance Obligations. The contract value minus the revenue recognized determines RPO for a contract.
RPO = Contract Value – Revenue Recognized
Here’s an example:
Let’s say a SaaS company sells a 12-month subscription to its software for $12,000. The customer pays upfront for the entire subscription at the beginning of the contract term. The Contract Value is $12,000.
At the beginning of the first month of the contract, the company would recognize $1,000. The remaining performance obligation is $11,000 since the SaaS provider still needs to fulfill its obligations under the remainder of the contract. A portion of the $11,000 of remaining performance obligations may be planned or unplanned revenue.
The company would then recognize revenue of $1,000 per month over the next 11 months as it fulfills its obligations by providing access to the software to the customer. The remaining performance obligation for that contract would diminish by $1,000 each month until the end of the contract.
|Month 1||Month 2||Month 3||Month 4||Month 5||Month 6||Month 7||Month 8||Month 9||Month 10||Month 11||Month 12|
Applying this calculation for every active contract will determine your Total Remaining Performance Obligations.
Total RPO = Total Contract Value – Total Revenue Recognized
Using the same contract example above, let’s say you have 100 customers with the same contract value.
Assuming the company has 100 customers with similar contracts, all starting and ending at the same time, the total contracted value would be $1,200,000 ($12,000 x 100 customers). Let’s say that as of the end of the current quarter, the company has provided access to the software for the first 6 months of the contract term, so it still has 6 months of obligations remaining.
To calculate the RPO for the company, we would take the total contracted value of $1,200,000 and subtract the revenue recognized to date of $600,000 (6 months x $1,000 per month x 100 customers). This would give us an RPO of $600,000.
So in this example, the company still has $600,000 of remaining obligations to fulfill to its customers over the next six months. That amount would be recognized as revenue in the future as the company fulfills those obligations.
For public companies, you won’t find RPO on a balance sheet. Instead, it is disclosed in the financial statements in public filings. RPOs may be broken out by revenue line items such as subscription vs. services RPO or combined. While required for US public companies, more and more private companies are also looking at metrics to suggest future growth. For example, Ben Murry from The SaaS CFO states, “I believe the RPO metric will trickle down to private SaaS and smaller SaaS companies as a forward-looking revenue metric,” in his blog Understanding Remaining Performance Obligations in SaaS. Private companies use average Total Contract Value (TCV) and the ratio between TCV and Annual Contract Value (ACV) as proxy metrics to measure future revenue opportunities.
With such importance placed on RPO for public and private companies, companies must ensure the accuracy of revenue recognition to generate revenue reports that derive the Remaining Performance Obligations for planned and unplanned revenue. By automating revenue recognition with RightRev, companies can ensure revenue recognition accuracy based on pre-defined rules to trigger how and when to recognize revenue based on policy. In addition, RightRev can then automatically generate revenue waterfall reports for both present revenue and deferred revenue, allowing an accurate forecast for all undelivered Performance Obligations making disclosure requirements super simple and readily available.
Overall, Remaining Performance Obligations is an important metric for SaaS companies as it provides a view into the company’s future revenue streams, helps to manage cash flow, and enables better planning and decision-making.
Now that you understand Remaining Performance Obligations, read about the Top 3 Reasons to Automate Revenue Accounting.
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About the Author
Jagan is the Founder and CEO of RightRev and a pioneer of revenue recognition software leading the company’s corporate vision and product development. Jagan holds a Bachelor of Commerce in Accounting and Finance.