Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers, is likely one of the most important standards we have seen from the Financial Accounting Standards Board (FASB) in recent memory. The core underlying principles of the standard, which apply to all companies with financial statements based on Generally Accepted Accounting Principles (GAAP), are to:
- Recognize revenue to depict the transfer of goods or services in an amount that reflects the consideration expected to be entitled to receive in exchange for those goods or services, and
- Transfer based on control (the ability to direct the use of and receive the benefit from the asset).
The new standard eliminates the concepts of earnings and realization and introduces new concepts, such as transfer and entitlement:
- Transfer: Has the good or service been delivered?
- Entitlement: Is consideration fixed or determinable? Is consideration collectible? Is there evidence of an arrangement?
Importantly, the new standard will impact almost all contracts with customers, excluding lease contracts, insurance contracts, financial instruments, guarantees (other than product or service warranties), and nonmonetary exchanges between entities in the same line of business to facilitate sales to customers or potential customers.
The standard results in a five-step process to follow when recording revenue:
- Identify the contract
- Identify separate performance obligations
- Determine the transaction price
- Allocate the transaction price to performance obligations
- Recognize revenue as or when each performance obligation is satisfied
While all non-public companies will need to comply by January 1, 2019, there is a lot to prepare for now. You currently should be compiling a list of contracts to identify as standard, unique or complex, and documenting revenue recognition policies for revenue streams under existing GAAP. Of course there are additional steps to be prepared. See below for a timeline of milestones your company should strive to achieve.
Perform a GAAP assessment of your company:
- Cohen & Company will provide training on the basic concepts, terms and implementation requirements of the standard.
- Review your contracts and document the following:
- Determine appropriate approach
- Homogeneous contracts — take a high-level approach
- Significant variation — take a granular approach
- Document key terms (new standard) and conditions in each contract
- Performance obligations
- Transaction pricing
- Material rights
- Determine and document revenue recognition under new standard
- Assess differences in revenue recognition under current GAAP versus new standard
- Determine the new standard’s effects on all areas of the organization and assess whether any revisions need to be made to:
- Existing contracts with customers
- Loan agreements (work with lenders)
- Any other agreements
- Assess whether or not to apply full retrospective or modified retrospective transition method.
- Develop project plan:
- Evaluate accounting system
- Review accounting policies and procedures
- Assess internal controls
- Review tax reporting requirements
- Develop internal communication for all stakeholders
- Develop training
- Develop new financial reporting disclosures
There are many steps to take to help ensure you are ready to implement the new revenue recognition standard on your company’s 2019 GAAP financial statements. First and foremost, familiarize yourself with the new standard via articles, trainings, webinars, etc. Then collaborate with your accounting service team to assist with the preparation and implementation. Being proactive will help provide a smooth implementation in all areas in your organization affected by this new standard.
Cohen & Company is not rendering legal, accounting or other professional advice. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts and circumstances.