Converged Rev-Rec Standard Brings Consistency, Changes for All

Companies face an ambitious timeline to digest 700 pages of new rules on how to recognize revenue in financial statements. Some are facing dramatic changes that could affect accounting processes in as little as six months.

The Financial Accounting Standards Board and the International Accounting Standards Board capped off more than a decade of research, consultation, and deliberation with the final publication of a new accounting standard for how all companies must go about determining when and in what amounts to recognize revenue. “The result, I believe, is a standard that succeeds in its goal of improving financial reporting,” FASB Chairman Russ Golden said in a statement. The new rule “provides a more robust framework for addressing revenue issues as they arise by increasing comparability across industries and capital markets and by requiring enhanced disclosures that give investors and other users a better understanding of the economics behind the numbers,” he said.

Because the previous revenue recognition requirements produced different rules for different industries, the effect of the new standard for U.S. companies will vary. “It will be a significant change for those in software, telecommunications, real estate, and some aspects of asset management,” said Golden. Universal to all companies, however, are some significant new disclosure requirements intended to better explain revenue, he said. “The most significant improvement for investors is that they will see a consistent philosophy to recognizing revenue across all industries and all capital markets.”

The issuance of the standard marks a milestone in accounting, says Joel Osnoss, a partner at Deloitte. “It's certainly historically significant,” he says. “Every company has revenue, and it really has the potential to affect all companies. Equally important, we have a converged standard around this topic. Regulators will have the ability to look across a broad swath of companies and really be able to compare, contrast, and call out companies.”

The idea behind the development of the standard was to create a single model under which companies would report the nature, timing, and any uncertainty on revenue. The model requires companies to follow a five-step process for deciding when and in what amounts to recognize revenue. It begins by identifying a contract with a customer, identifying the performance obligations under the contract, determining the transaction price, allocating the price to any separate obligations that might be contained in the contract, and then recognizing revenue for each performance obligation as each obligation is fulfilled. “There are some companies that really won't see much of an effect on a go-forward basis,” Osnoss says. For companies where any given contract contains multiple obligations, however, the accounting could change significantly.

The first step for all companies now that the long-awaited standard is final is to digest it and determine the effect, says Steve Thompson, a partner at KPMG. “The key thing is to think about preparing how to explain it to senior management, the audit committee, and to the board of directors,” he says.

Companies will also need to take a close look at whether they currently capture the information they will need to comply with the new standard, both the accounting and the disclosures, and determine if new systems will be necessary. “Is it something that's significant? Are you going to need a budget for resources, perhaps purchasing systems or other solutions? Or is it something we can absorb in the ordinary course? Figure out which bucket you're in, and how big the bucket is,” Thompson says.

“The new rule provides a more robust framework for addressing revenue issues as they arise by increasing comparability across industries and capital markets and by requiring enhanced disclosures …”

—Russ Golden,

Chairman,

FASB

Looming Deadlines

The standard takes effect on Dec. 15, 2016, so calendar-year companies will begin applying it for their 2017 reporting year. Companies won't want to wait that long, however, to begin thinking about implementation. Soon after assessing the big picture, they will need to determine how they will plan to adopt the standard, says Dusty Stallings, a partner at PwC, because it will affect their implementation plan.

Companies can elect a retrospective approach, meaning they will present not only the current year but also prior years as if the standard had been in effect all along. Companies that go that route would present 2016 and 2015 revenue figures in 2017 financial statements under the new rules. The alternative to a retrospective approach is the cumulative approach, which would apply the standard only to 2017 figures but with some adjustments to deferred numbers and disclosures to explain the lack of comparability to 2016 and 2015 figures. “The method of adoption is a very important decision that needs to be made,” Stallings says. “Do not make it in a vacuum.” Companies will need to consider a number of factors in making the decision, she says.

Accounting experts say companies need to consult with their financial statement users and their analysts to get some sense of what method will be important to them. Companies will also want to consider what their peers will be doing, and factor that against the cost and complexity of providing the full retrospective view. “The retrospective approach is good because it will put provide all the trend information properly,” says Prabhakar Kalavacherla, a partner with KPMG. “But you will have to do a little bit more work, perhaps maintaining side-by-side systems for 2015 and 2016.”

That could produce a significant crunch for companies that determine they need to follow a full retrospective approach, with the beginning of 2015 only six months away, says Brian Marshall, a partner with McGladrey. “There is probably going to be some pushback from those companies given the timing of the issuance of this standard. If you follow the cumulative approach, you don't have to update the accounting for 2015 or 2106, so you certainly have more time available.”

It will also be important to consult with other areas of the business, says Thompson. “Adopting this standard is not just an accounting exercise,” he says. “It goes beyond that to impact many areas of the organization.” The new standard will have implications for the sales process, information systems, internal controls, taxes, debt covenants, and potentially even compensation, experts say. “Some companies may even have to get the legal department involved in determining when you've adequately met legal obligations under contracts,” he says.

The key for companies now is to dig in and mobilize, says Diana Gilbert, a senior consultant at RoseRyan. “There's a reason we've been talking about this for as long as we have,” she says. “As an accountant, it always frustrates me to have to report things that don't really represent the business of the transaction. Now this allows us to do that. For many companies, this is going to be a very big exercise.”

What Does the New Revenue Recognition Guidance Do?

In the graph below, FASB illustrates how the new revenue recognition standard will work.

The new guidance establishes the following core principle:

Recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the con¬sideration to which the entity expects to be entitled in exchange for those goods or services.

To achieve that core principle, a company or other organization applies the following five steps:

Source: FASB.