Are You Ready for Changes in Revenue Recognition?
Changes in revenue recognition were made necessary due to light guidance (especially for the international standards) and inconsistent pronouncements in the US.
Companies used to make up their own standards for when to report income. For example, much of what Enron did in the late 90s and early 2000s was legal and approved with their “Mark-to-market accounting,” which produced profits, but not actual cashflow or delivery as required by contract.
The Generally Accepted Accounting Principles (GAAP) Standards had over 200 different pronouncements, leading to conflicting rules. Whenever a new situation occurred, the GAAP simply created a new standard. In addition, the International Financial Reporting Standards (IFRS) also did not say much about revenue recognition.
Changes in Revenue Recognition Will Bring Order To Financial Reporting
New revenue recognition rules are being implemented to clarify how businesses across disciplines report their income. Essentially, the new revenue recognition principles state that companies should recognize revenue as they fulfill their promises or obligations to provide goods and services to their customers.
Under previous standards, there were different determinations for economically similar transactions. These discrepancies impact the compatibility of revenue across different countries and industries.
The Usefulness of Revenue Recognition
The GAAP is changing from over 200 pronouncements to a more unified approach. These changes in revenue recognition will need to be implemented in 2017 and 2018.
In the previous standard, the GAAP simply responded to specific concerns and issues as they popped up over time. The hope for the new changes in revenue recognition is that they will lead to greater consistency in financial reporting.
For example, the automotive, telecom, and software industries each had their own reporting standards. The changes in revenue recognition can hopefully unify reporting standards across these industries, and create a stronger financial norm.
The Approach to Revenue Recognition
New revenue recognition standards will bring a consistency to reporting across industries and from nation to nation.
Have you begun your journey to discover and set up your process for appropriate revenue recognition? If not, don’t worry. There is a five-step model companies will be required to follow:
- Identify the contract(s).
- Identify the performance obligations in the contract.
- Determine the transaction price.
- Allocate transaction prices to the obligations in the contract.
- Recognize revenue when the performance obligation is met.
These changes can have a significant impact to businesses impacting not only financial statements, but also the way contracts, compensation agreements, internal controls and processes are written.
What You Need to Consider
This is not a small change. The deadline for the transition period to implement new processes was extended once. It probably won’t be extended again. Some questions you may want to be asking in preparation for changes in revenue recognition include:
- How are you currently reporting revenue?
- How will these changes impact your current process?
- Which departments will be impacted?
- Who will ensure these processes are being implemented correctly?
- How much time will the process take, and who can answer your questions?
Stronger revenue recognition principles can create a global unification across industries, transactions and capital markets. But in order to get there, companies will need to be able to answer the above five questions.
If you are struggling to find the right answers, it’s time to consult a professional, who is experienced in the new processes to help guide you in the transition. Contact Revenue Recognition professionals today!