Prepare Now to Deliver Accurate Financial Reporting
By Jeff Koweno, HoganTaylor Accounting Implementation Services – Revenue Recognition Lead Partner and Sarah Langham, Assurance Senior Manager
NEW REVENUE RECOGNITION GUIDANCE – EXECUTIVE SUMMARY
While accounting standard updates aren’t always groundbreaking, the new guidance covering revenue recognition (ASU 2014-09, Revenue from Contracts with Customers, Topic 606) represents a significant overhaul of all existing revenue guidance, including most industry-specific guidance. While it is true that for some industries the new guidance will not ultimately change the timing or pattern of revenue recognition reported in the income statement, we do expect that even for these industries there will be significant changes in the way entities must document and support their revenue recognition decisions. In addition, most entities will be required to provide substantially more disclosures relating to their contracts with customers, including accounting policies and areas of significant judgements and estimates.
Although the new revenue recognition guidance is effective for annual reporting periods beginning after December 15, 2018, the timeline for understanding the impact on your company is even sooner. This is because the transition methods allowed by the new standard may require entities to reevaluate contracts with customers that originated in years prior to the year of adoption of the new standard. The following timeline illustrates the key milestone dates relating to the implementation of the new standard:
ASC 606, Revenue from Contracts with Customers
Implementation Timeline – Calendar Year-End Nonpublic Entities
To address the challenges presented by the new standard, entities will want to consider the impact to the entire organization and their overall implementation approach. We have outlined below the five step assessment process prescribed by the new standard and also provided some key questions that management and those charged with governance should be considering as the implementation date draws closer.
NEW REVENUE RECOGNITION GUIDANCE – SNAPSHOT
The core principle of the new standard is that an entity should recognize revenue in an amount that reflects the consideration to which the entity expects to be entitled in exchange for transferring promised goods or services to customers.
To achieve that core principle, an entity should apply the following steps:
Although the steps are presented in order, we don’t believe that in practice the determination of the amount and timing of revenue recognition will be a linear process. For example, as discussed in more detail below, it may be necessary to determine the transaction price (Step 3) in order to assess whether substantially all of the transaction price is collectible and therefore meets one of the specific criteria for there to be a contract (Step 1).
Included in Appendix I is a summarized description of each of the steps in the five step process. We have also provided a description of where we believe some of the more common and perhaps more complex implementation issues may occur.
NEW REVENUE RECOGNITION GUIDANCE – IS YOUR ORGANIZATION READY?
HoganTaylor’s Key Questions
On their surface, the five steps listed above appear somewhat logical and straight-forward. However, as we dig deeper into the standard, we continue to note the complexities involved in evaluating each of the five steps and note many areas that will call for significant management judgements and estimates. The overall impact of implementing the requirements of the new standard will likely change the timing and amount of revenue recognized in the financial statements and will most certainly change an entity’s footnote disclosures.
HoganTaylor has developed the following list of questions meant to jumpstart your entity’s evaluation of the impact of the new standard:
- Have you assessed how the new standard will impact your organization and current revenue model?
- Who in your organization has the skills and knowledge necessary to implement the new standard?
- Have you considered whether a full retrospective transition or modified retrospective application is appropriate for your organization? What are information needs of the users of your financial statements?
- Do you have a cross functional team (accounting, sales, IT, HR, others) in place to evaluate the potential impact of the new standard to other aspects of your business?
- Do your information systems capture the information needed to evaluate your contracts and disclose all required items?
- Does your sales team have the information they need to determine if contract terms or agreements trigger new accounting considerations under this guidance?
- Has Human Resources considered the impact to bonuses or commissions currently based on revenues?
- Does the entity have any debt covenants that are dependent on total revenues?
- Have you considered potential impacts on your supply chain (will your vendors change their terms as they work on their own implementation)?
- Once the new standard is implemented, what will be the impact to current processes and internal controls?
HOGANTAYLOR: ACCOUNTING IMPLEMENTATION SERVICES – REVENUE RECOGNITION
Each of the five steps described above requires a host of key judgments and decisions and HoganTaylor’s Revenue Recognition Implementation Team has the experience and knowledge to guide entities through the entire five step assessment process. Additionally, HoganTaylor has experienced professionals who are able to assist with necessary changes resulting from adoption of the new standard such as changes in internal controls, IT systems, compensation and benefits, sales agreements, or debt covenants.