What is Accrual Accounting?
Accrual accounting records financial transactions when they occur economically, not when cash moves. Revenue is recognized when earned (even if not yet paid), and expenses are recorded when incurred (even if not yet paid).
Why Accrual Accounting Matters
For SaaS companies, accrual accounting is essential. When you sign an annual contract for $120K, you cannot recognize all that revenue immediately. You earned $10K this month and will earn the rest over the next 11 months. Accrual accounting captures this timing properly.
Investors and auditors require accrual-based financials because they give a more accurate picture of business performance than cash-based statements that can be manipulated by timing payments.
Accrual vs Cash Basis
Cash basis is simpler but less accurate. Accrual is more complex but shows true economic activity. Most startups beyond very early stage need accrual accounting.
Formula
Revenue Recognition: Record when service is delivered, not when cash is received
Expense Recognition: Record when benefit is received, not when cash is paid
Example
Your SaaS company in December:
- Signs $60K annual contract (customer pays in January)
- Receives hosting bill for December (due in January)
Under accrual accounting:
- Record $5K revenue in December ($60K ÷ 12 months)
- Record hosting expense in December when service was used
Cash has not moved, but your December financials accurately reflect December activity.