The new revenue recognition standard will soon be a reality for privately held companies. Since the May 2014 issuance, there have been thousands of online posts providing insight, guidance, and views on actions necessary for companies to adopt the standard, which introduces a new revenue model for contracts with customers. Undoubtedly, it affects every company—and not just the finance organization. The impact spans across the business. Every company must adopt the standard, and getting it wrong is not an option. But what does getting it right mean?
How Will This Affect Your Company?
Although the new standard will affect certain industries more than others, all companies will feel some impact. To fully evaluate the scope, education and training are critical. Companies must gather input from business function leaders to capture the impact on existing processes and technology and to effectively manage the transition.
The New Standard’s Effect on All Industries
• Significantly changes how revenue is recognized. Revenue is recognized when a customer obtains control of a good or service, which differs from the concept of a transfer of risks and rewards.
• Eliminates virtually all industry-specific revenue guidance. Although the new standard may lead companies to similar accounting in some cases, getting to those conclusions will require a new analysis. Companies cannot just default to accounting for their revenue the way they did in the past.
• Lays out a five-step approach to recognizing revenue that depicts the transfer of goods or services to customers.
• Requires new judgments and estimates, such as determining the transaction price and allocating that transaction price to performance obligations.
• Affects accounting for customer acquisition costs and certain contract fulfillment costs.
• Includes new disclosure requirements, which for privately held companies are primarily qualitative.
• Potentially indirectly impacts other financial areas, such as management incentive plans, debt compliance, allowance for doubtful accounts, and income taxes.
• Requires an assessment of the impact on all contracts with customers.
• Requires companies that present comparative historical financial statements select a transition option—cumulative effect or retrospective approach.
The Five-Step Model
All companies must use a five-step model to analyze contracts and recognize revenue. The intent is greater consistency and comparability in the global capital markets and across industries.
Examples: Industry Impacts
Retail & Consumer Products: Affects accounting for sell-through and consignment arrangements, rights of return, and loyalty programs.
Software: Eliminates specific requirements, such as vendor-specific objective evidence (VSOE), and provides an opportunity to rethink contract terms with customers.
Communications: Affects accounting for activation fees and may require allocation of additional revenue to free or discounted products.
Life Sciences & Pharmaceutical Products: Changes recognition of milestone payments, rebates, and royalty revenue, and may affect timing of license revenue.
Industries Using Contract Accounting (Aerospace, Defense, Construction & Government Contracting): Requires reassessment of the units of accounting (performance obligations).
Want to know more about the new revenue standard? Read part 2 of our blog series.