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Credit Memos and ARR

If I sell a contract at $12,000 ARR and I have to issue the customer a credit memo for one month of $1,000, do I reduce my ARR by $1,000 and then increase it by $1,000 come year two? Basically I'm asking if 1 time credit memos effect ARR Thanks!

Answers

John Argo
Title: Consultant
Company: Independent Advisory Services
(Consultant, Independent Advisory Services) |

In essence, you're extending a 12 month contract by an extra month. I think it's reasonable to recognize the credit memo at the end unless there's a compelling reason to push the revenue recognition out. It would reduce Y2 revenue by 1K for tax purposes.

Partly, it depends on the language of and reason for the credit. If it was because of contract startup problems and corresponding costs to service the contract were not also recognized, then it would be better to do it at the beginning. If it was outage related, perhaps mid contract term. If it was, say, a loyalty discount (in essence) or some other incentive and the language was non-specific, I'd be inclined to put it at the end.

It may or may not have a material impact depending on WHEN you calculate ARR or whether this is a common practice. Because ARR is more of a KPI, it would only reduce during that one period where the credit is realized. Presumably, the contract renews following the credit period so your run rate is still the same before an after that period.

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