Many of my Protiviti colleagues and I have received numerous questions from clients and contacts about the new revenue recognition standard issued by the Financial Accounting Standards Board and International Accounting Standards Board. Therefore, I thought I’d comment further on the new standard and share some notable commentary and insights from others in the market.
The objective of the new standard, according to FASB and IASB, is to “establish the principles to report useful information to users of financial statements about the nature, amount, timing and uncertainty of revenue from contracts with customers.” In practice, it’s intended to:
- Remove inconsistencies and weaknesses in existing revenue requirements;
- Provide a more robust framework for addressing revenue issues;
- Improve comparability of revenue recognition practices across entities, industries, jurisdictions and capital markets;
- Provide more useful information to users of financial statements through improved disclosure requirements; and
- Simplify the preparation of financial statements by reducing the number of requirements to which an organization must refer.
My colleagues and I have stated repeatedly that this is a big deal. Others agree:
The American Institute of Certified Public Accountants blog calls revenue recognition “the most pervasive and across-the-board important topic that the issuers could have tackled,” and notes that the new standard “eliminates transaction- and industry-specific guidance and replaces it with a principle-based approach that applies to all public, private and not-for-profit entities.”
The Wall Street Journal’s blog notes that public companies have until 2017 to prepare for it, and adds that software makers and wireless providers, among others, could record revenue more quickly than before, while, for example, auto and appliance makers may see the opposite trend.
A terrific article in CFO magazine points out that the new standard was “strongly opposed by many finance and accounting executives,” and adds that its changes could have a ripple effect on loan covenants, compensation packages, discounts, rebates taxes, and even new company start-ups.
Simply stated, the literature was all over the place. It was hard to know where to look when confronted with new and different revenue recognition situations.
The issuers’ bottom line is a contract-based approach to revenue recognition. Their core principle is to “recognize revenue in a manner that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” To achieve the core principle, they outline these five steps:
- Identify the customer contract(s).
- Identify the separate performance obligations therein.
- Determine the transaction price.
- Allocate it to separate contract performance obligations.
- Recognize revenue when the entity satisfies each one.
Naturally, it’s going to be more complex than that. To help with the changeover, the FASB and IASB have set up a joint Transition Resource Group that will meet publicly until the standard goes fully into effect. In the meantime, preparers worldwide need to get themselves educated on the new standard.
As a reminder, we published a detailed Flash Report on the new standard that I encourage everyone in an accounting/finance role to review. Let the transition process begin!