Preparing for the Revenue Recognition Standard

The Financial Accounting Standards Board gave us some good news and some bad news in a recent update. The good news is the Board has delayed the effective date for the proposed accounting standards update until periods beginning after December 15, 2017, giving everyone an extra year to prepare. The bad news is that the Board has given everyone an extra year to prepare. With this type of update, it is easy to put off making changes in your company until it’s too late. Don’t delay!

I’d like to revisit why the update is so important and give you five steps to take now to get ready.

Obviously, a company’s revenue is important when evaluating its performance and operations. Those who rely on financial statements for that company should be able to expect that revenue is reported consistently, using a model that makes sense when evaluating the substance of the transaction. The treatment of non-refundable upfront fees, such as licensing rights, is a situation I encounter regularly. Determining the period in which the fees are recognized as revenue is, to say the least, inconsistent from business to business.

Companies are tempted to recognize non-refundable fees when the cash is received. In most cases, given the ongoing expenses to be incurred, recognizing all the upfront cash as revenue wouldn’t seem to follow the substance of the transaction. Many factors have to be evaluated to determine when a company has met its obligations under the transaction and when the customer truly has control of the asset.

As someone who works with both publicly-traded and privately-held businesses across different industries, I can certainly appreciate the current inconsistencies. I often help companies establish the accounting for new contracts and other long-term agreements. A review of the general revenue recognition guidance and other industry specific guidance often leaves us banging our heads against the wall wondering which guidance is more appropriate under the circumstances. The new standards should make decisions like this easier because of clearer guidance.

Often, however, the simplest of transactions can be the hardest to handle. Some companies use the supply-management approach of drop shipping. Determining when delivery has occurred and when title to products has passed to the customer is not always easy. To simplify the process, the company may choose to recognize revenue once the product has left the vendor’s warehouse. In many cases, however, that would be inappropriate. The company must have processes and controls in place to determine when it has met its obligation to its customer, and then recognize revenue in the appropriate period.

I certainly realize there will be bumps in the road as companies prepare for the new standard. I believe, however, that the new standard is necessary to eliminate current inconsistencies, as well as to improve comparability of revenue-recognition practices across different industries.

So what should we do to get ready and when should we do it? Here are five suggestions for getting the ball rolling:

1. The first step in preparing for the new revenue recognition standard is to determine if you have the internal resources to evaluate and adopt the new guidance.  If not, you should look to outsource the project or hire additional resources.
2. The project team should gain an understanding of the products and services you offer and types of arrangements (contracts, etc.) you have with customers. 
3. The project team should review the revenue recognition guidance thoroughly; paying particular attention to the ways it will impact your company.
4. The project team should summarize the positive and negative impacts the new guidance is expected to have on your company.  Also, the project team should summarize the financial impact you might expect in year one of adoption.
5. The project team should identify the business processes and internal control that will be impacted and develop a timeline for implementation to ensure you have business as usual upon adoption of the new standard. The accounting should never disrupt customer service.

With the delay in the standard, it’s tempting to relax any sense of urgency. But having had years to address the standard changes, what CFO wants to explain this issue to his or her Board without really good answers?

So when should you start preparing? With the complexity of the new standard and its potential impact on your company’s systems, process and internal control, there is no better time to start than now.

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