How the New Revenue Recognition Rules will Affect Both Public and Private Companies

Introduction

The new revenue recognition standard as outlined in ASC 606 “Revenue from Contracts with Customers” becomes effective for public companies in 2018 and for private companies in 2019. Early adopters can implement January 1, 2017. The consensus amongst accounting firms and financial executives is that the new regulation is the biggest accounting change since Sarbane-Oxley. Middle-market companies may be extraordinarily overwhelmed as they typically have a high volume of revenue transactions with varying customer terms, but not a sufficient level of accounting resources needed to assess and implement the new accounting standard.

Hardesty can assist these middle-market companies with technical accounting talent to assess contracts, determine issues of revenue recognition, consult on best practices, and to work with management and auditors to ensure the timely issuance of financial statements.

ASC 606 Basics

The core principle behind ASC 606 is to “recognize revenue to depicit the transfer of promised goods or services in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.”

This sounds simple, but the devil is in the details. For example, the new standard outlines more management judgement in estimating fair market value, segregating performance obligations, and determining collectability. Additionally, variable considerations such as bonuses, penalties and refunds will need to be considered when determining probably obligations. To help entities apply the standard, ASC 606 outlines five steps for deciding when to recognize revenue:

  1. Identify Contracts with customers.
    • Contracts related to one customer must meet the following five criteria:
      • Approval of commitment of the parties
      • Identification of rights of the parties
      • Identification of payment terms
      • Commercial substance
      • Collection of consideration is probable
  2. Identify the performance obligation in the contract.
    • The standard calls for the identification of “distinct items” and “non-distinct items”, the difference is items that can be sold on their own (e.g.: a toaster), or items that cannot be sold on their own (e.g.: 2 years of warranty that comes with a toaster.)
  3. Determination of the transaction price.
    • The transaction price is the amount of consideration an entity expects to be entitled to. The transaction price may include factors that make consideration variable, such as returns, discounts, rebates, financing, etc.
  4. Allocating the transaction price to the performance obligations in the contract.
    • The transaction price determined in step 3 must be allocated to distinct performance obligations. The challenge is determining the amount to allocate. Management may estimate standalone selling prices using suitable methods such as: adjusted market assessment, expected cost plus margin, residual approach.
  5. Recognize revenue when (or as) the performance obligation is satisfied.
    • The five indications of whether a performance obligation has been met are:
      • The entity has a present right to payment for the asset
      • The customer has legal right to the asset
      • Physical possession of the asset has been transferred to the customer
      • The customer has risks/rewards of ownership of the assets
      • Customer Has accepted the assets

Hardesty Services

Hardesty LLC has extensive experience assisting middle-market companies with ASC 606 type projects. As business-savvy CFO’s, we bring the expertise to evaluate how the “Standard” affects all aspects of the business including finance, sales, operations, services, and IT. We provide services that not only make the financial statements audit-ready, but make sense for the rest of the business.

Hardesty services include:

  1.  Evaluating your existing environment
    • Contract assessment
    • Revenue recognition practice
    • Financial statement impacts and disclosure schedule preparations.
  2. Consulting
    • Form contract recommendation
    • Sales team training
    • Adoption Strategy
    • Accounting and IT system assessment and recommendation

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