SAN FRANCISCO -- The conservatives are starting to gain ground in the software industry -- the accounting conservatives, that is.
A new wave of small software companies, such as recent IPO
, are taking a much more conservative accounting track, one that delays their ability to invest revenue in their business but reduces the earnings volatility that can drive investors crazy.
The methods software companies use to record their revenue are bringing them an increasing amount of problems, as well as the heightened scrutiny of regulators, come earnings time. Most companies record revenue from software licenses either when the contract is inked or in incremental chunks over the time it takes to install the system. (Big enterprise software systems from
and others can take a year to install.)
Early recording also opens up a risk: Unless business is strong throughout an entire quarter, earnings time can be a crapshoot if the company can't meet license-revenue estimates or if the estimated installation work isn't completed on time. Last week,
fell 20% in a day when an analyst suggested it may not close as many deals as expected this quarter.
Austin, Texas-based Vignette is reducing these kinds of nail-biters. Vignette recognizes revenue from the labor required to install the system as it occurs, but it records revenue from software licenses only after the software is installed. This practice improves Vignette's ability to manage its orders and revenue swings.
Such accounting gives Vignette more visibility of future orders "so there's less pressure to squeeze people because we're at the end of a quarter," says CEO Greg Peters. "We can also say to our customers, 'We're not successful until you're successful.'"
Wall Street generally applauds the content-management software company for its conservative approach, especially in light of the
Securities and Exchange Commission's
recent crackdown on aggressive accounting practices among software companies. Companies like Network Associates and
have had to restate earnings because of aggressive accounting.
Some even anticipate Vignette's approach will become the norm, a trend that would help bean counters and money managers alike to sleep better during the software earnings season. "I think we'll start to see a lot of it," says a fund manager, who asked not to be identified and who declined to reveal his firm's position in Vignette. "New IPOs will pursue a model consistent with that type of format. It adds the predictability that software investors aren't used to."
Vignette's model fits with another trend in software -- a stronger focus on services. The notion of service is moving beyond installing and troubleshooting software. Increasingly, companies are turning to software vendors not just for Internet software, but for help in defining opportunities on the Net, says Danny Rimer, an analyst at
Hambrecht & Quist
, an underwriter for Vignette.
Rather than a one-time sale of software, companies may also rely more on subscriptions that charge a monthly or yearly fee, says David Hilal, analyst at
Friedman Billings Ramsey
, which hasn't underwritten for Vignette.
Baan is selling its software at a monthly rate through its partnership with
. Small companies that can't afford a large ERP system can install Baan software on a desktop for $99 a month over three years, a Baan spokesman says. Hilal says several smaller unlisted software companies are pursuing this model as well.
But there is a catch. "To me, it's almost like there's a built-in penalty," says
analyst Peter Jacobson, who has no rating on Vignette. "Internet companies bill in advance of providing services. That generates cash that can help fuel the business. Vignette, it seems, would have less cash to fuel growth.
"It's nice to make sure the customer is fully satisfied, but you would think they'd want to collect money when they're entitled to it," says Jacobson, whose firm has no underwriting relationship with Vignette. "Personally, I don't understand that philosophy."
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