Will Taleo’s Changes in Revenue Recognition Change SaaS?

Late yesterday, Taleo announced changes to their revenue recognition policy.  The impact of these changes are:

• Taleo  will defer $18 mln consulting services revenue (consulting services deferred revenue was previously at $3 mln).  Total revenue under contract will not be impacted
• The company will restate financial statements for the years ended Dec. 31, 2003 through 2007, and the interim financial statements for the quarters ended March 31, 2008, and June 30, 2008
• Most important, Taleo would now recognize consulting services revenue over the term of the application services agreement, typically three years, instead of recognizing it as the services were delivered.

I do not pretend to be an accounting expert but, after attempting to read a lot into the announcement, I have come to the conclusion that this was a very wise decision for Taleo.  My reasoning is that:

1. With consulting services revenue now ratable over the term of the application services contract (typically 3 years)  it will reduce their overall % of services revenue (traditionally around 18%), making their revenue more predictable…something financial analysts love!
2. I would expect new implementation partners to come calling to Taleo.  This could be great news that allows them to build deeper channel relationships with multiple tiers of services partners.  Not that Taleo is doing a horrible job today (in fact they probably do implementation better than most) but services could potentially become a differentiating factors if they could balance the demand on rapid implementation with long-term client success complimented by more specialized services.
3. This should force Taleo, in Naomi Bloom’s words, “..to build more interrogatory configurators”, therefore accelerating deployment cycles and minimizing the more technical configuration requirements. 
4. Taleo has now taken an ultra-conservative approach to revenue recognition.  Taleo has spent a small fortune addressing this issue.   What many don’t know is that just prior to the IPO, Taleo had spent Brinks truck money attempting to resolve these issues that have once again reared its ugly head.  Taleo has finally put this issue to bed and hopefully now can use the legal and accounting dollars more wisely on products and customers.

Many SaaS vendors recognize revenue very differently.  Some vendors account for services revenue once the product goes live.  Others account for services revenue once the client begins to administer the software.  I imagine every SaaS vendor is now re-evaluating their accounting and revenue policies. 

What does concern me is that this news further complicates the SaaS model, how SaaS vendors recognize revenue, and most importantly, how auditors can essentially change the outcome of the game after it has been played  .  I know many private SaaS vendors (by name) that have struggled with revenue recognition and have quietly readjusted past financial statement. 

Taleo has long stood by their revenue recognition policy…a policy that has been validated year over year and signed off by Deloitte (their auditors)  in the form of the company’s 10K and 10Q.  Now, those same folks, Deloitte, have chosen to change the rules and raise the accounting flag (did I say they signed off on those financial statements?), which triggered the attention of the “OCA” (Office of the Chief Accountant of the Securities and Exchange Commission).  I wonder how much longer Deloitte will be retained by Taleo? 

Frankly, I’d rather have the OCA go after those vendors that continue to sell shelfware and charge customers outrageous maintenance fees.  One could only dream…

UPDATE (Clarification from Taleo):

Taleo actually proactively sought out the opinion of the SEC’s Office of the Chief Accountant.  It is an accounting policy setting arm of the SEC, not an enforcement/discipline office, to our knowledge.  We were extremely thorough in this review and since it was such a  matter of interpretation, sought out the highest source in the land to review the approach. Wanted to be sure you understood that in no way did the SEC nor the OCA, flag us. Also, we approached the OCA jointly with Deloitte.