Revenue – The World of Changes Is Here Soon
After almost a decade of work and many revisions, the FASB issued a new revenue standard “Revenue from contracts with customers” in May of 2014. The principles-based standard left users with many unanswered questions about interpretations and implementation. In the last year and a half, the FASB’s Transition Resource Group (“TRG”) and various AICPA industry groups have worked to identify and resolve these issues.
The guiding principle of the new standard is to recognize revenue to depict the transfer of control over the promised goods or services via contracts with customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
As a reminder, to accomplish the principle there is a 5-step process:
- Identify the contract. The standard applies to a company’s contracts with its customers except for contracts that are within the scope of other literature (i.e., leases).
- Identify separate performance obligations. The unit of account for revenue recognition under this standard is the performance obligation (both goods and services). A contract may contain one or more performance obligations. Performance obligations will be accounted for separately if they are distinct.
- Determine the transaction price. The transaction price includes all amounts that an entity expects to be entitled to in exchange for the promised goods or services. The transaction price may include an estimate of variable consideration.
- Allocate transaction price to separate performance obligations. The transaction price is allocated to all of the separate performance obligations.
Recognize revenue when (as) each separate performance obligation is satisfied. Revenue is recognized when an entity satisfies a performance obligation by transferring control of the promised goods or services. Goods and services can be satisfied at a point in time or over time.
That sounds easy. However, based on the issues addressed by the TRG and their discussions and the revisions that the FASB is making to the standard, it turns out that this change in revenue recognition it is a difficult task. The TRG has received more than 70 submissions/questions that constitutions have in interpretation or implementation of the standard. They have discussed these issues and where they believe that more guidance is needed they have recommended to the FASB changes/clarifications to the standard. Based on the work of the TRG and others, the FASB has amended or proposed to amend the standard in 4 separate exposure drafts which cover a wide range of topics:
|1. Identifying Performance Obligations and Licenses||Exposure draft issued in May 2015Q4 2015||Q4 2015|
|2. Narrow Scope Improvements and Practical Expedients||Exposure draft to be issued in Q4 2015||Q4 2015|
|3. Principal vs. Agent (reporting revenue gross vs. net)||Exposure draft issued in August 2015||Q4 2015|
|4. Effective Date||Final standard, ASU 2015-14, was issued on August 12, 2015.|
People who have followed the revenue standard have gotten tired of trying to keep up with the changes that the TRG and the FASB have been proposing as they came to a new revenue standard. It’s common to have the attitude of “wait until they are done.” Well, our period of wait and see seems to have come to an end.
Even with a 1-year delay in the effective date, the standard is right around the corner and the adoption and implementation may be more difficult than you expect. Calendar-year-end public companies who are retrospectively adopting will have to revise their revenue recognition beginning January 1, 2016 (a mere few months away).
Depending on a company’s business model, the effects on revenue recognition timing could be significant, which will impact key performance measures upon which compensation is determined and debt covenants are calculated. Companies need to allow time to deal with these secondary changes and don’t want to miss out on a bonus or fail debt covenants upon adoption.
In addition, currently there are fewer required revenue disclosures. However, with most new standards, there are many additional new disclosures required both annually and quarterly. When planning for adoption, preparers should not forget to gather the information necessary for disclosure (or make plans to spend long nights doing so after the fact.)
Some companies have found they need to change their information technology systems to be able to account for the new way to recognize revenue and prepare disclosures, and of course, there are the dreaded internal control considerations as a result of the new recognition criteria.
Adoption and implementation does not get easier when postponing the analysis or delaying the decisions. As TRG and FASB work diligently to wrap up the remaining implementation issues, it’s time to put revenue recognition front and center again in your action plan.
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