By nature of their business, service organizations may face challenges with their determination of when revenue from contracts should be recognized under ASC Topic 606, Revenue from Contracts with Customers. In addition to the obvious accounting issues associated with timing of revenue recognition, this determination will also impact their financial statement disclosure requirements as it relates to revenue recognition.
What a long, strange trip it’s been from the release of the new revenue recognition standard to the adoption year for private companies. The Financial Accounting Standards Board (FASB) released its initial changes to accounting for revenue from contracts five years ago under ASC Topic 606, Revenue from Contracts with Customers. In the intervening years, changes have been made, effective dates delayed, and public companies adopted the standard.
Revenue recognition under ASC Topic 606 includes new and extensive disclosure requirements that will significantly impact revenue-generating companies, whether publicly traded or privately held.
By: Carl Giardino and Patrick Quinn
New revenue recognition standards for U.S. and international financial reporting will require careful planning and education to develop an implementation strategy. In addition, the standard affecting U.S. generally accepted accounting principles (U.S. GAAP) and International Financial Reporting Standards (IFRS) may bring about substantial income tax consequences. Historically, many entities found that the financial reporting standards and tax rules regarding revenue recognition ran parallel and produced identical results; under the new standard this may no longer hold true.
Topic 606 introduces a 5-step process for the recognition of revenue that applies to all entities that have contracts with customers within its scope. Entities that license intellectual property (licenses) through contracts with customers also apply the 5 steps but have some special considerations that are applicable to the unique nature of licenses.
Once entities allocate the transaction price, they can then move to the fifth and final step of the new revenue recognition standard: recognizing revenue. Step 5 requires entities to recognize the consideration given for an asset when or as the performance obligation has been satisfied. This point occurs when the customer receives control of the good or service.
Six elements the Joint Transition Resource Group for Revenue Recognition earmarked for change became part of the final standard recently. Accounting Standards Update (ASU) 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow Scope Improvements and Practical Expedients, updates guidance related to collectibility, presentation of sales and use taxes, noncash consideration, contract modifications and completed contracts at transition.
The bulk of the changes remain the same as outlined in the exposure draft released last fall. The ASU also includes a technical correction.
Step 4 of the new five-step revenue recognition standard requires the allocation of the transaction price to each performance obligation in a contract with a customer. Entities reach this point by first identifying the contract with a customer, identifying the performance obligations in the contract and determining the transaction price.