, , ,

Beyond rev rec—planning ahead for 2018 financial reporting

I get it—implementing the new revenue recognition rules has consumed a lot of your technical accounting team’s time, as it has at my company. The new standard likely has a steady spot at the forefront of your audit committee’s accounting concerns as well. It’s a big deal, but other new rules issued by the Financial Accounting Standards Board last year deserve attention, too. They must be implemented in fiscal 2018 if you’re a public company in addition to rev rec.


Planning ahead and maybe even early adopting these new accounting rules could make your life easier a year from now. Presumably (I hope!) you are well on your way in implementing the new rev rec rules, so now may be an ideal time to consider adoption strategies for the other new rules on your plate.

If that concept sounds daunting, take solace in this: You can pick up on the “lessons learned” from your rev rec implementation and apply it to these other implementations, including identifying what new data (and data sources) are required, as well as ensuring you have appropriate internal controls over adoption of new standards. For example, all adoptions require companies to determine if the effect at the adoption date will be material. This requires the computation of the effect to be accurate as well as a process to make sure you have identified the complete population of affected transactions.

Ready to dive in? Here is the next round of accounting changes you need to consider.

1. Changes ahead to cash-flow statements

Let’s start off with ASU 2016-18, which deals with how companies present restricted cash and restricted cash equivalents in the statement of cash flows. It’s not a difficult change to apply, it improves the user’s understanding of a company’s cash position, and it can be early adopted. So, if you have either restricted cash or restricted cash equivalents this year or in previous years, why not adopt now?

The standard can be adopted in any interim quarter. Keep in mind it must be applied retrospectively—whether you do it now or in Q1 2018, you are going to have to restate your statements of cash flows for prior years.

While you’re at it, ASU 2016-15, which also deals with reporting in the statement of cash flows, allows early adoption with the same retrospective transition rules. It makes sense to adopt both ASUs at the same time as users would likely prefer to see all changes reflected at once.

ASU 2016-15 is worth a review to see if any of the eight cash transactions it specifically calls out apply to you. The transaction types are not all infrequent among the companies I work with—two, for example: amounts paid to extinguish debt, including prepayments and payments for contingent consideration in a business combination. If you’ve got those, you may have some changes ahead of you.

And early adoption is not just an idea for public companies; it might also make sense for private companies as they will have to adopt no later than 2019. If you’ve got an IPO in the future, adopting now is one less change you’d have to make before taking on public-company GAAP.

2. Got a deal coming up? Is it a “business” or an “asset”?

ASU 2017-01 defines a business as opposed to an asset in transactions involving acquisitions, transfers, or disposals of a set of assets and activities. It’s another of the FASB’s projects for making transactional analysis more efficient by narrowing the definition when applying the rules for business combinations.

This one is also required to be adopted in 2018—prospectively—so it will apply to transactions on or after the adoption date. But if you expect to have a transaction sometime during the rest of 2017, definitely take a look at whether this new standard will affect your accounting in a way that makes more sense for your company’s situation.

Pundits are predicting that more acquisitions will be accounted for as acquisitions of assets, rather than business combinations. The differences in accounting are significant—for example, transactions accounted for as asset acquisitions will not have goodwill recorded but will require you to capitalize transaction costs.

While this is the first in the FASB’s project to define and clarify what a “business” is, keep in mind that the definition of a business also comes into play for identifying reporting units for goodwill impairment tests and consolidation.

3. Impairments and intangibles

Segueing into the subject of impairment, simplified rules for impairment analyses of intangibles, including goodwill, in ASU 2017-04 are also available for early adoption this year, prospectively, for any impairment measurements performed in 2017 for financial statements not yet issued.

The new rule removes the requirement to perform a hypothetical purchase price allocation, which involves determining the fair value of the individual assets and liabilities. Now, you can do a much simpler measurement by comparing the fair value of the reporting entity as a whole to its carrying value.

4. An accounting change for some equity investments

To fill out the rest of your technical accounting implementation work plan for Q1 2018, ASU 2016-01 affects accounting for equity investments classified as available for sale, which is not an uncommon investment.

It requires companies to record all changes in fair value, including impairments, in the income statement—not in other comprehensive income as we do today. This is going to mean more variability in earnings, so investors will need to be educated about why they’ll see changes.

Know that this is the one ASU on this list that cannot be early adopted. The standard has other provisions you should take a look at, too.


Do the work now, thank yourself later

With all these changes, keep in mind you may have more than just rev rec and the new accounting rules for leases affecting your ongoing SAB 74 disclosures, as well as planning for disclosures required under ASC 250 when adopting any new accounting standard.

My best advice? Plan ahead, and do what you can to be in front of the work. Keep your team and audit committee informed of what to expect. This way you’ll avoid surprises and an overwhelming workload for first quarter 2018.

Get the scoop on the accounting changes in store with the RoseRyan Technical Accounting Group’s fast-paced 90-minute webinar session, “Our Take from the Trenches on the Latest FASB Updates and What You Need to Know.” Go to bit.ly/FASBupdates to register for this webinar taking place Thursday, June 15, 10am-11:30am PT. 

Julie Gilson is a senior consultant with RoseRyan and a CPA (inactive) with over 15 years working in finance and accounting with fast-moving public and private technology companies. 

, , , , , , ,

How to amp up your year-end disclosures for the revenue accounting changes ahead

It’s always healthy to take a fresh look at your disclosures and discussions in your annual reports. Situations change, boilerplate language doesn’t always cut it, and changes in accounting policies make it a necessity. This year, more than ever, several drivers make such a review a can’t-miss effort.

A number of new accounting standards are coming down the pike that will significantly change the information you provide. And investors and analysts want to understand now how these accounting changes will impact your financial statements and how you’ll report what is happening in your business.

So, we’re highlighting a few areas to focus on this reporting season, and we’re giving you a head-start on what you may want your related disclosures to say.

The new revenue standard

Arguably, this is the biggest change in accounting we will see in our lifetime—a generational change. Anticipating the shifts companies will be making in how they recognize revenue in the years ahead, the Securities and Exchange Commission has high expectations for your next round of disclosures. They’ll be looking out for the effects the new standard will have on your accounting through what’s commonly known as SAB 74 disclosures.

The SEC said from the start that they expect these disclosures to evolve as implementations progress. The SEC Corp Fin staff is now saying that they are done waiting, and it is no longer acceptable to limit your disclosures to boilerplate “we are still evaluating” language in your calendar Q1 2017 filings (10-Ks, 10-Qs). They upped their scrutiny in this area with Q3 filings and expect to see more robust disclosures for year-end.

Companies that don’t meet these expectations will likely receive a comment letter asking for more information. The SEC enforcement staff has even gone so far to say that they will pursue enforcement actions if SAB 74 disclosures are not robust enough.

So, what should you be saying?

In your footnote disclosures, you should assess the expected impact of the new revenue standard or, at a minimum, provide directional guidance in the areas that are relevant to your business. See below for some examples:

  • The timing of revenue recognition.

    “The Company expects revenue recognized on a cash basis today to be recognized earlier under the new standard.”

  • How revenue allocations among multiple deliverables will change.

    “The Company expects the revenue allocation between software licenses, maintenance, and other services to change, since the estimated consideration will be allocated between each performance obligation based on relative selling prices rather than using a residual method for software licenses under the current guidance.”

  • The impact of variable consideration estimates, such as contingent payments, customer discounts, and price protection rebates.

    “The Company expects to include sales-based milestone payments that are probable of payment in our estimates of variable consideration, resulting in more revenue recognized as associated performance obligations are delivered rather than waiting for the milestone payment to be paid.”

  • The impact of shifting from a sell-through to sell-in revenue recognition model when estimating returns.
  • Changes in the timing of revenue recognition from separating financing components from contract consideration.

    “The Company expects contracts with extended payment terms to be recognized earlier after separating a financing component from the consideration.”

  • The capitalization of costs that are incremental to each contract and recognition concurrent with the associated revenue.
  • Quantification of the overall impact of the standard.

Have you done your diligence with the new standard and believe it won’t make much of a difference? If you expect the impact of adoption to be immaterial to your financial statements, you still need to address it and explain your reasoning. Here’s an example of language you could use:

  • “The Company expects the impact of adoption to be insignificant to its financial statements, since its contracts are simple with only one performance obligation delivered at a point in time for a fixed price. The only new accounting element will be the capitalization of costs incremental to each contract and recognition concurrent with revenue, which is accrued when the order is placed and recognized when the goods are delivered.”

You should also include facts about your implementation of the new standard:

  • When you expect to adopt and your planned transition method.

    “The Company intends to adopt the new revenue standard as of January 1, 2018, with a modified retrospective transition approach.”

  • The status of your implementation.

    “The Company has completed our evaluation of the changes in accounting for representative transactions under the new guidance.”

  • Significant areas you still need to address and when you expect to address them. 

    “The next areas to address in the implementation are: (i) establishing relative selling prices for each performance obligation, (ii) assessing the accounting impact to the financial statements, (iii) developing tools to monitor the additional information needed, (iv) preparing the accounting entries for adoption, and (v) writing supplemental footnote disclosures. The Company expects to complete these efforts by the fourth quarter of 2017.”

In your MD&A discussions about the new revenue standard, you should emphasize the future impact of the new accounting treatment:

  • Material changes and trends: Under the new standard, for instance, do you expect more variability because revenue will be recognized earlier, or will you have to make significant estimates?
  • Financial and non-financial impacts: For example, changes in the balance sheet for contract assets and liabilities may affect key financial ratios that are embedded in debt covenant requirements.
  • Significant estimates and judgments: Consider estimates related to variable consideration and the constraint on variable consideration, including returns, price protection rebates, and cash discounts or the probability of milestone payments. Another example is the estimation of standalone selling prices and the allocation of discounts and variable consideration in allocating the transaction price.

Other areas to refresh

While the new revenue standard may be the most significant change that you need to address in your financials this year, a few other areas also warrant your attention.

Management’s assessment of going concern

You are now required to perform your own assessment as to whether there is substantial doubt about your company’s ability to continue as a going concern within one year after the date you’ll be issuing your financial statements (so if you file your 10-K in March 2017, you would need to assess your ability to continue as a going concern through March 2018).

If conditions or events raise substantial doubt about your ability to meet your obligations, you need to consider management’s plans to mitigate those doubts if (1) it is probable you can implement those plans and (2) those plans will mitigate the doubt.

Substantial doubt about the company’s ability to continue as a going concern will require expanded footnote disclosures that cover the period through 12 months from the date of financial statement issuance (instead of prior disclosures that focused on 12 months from the balance sheet date).

SAB 74 disclosures for other new standards

Don’t forget, you also have SAB 74 disclosure requirements for other new accounting standards, including:

  • Leases, which is scheduled for adoption in 2019 for public companies and 2020 for private companies. Example language beyond standard boilerplate might include:

    “The Company’s leases are limited to operating leases for the Company’s corporate headquarters and regional sales offices. Management is currently evaluating the impact of adoption. While management cannot yet estimate the amounts by which its financial statements will be affected, the Company has identified the following changes. The Company expects the recognition of expense to be similar to current guidance under the new standard. And there will be a significant change in the balance sheet due to the recognition of Right of Use Assets and corresponding Lease Liability. The Company plans to adopt the new Leases standard effective January 1, 2019, following a modified retrospective transition method.” 

    An item to consider highlighting in your MD&A discussions would be any expected impact on debt covenant financial ratios caused by leases coming onto the balance sheet.

During this refresh process, keep at the top of your mind the changes that have caught your attention or caused you concern. Provide enough information to investors and analysts to help them understand the significant impacts of new standards on your business.

No one likes to be at the bleeding edge by expanding disclosures before they have to, but don’t be left behind. Expect that across the board, companies will be sharing expanded disclosures about new accounting standards this 10-K filing season—particularly related to the new revenue standard.

You will be the odd man out if you don’t make your own disclosures more robust.

The exact language you use for your disclosures depends on your facts and circumstances, of course. Feel free to contact us if you have any questions about the accounting changes ahead and how to deal with them.

Diana Gilbert, who heads our Technical Accounting Group, has been a member of the RoseRyan dream team since 2008 and has 30 years of professional experience. Frequently tapped for her insights by Compliance Week, Diana excels at technical accounting, revenue recognition, SOX/internal controls, business systems and process improvements.

, , , , , , , ,

Rethinking revenue and realizing opportunities in the new rules

It’s game time. Deals your company is making now could be affected by the new revenue recognition standard, and the effective date will be here before you know it.

This is why it is so important for finance organizations to actively process the rules, consider the potential impacts and plan ahead. There are opportunities to be realized as well as risks to be minimized—all of which can be done only if the company takes a strategic approach well before the deadline.

The changeover to the new rules is way more than an accounting exercise—reveal RoseRyan finance pros Diana Gilbert and Pat Voll in a new report, A strategic playbook for taking on the new revenue recognition rules. Their guide lays the foundation for how companies can make a smooth, thoughtful transition to the new rev rec standard.

Educate the team: Immerse the key players in the rules and gain an understanding of the big differences. There’s no shortage of analysis and interpretations of what all the changes mean. Look for webinars from sources you trust and get your auditor’s perspectives on the new standard, and share what you find with the key players in your organization.

Spread the love and make it a cross-functional thing: Get other stakeholders in the company involved, early and often. We’re talking about the big R—revenue!—and the changes could potentially impact many functional areas of the company. You want to gain perspectives from key stakeholders and share information—the impacts of the new rules can be huge. There are opportunities to change how you do business, and you want to be sure they’re part of your consideration.

Take the new rev rec rules for a spin: Identify sample arrangements that are representative of how you do business and analyze them under the new standard. You’ll want to understand the impact to individual types of contracts as well as the overall impact to the financial statements. This will help you understand what new estimates you will need make and identify data sources and or systems that you may need to develop.

Do the FASB 5-step: Take your representatives arrangements through the new standard’s five-step process. All the data you gather can be used to develop a model to estimate the impact of the new rules.

Evaluate your options and choose your game plan: Step back and reflect, once the potential impacts become clearer. Changes to contracts and incentive plans may need to happen. So could changes to how you package certain products or even how you fundamentally sell them. This is a big deal.

Normally, implementing new accounting rules impacts only the accounting department. This one is different—the changes to rev rec could change how the company does business. With what little time you have left before the standard takes effect, you need to take advantage of the potential opportunities and thoroughly evaluate your options. (The new standard will be applied to filings starting after Dec. 15, 2017 for public companies—that’s just six quarters away!)

Many companies have a major undertaking ahead of them as they evaluate and adopt the rules. The full extent of the effort should not be underestimated, or you’ll get caught in a painful crunch. The timeline will continue to shrink and so will resources as companies go through their analysis.

With pragmatic guidance and specialized expertise at the ready, savvy companies can avoid mishaps and tap into certain opportunities they might not have thought about before.

Kick off your transition to the new way of accounting for revenue by downloading A strategic playbook for taking on the new revenue recognition. The guide goes through the why, who, what and how of adopting the standard and includes helpful examples of how the rules could affect pricing and contracts at tech and life sciences companies.

, , , , , , , , ,

Conquer complexity: Get briefed on the latest accounting updates

In the accounting world, the rules are ever changing. Large in scope and long awaited, the new rule for recognizing revenue continues to get clarifications in the months leading up to its effective date. The new leasing standard is finally here as well and sharing the attention. Those are just the biggies—the Financial Accounting Standards Board has been coming out with a flurry of changes in recent months, and regulators are paying attention to what you are doing with them. There’s a ton of information to follow to stay compliant.

How equipped finance teams are to keep up with all the moving parts varies quite a bit. They oftentimes find it beneficial to lean on technical accounting experts who can decipher the never-ending landscape and help with interpretations. Such experts can help them stay on track in understanding the latest accounting refinements, transition-method choices and effective dates. Diana Gilbert, senior consultant at RoseRyan and head of our Technical Accounting Group, helped many companies get up to speed during the June 2 webinar, “Demystifying the Latest Major Accounting Changes.”

This fast moving, 90-minute, all-out binge covered the latest twists and turns that have come out from FASB and regulators over the past year. Some changes have simplified things. Others will have a narrow effect. And many will force finance teams to do some soul searching as the deadlines near. Contracts and compensation plans may need to be revisited.

Diana filled in listeners (most of whom were from life sciences and technology companies) on the five topics below, along with other changes, and gave timely advice along the way.

Revenue recognition: Companies that don’t have a game plan for the new revenue recognition standard are running out of excuses. The SEC has been “aggressively” referencing the new rule in recent speeches to let companies know they will be watching what gets said in disclosures, Diana said. Boilerplate, vague language won’t cut it much longer.

“This has been out there since 2014, so they are going to question why you’re still evaluating it now,” she said. “If you’re honestly, sincerely evaluating it, then just be prepared for the questions. But if you’ve done your evaluation and pretty much do understand the impact, then think about including more detailed disclosures, particularly about decisions you’ve already made,” such as the transition method the company will be taking and the planned adoption date.

Leases: The new standard finalized in February will bring what we refer to as operating leases today onto the balance sheet. The rule applies to leases of property and equipment with terms of at least one year and centers around the lessee’s “right of use” of an item (the obligation to pay for that right is what will appear on the liability side of the balance sheet).

The new rule could change behavior, Diana predicted. “Think about it. If you’re going to have it on the balance sheet anyway, are you still going to lease it or would you buy it outright?” she said. “You might create new forms of leases that are clearly less than a year, without the option to renew, and you’ll have to deal with the issue every year. That may make sense for inconsequential arrangements. It will be interesting to see what happens going forward.”

Financial instruments: Public companies will begin following new rules on classifying and measuring financial instruments for filings submitted in 2018, and private companies will do so a year later. Equity investments that are not consolidated are generally going to be measured at fair value through earnings. In some ways, disclosure requirements have been simplified with the rule changes—companies won’t have to disclose their methods and significant assumptions for estimating fair value—and in other ways they have expanded.

Stock-based compensation: Companies have “a grocery bag of different changes” to deal with when it comes to improvements to employee share-based payment accounting, Diana warned. The most significant relates to deferred tax assets. When the changes take effect, companies will no longer record excess tax benefits and certain tax deficiencies resulting from share-based awards in additional paid-in capital (APIC). APIC pools are eliminated under the changes.

Diana said this is a “huge simplification” in terms of tracking share-based compensation, but the downside is the potential for more volatility in the income statement. This particular change is applied prospectively from the date of adoption (which begins after December 15, 2016, for public companies).

SEC comments: The SEC staff has always tended to question areas that involve judgment and subjectivity, Diana noted. In recent years, in particular, they have been scrutinizing the statement of cash flows and whether companies’ internal controls are effective. Diana recommended that companies be as clear as possible and use tables and charts to help tell their story.

“Comment letters come about because they don’t understand what’s happening,” Diana said. “Or it’s a complex area and they’re going to ask you questions whether you like it or not.”

Keeping tabs on regulators’ areas of emphasis and accounting standard-setters’ changes takes time and effort. Things are in constant motion, and companies need to stay on top of it all. That’s how they can help minimize the questions that come from regulators and any uncertainty that may arise during implementation. To save time and effort in understanding the latest accounting standards (changes through June 1, 2016), feel free to check out the 90-minute replay of “Demystifying the Latest Major Accounting Changes” here.

, , , , , ,

An executive briefing: Demystifying the latest accounting rules and what you need to think about

A flurry of effective dates, interpretive guidance and new rules—companies are processing a lot of information coming their way from the Financial Accounting Standards Board and the Securities and Exchange Commission. Some of the changes have been in the works for ages (we’re talking about you, revenue recognition), and now there are overlapping implementation periods and many, many questions on the part of finance teams that need to put all these rules into place. Is your head spinning yet?

Finance professionals not only need to make sense of the rules, but they also want to know what their auditors think of them and how their peers are going to approach them. For the accounting change biggies—like the new leasing standard—some companies will need to revisit their internal processes and they’ll have some tough choices to make on how they’ll proceed (Should any contracts be changed? How much do investors need to know now about the potential effect on the company’s balance sheets?). The impacts will vary by company and can vary widely. Some companies are getting surprised by how much.

We’ve noted before that FASB has been in the process of clearing to-do items off its own agenda and dumping them onto finance teams’ plates, making this the time to get a handle on it all. That’s why we have developed a 90-minute webinar for senior finance executives called “Demystifying the latest accounting rulings—what finance leaders need to know” so they can get a grip on what’s happening and how to deal with it. This online event will break down the newly effective standards and proposals from FASB plus updates from the SEC and the Public Company Accounting Oversight Board. Senior consultant Diana Gilbert, who leads our Technical Accounting Group, will guide you through it on Thursday, June 2, 10:00-11:30am PT. Read more about this webinar and register here: bit.ly/AcctgWebinar.

Get ahead of these changes. With looming, varied effective dates, you’ll need to prioritize and understand the impacts, all while keeping watch for more updates coming down the pike.

, , , ,

Get ready: FASB is dumping some big items on your to-do list

The Financial Accounting Standards Board has a bunch of resolutions that affect many companies. The board is offloading some of their weightier projects that have taken up a lot of time (several years!) on their docket.

Fortunately, they are giving financial statement preparers a lot of time to come to terms with the changes ahead, providing a couple of years to implement new standards for lease accounting and the classification and measurement of financial instruments.

The most highly anticipated one—the new leasing standard—will result in some companies looking more leveraged on their balance sheets, starting with their 2019 financial reports (privately held companies get an extra year). Companies that lease any property and equipment for one year or more will be impacted. This will be a really big deal.

In the works for a decade (the SEC called for a revamped standard in 2005), the new leasing rule created a rift during the ongoing convergence effort between FASB and the International Accounting Standards Board, leading the two boards to come out with two different standards. Call it a divergence if you will.

The IASB recently released their final standards and the FASB’s is expected this quarter. Companies will appear to be burdened by more debt than they do now, as disclosing leases only in footnotes will no longer be acceptable under GAAP. Studies estimate that the changes will raise the reported liabilities of U.S. public companies by $1.5 trillion to $2 trillion.

It is expected that the new rule will take more effort to put in place than the new revenue recognition standard (and that’s saying something). Consider that every lease must be reviewed with assumptions updated each reporting period. Under the new guidance, lessees will be required to present right-of-use assets and lease liabilities on the balance sheet.

FASB has passed down a couple of other big agenda items when it released its rules concerning financial instruments last month. Although not in the works as long as the pending changes to lease accounting, this project was also divisive for FASB and IASB. For FASB’s part, the board will require companies to follow new rules on classifying and measuring financial instruments in 2018 and financial instrument impairment in 2019.

FASB’s standard for how to classify and measure financial instruments will be relevant to most companies, in particular those that have equity method investments that are not currently measured at fair value. Current fair value measurements and disclosures can be confusing to investors, and the new rules are intended to simplify things. Companies can adopt parts of the standard early if they wish.

As for the new revenue recognition standard, the Joint Transition Resource Group had its last scheduled meeting in Q4 2015 and will reconvene if new issues arise around implementation of the new rule. The FASB is expected to finalize proposed amendments to the standard this quarter. So the rules are settling, and there is no more reason to delay your implementation efforts. You are already in the first fiscal year that will be effected by the new standard when you implement in 2018.

FASB’s agenda will appear a bit thinner by the second quarter of 2016, while yours has grown. Let the fun of implementation begin!

Diana Gilbert has been a member of the RoseRyan dream team since 2008 with almost 30 years of professional experience. Frequently tapped for her insights by Compliance Week, Diana excels at technical accounting, revenue recognition, SOX/internal controls, business systems and process improvements.

, , , ,

Putting the E in “revenue”: A big challenge of the new rev rec standard

Accounting professionals who have been involved with revenue for many years can recite the four criteria for revenue recognition as quickly as they can their children’s names—it just becomes second nature. For people less familiar with the process, I have used a mnemonic—it’s like learning your ABC’s but without the AB—you can sort the criteria into Collection, Delivery, Evidence, and Fixed Price (C, D, E, F). Gimmicky, but it works.

Well, we’re all going to need new hints for taking on the new revenue recognition standard when it goes into effect. The adoption date may be a ways off with FASB’s recently announced one-year delay, but finance teams still need to get their heads around the changes. Implementation challenges are ahead, and contingent revenue related to bonuses and penalties will be particularly challenging for some organizations.

The new big “E”: Estimates
While many of the same concepts will still exist, the framework of the standard moves to a five-step process rather than relying on criteria. So while collectability, delivery, evidence of the arrangement, and even some aspects of fixed or determinable pricing still come into play, that last aspect is where I see the biggest challenges.

If I had to create a new term for what we currently view as the “fixed or determinable” part of rev rec, I would call it “fixed or estimable” for the new standard. It requires, in almost all circumstances, entities to estimate the amount of contract consideration that they believe they are entitled to (assuming that recording such revenue would not likely result in a significant reversal of revenue in the future). So, there will be more judgment involved and this will require a change in practice.

Much has been written about how the new standard will require organizations to not only make many more estimates but have systems to support those estimates, provide more disclosures in their filings, and have controls to ensure that the system that supports the estimates is controlled—this isn’t about someone just throwing a dart at a board! This is why now is the time—while we all have it—to take a close look at your systems and processes and decide whether they’ll need to be modified to make room for the flexibility that’s needed when you’re dealing with estimates.

You say tomatO, I say tomAto: A bonus and penalty can be the same thing!
How is this different than current practice? Consider this pretty straightforward example of how a contract with a bonus (or penalty) provision would be treated today versus the new standard. Keep in mind this deal (from an economic perspective) can be structured using either a bonus or a penalty.

Assume Customer A purchased a single hardware element that qualified for separate accounting (i.e., it is not a multi-element arrangement). The vendor structures the deal at a fixed price of $10K for Customer A with the understanding if the product meets certain performance parameters after 60 days (i.e., uptime), the vendor gets a bonus of $2K. Then consider a deal that same vendor makes for Customer B: It charges the organization $12K with the understanding it would have to give back $2K if those same parameters are not met.

Current U.S. GAAP treats both these contracts the same—it is a classic “substance over form” example and the reality is that both customers negotiated the same deal. But there’s that $2K unknown; since it does not meet the fixed or determinable criterion, the vendor cannot count the $2K contingent amount as revenue until that 60-day contingency passes (at which point both the vendor and the customer will know if the uptime spec was met). It’s the same scenario even if the vendor can show that 100% of the time it has achieved the specs it’s promising.

Now, fast-forward to the new standard—this contingent revenue will have to be estimated and recorded up-front. The result is binary—either the vendor records the $2K payment or not. This time, if the vendor has a strong history of meeting its performance specs, it would book the $2K. Or it could estimate a weighted-average probability amount if the amount it expects to receive falls within a range of possible outcomes. This would be more appropriate if the contract bonus depended on a percentage of spec achieved (i.e., a different example).

The bottom line
In almost all companies, a purchase order is a big factor for determining the ceiling for revenue recognition. Using our super-simple example above (if only all rev rec determinations were that easy!), the vendor may receive a PO of $10K from Customer A but $12K from Customer B. But let’s say Customer A ends up following up with a second PO for $2K when the performance bonus was earned—just as the vendor predicted. Under the new rule, the vendor would have already recorded $12K for that contract even though the PO said something else—this discrepancy could create challenges for many companies from a systems perspective.

Also important to understand is that the first step of the new standard—determining the contract—contains the old collectability criterion in it. Put another way, you can’t have a contract if you don’t have a contractual right to payment with a credit-worthy customer. In our example, the contract value is “potentially” $12K regardless of the amount and timing of POs received.

Ultimately, companies need to have a process in place and should look at how their ERP system may handle situations like this. Manual, off-line, Excel-based tracking may seem like a reasonable solution, but in my experience, it introduces too many risks for errors and inefficiencies.

In addition to the accounting considerations, the new standard could let sales organizations give customers more contracting options. Often, the finance or accounting organization has had to “hold back” certain deal structures to ensure revenue rules were met. Given the focus on the big “E”—estimates—in the new standard, many organizations will find that they can create contracts with more value for their customers and alter contractual language, win more business and, in turn, increase profits—although that is just my estimate!

Looking for more insight on the new revenue recognition standard? RoseRyan and FinancialForce.com teamed up for a new report that gives companies a starting point for planning for the changes, explaining who should be involved, what areas of the company should be impacted and how to move forward. Click here to download the report: Quick guide to revenue recognition.

John Cook is a member of the RoseRyan dream team. He is a CPA with over 25 years of experience working in finance and accounting organizations in Silicon Valley with a focus on operational finance and technical accounting.

, , , , ,

Coming up with a game plan for revenue recognition

Consider taking the new revenue recognition rules out for a spin. It could be a short test drive, with just a sample of current contracts sitting in the passenger seat so you can see how the changes feel and how drastic they may or may not be to your company.

The point is to explore the impact of the new rules and determine if any of your processes, systems and contracts need to be adjusted before the rules go into effect. It’s much easier to consider the changes now than when a deadline is staring you in the face. That was the overriding theme of a recent Proformative.com webinar called “Revenue Recognition in 2015: What Your Company Needs to Get Done” with speakers Steve Jackson, a senior consultant at RoseRyan, and Mike O’Brien, General Manager, Financial Management Applications, at FinancialForce.com, a cloud ERP provider on the Salesforce1 Platform.

Changing your view of revenue
It’s been nearly a year since standard-setters released the new rules last May. Since then, companies have, at the very least, digested the literature (if not, it’s time to get cracking!), but what they’ve done next varies. Some have pressed the Financial Accounting Standards Board to make tweaks and give companies more time to adopt the standard while others are moving full speed ahead and are exploring the impacts.

During the Proformative event, several hundred attendees were polled on their plans. Just 15% of the webinar attendees said they have a plan in place to deal with the new rules while 35% said they’re still mulling over the guidance and observing what other companies are doing. “For those of you who are early in the process or don’t know what to do yet, don’t fear, you are not alone,” O’Brien said. “I talk to a lot of customers every day, and some are further down the line, but in fact some companies haven’t fully embraced the standards from a systems perspective.”

As expected with a rule of this size and significance, FASB and the International Accounting Standards Board are hearing about implementation issues and considering whether to clarify anything (most recently, FASB agreed to propose an update that would make clearer how to account for licenses of intellectual property and identify performance obligations).

We’ll all have to stay tuned. Under the current timeline, public companies’ financial statements won’t reflect the changes until 2017 (beginning with reporting periods that start after December 15, 2016; private companies get an extra year). Finance and accounting teams need the time between now and then to get a grip on potential impacts, prepare their systems for the changes, and give investors a head’s up for any shift in financial results.

One way to truly understand the impact? “Go through the motions of closing a month as if the new rules were in effect now,” Jackson suggested. “It’s important that you try to understand the impact so you’ll know what you’re dealing with when building your full plan,” he said.

For those 2017 reports, public companies will be showing three years worth of comparative information, “so activity that is taking place now will be part of the financial presentation” in that first year, Jackson noted.

Where to begin
Jackson recommended viewing the adoption as you would a big tech system upgrade or an acquisition of another company. Like those big projects, you need to do your homework, put a team in place to tackle it and hatch a plan. For some companies, Jackson explained, the work may involve a just few people while others will need to supplement their skillsets with outside resources.

Ideally, the person spearheading the endeavor should have strong project management and communication skills. “As you implement the new standard, your revenue could be different in 2017,” Jackson said. “So as you forecast to shareholders and analysts what you believe revenue and earnings per share are going to be, that needs to be incorporated.”

To get to that point, companies should take these actions:

  • Come up with an overall plan and calendar. Treat it like a big project, which it is.
  • Formulate your team and make sure all other relevant departments are involved. Some companies may need to include sales, IT, human resources (if any compensation plans are tied to revenue), legal, tax, investor relations. Also consider getting other executives, the audit committee and external auditors up to speed with your plans and evaluations.
  • Manage your investor communications. Give outside observers a sense of the potential impact. So far, as required under the new rules, public companies are hinting at how the new standard will affect them. They have either said, in general terms, that it could have a significant impact on their financial statements or won’t have a material impact.
  • Check all your financial systems to see if they can accommodate the changes and what your vendors have planned. “You don’t want to switch on new software the first day of the reporting quarter,” O’Brien said. “If your vendor doesn’t plan to comply or make the application available to you, you need to know now.”

The overall message? It is best to plan ahead. Not every company will be deeply affected by the new changes, but every company should be considering the level of impact at this time.

Watch the replay “Revenue Recognition in 2015: What Your Company Needs to Get Done,” which took place on Proformative.com, a website for senior finance executives.

, , , ,

Hot topics for finance departments in 2015

There’s a tension for finance organizations that go public. Throughout the year, they are faced with new rules from accounting standard-setters, new guidance from accounting firms and new direction by regulators that could affect them directly.

Last year was no different as the Financial Accounting Standards Board issued 17 Accounting Standards Updates (ASUs), up from 12 in 2013, including a real biggie (the new revenue recognition standard), and the regulators continued to be active and forceful. On top of this, privately held companies are getting more rules sent their way, and an increasing number are considering whether they too should get involved in the public markets.

No matter where your organization lies in its cycle—whether you’re in a startup or a fully fledged publicly traded company past the early, shaky days of trading—you have many issues to face in the coming year as your team puts together its financial reports and communicates with investors. Here are recent changes you should keep in mind, depending on your situation:

Taking on the new revenue recognition rule: By now companies should be past the evaluation stage and their plan to implement should be nearing completion. They should start tracking their transactions to see how they’ll play out under the new guidance.

Until formal adoption in 2017, companies must disclose the anticipated effect the new standard will have on their financials, so knowing the magnitude of the change is a critical initial step. It could lead to adjustments in processes and affect how contracts are drafted. Moreover, companies need to have this type of data around now to decide whether to adopt the standard retrospectively (which will include 2015 financials) or prospectively (beginning January 2017).

The entire endeavor will go beyond the finance department. As we saw with the implementation of the previous revenue recognition standard, possibly business practices and certainly revenue accounting processes and systems will need to adapt to record revenue transactions correctly.

Simplifying matters for private companies: The good news for private companies is FASB’s Private Company Council (PCC), now a year into its Decision-Making Framework for determining the situations when private companies can use an accounting alternative, issued four PCC-consensus ASUs in 2014. With the goal of simplifying accounting and reporting for private companies, these new ASUs should reduce private companies’ cost of compliance.

      • 2014-02: allows private companies to evaluate goodwill impairment when a triggering event occurs rather than annually.
      • 2014-03: provides a simpler method of accounting for derivatives.
      • 2014-07: provides a simpler alternative than the variable interest entity (VIE) model for accounting for leases under common control.
      • 2014-18: hot off the FASB presses in time for Christmas, this ASU simplifies private company accounting for intangible assets acquired through a business combination.

Preparing for public-company life: Depending on your viewpoint, there has been a positive effect of the reduced reporting and SOX compliance provisions from the JOBS Act in the increased number of IPOs in 2014 (a 44% increase over the number of 2013 filings). And IPO and follow-on public market financing activity don’t seem to be tailing off so far as we start 2015, particularly in the Bay Area.

But before private companies rush to Wall Street, they need to remember that despite a one-year exemption from the requirement to have their auditors sign off on SOX, management must still include their own assertion regarding internal controls in SEC reports beginning with the second 10-K and will want to have effective internal controls way before then. The auditors will still want to get comfortable in knowing management is doing what they say they’re doing. (For more about braving the new world as a post-IPO business, see our recent intelligence report, Ensuring a smooth ride as a newly public company.)

Getting ready for the audit: Finally, the auditors also received their own flurry of new rules and warnings from the Public Company Accounting Oversight Board in 2014. Companies will end up feeling the effect as those changes trickle down, leading auditors to deepen their focus as they review certain accounting methods. The PCAOB has stated the new audit requirements and alerts were issued in response to insufficient audit procedures in areas that have a higher risk for misstatements and the incidence of deficiencies.

There is a new audit requirement surrounding transactions and financial relationships with related parties, including executive officers, as well as requirements that strengthen the auditing of significant unusual transactions.

Two new practice alerts were issued in the fourth quarter of 2014. One dealt with auditing revenue, specifically testing recognition and timing, evaluating the presentation (gross vs. net), internal controls, and the risk of fraud. Additionally, the alert addresses the application of audit sampling and analytic testing procedures.

The second alert reminds auditors about PCAOB standards related to auditing “going concern” with regard to the application of updated accounting and reporting guidance. The PCAOB’s agenda for 2015 includes a project to consider updating the auditing standard.

Companies will still need to be ready for the increased scrutiny by the auditors of their 2014 results as a result of the alert issued late in 2013 that seemed to sneak up on them as they went through audits last year. Be ready for testing of review controls, controls over system-generated data and reports, and management’s evaluation of identified control deficiencies.

We all recognize that the pace of change keeps accelerating and isn’t likely to slow down in 2015. Staying on top of what’s new and what applies to our specific situation requires quite a bit of focus. It is part of what makes your finance and accounting folks such valuable members of the team.

Julie Gilson is a senior consultant with RoseRyan and a CPA (inactive) with over 15 years working in finance and accounting with fast-moving public and private technology companies.

, , , , ,

Revenue recognition: Are you in denial?

After more than a decade in the making, the FASB and the IASB finally issued new revenue recognition rules. Now if the boards needed that kind of a runway, how hard will it be for companies to implement? This is what management should be asking themselves.

But I get a sense that some are just in shock and aren’t asking the questions that need to get asked — maybe because they thought the guidance would never be issued or maybe because it’s just one more thing on the corporate plate right now. I get it. When anyone is in a state of shock, they tend to adopt a couple of go-to coping techniques — denial and procrastination. It’s been just over three months since the rules have been issued, and I have been witness to those coping techniques as companies battle implementation shock. What’s developed is a culmination of misconceptions, which we dispel below.

6 common misconceptions about the new rules

#1 The new rules don’t impact my business.
The new rules will apply to all entities that enter into contracts with customers, including long-term contracts and licenses. You cannot determine the impact until you truly evaluate each of your revenue models under the new guidance. Companies should also look ahead to how their business is growing and changing, and consider the new rules in connection with possible changes in their sales models between now and the adoption date. And, at the end of the day, even if your conclusion is “no impact,” you’ll also need to document your evaluation, vet it with your auditors, and update your financial statement disclosures and policy documentation so that they coincide with the new guidance.

#2 The implementation date is far away, so I can afford to wait.
While the standard is effective Q1 2017 for calendar-based public companies, the guidance does not allow for prospective adoption. You have some choices in terms of adoption methodology, but no matter what you decide you’ll still be looking back to 2016 and possibly 2015 if you choose full retrospective adoption…and 2015 is just around the corner. As a result, you will need to assess current contracts and those that commenced several years before the effective date. Then, when you begin to consider systems, processes, financial planning, investor communications, that date will no longer look so far off — especially when you know implementation duties will be in addition to your day job.

#3 Implementation of the new rules is just an accounting exercise.
So many people believe that it’s something that their accounting department will handle. Quite the contrary! Consider the following: debt covenants (treasury), sales incentives (HR), customer contracts (legal), investor communication (IR), systems (IT), and internal controls (internal audit). Companies big and small will need to think operationally where these rules are concerned. A successful implementation should be a collaborative effort across the organization.

#4 The standard only impacts the timing of revenue.
The fact is the new standard is comprehensive and changes the way we look at contracts with customers, the concept of delivery as well as many other aspects of the revenue process. For example, some of the collaboration revenue of life science companies may be excluded from the revenue guidance if the other party to the deal is not considered a “customer.” The new guidance also considers whether there is a financing component when an arrangement extends beyond one year. And any company opting for the modified retrospective adoption approach may have to record a cumulative effect of a change in accounting principle, which means it goes into the “black hole” of retained earnings, skipping the P&L, never to be seen again.

#5 My financial systems are savvy and can handle the rule changes.
With the complexity of contracts, there is no simple “flip-the-switch” scenario that can be employed. All types of revenue models will need to be evaluated. The new standard utilizes estimates and judgments, which can pose challenges in terms of automation. Companies may also want to look at additional reporting functionality to support their estimation process. And with all of this, internal control processes both in and around their system capabilities will need to be reviewed and updated.

#6 These changes always get delayed.
While some of us remember fondly the days when the internal controls part of SOX kept getting delayed, keep in mind that SOX was a U.S.compliance initiative. The new revenue rules, on the other hand, were developed in collaboration with the IASB in an effort to move closer to a single set of global accounting standards. The boards took great pains in developing the new standard and laying down the transition date so that reporting of revenue would be consistently applied on a global basis. So while companies may continue to lobby for postponement, this could result in nothing more than wishful thinking. Investors are going to want their companies to plan ahead — the “wait and see” approach will put delayers at high risk for financial misstatements and delayed filings.

In the face of a sweeping standard that could have extensive implications, it’s easy to understand why anyone would deploy coping strategies and try to look the other way. But as you can see from this list, there’s a lot to be done and only a certain amount of time to get it done right. The best approach is to tackle one step at a time. Start with assessing the impacts to your business — financial, operational and external. Then develop a plan. Knowing what needs to happen and how you can get there is certain to to take you away from the depths of denial to a clear path to compliance.

Kelley Wall leads RoseRyan’s Technical Accounting Group, which provides technical accounting and SEC expertise to public and private companies on complex accounting matters and implementation of new accounting pronouncements.