By Brandon Fredericks, CPA | Senior Manager, Audit & Assurance
Now that summer 2019 is behind us, making the final push for ASC 606 revenue will be of the utmost importance for those remaining private companies. As a quick refresher from some of my other articles and webinars, the new revenue recognition model is a 5-step framework in which the primary essence of the principle is to recognize revenue that depicts the transfer of promised goods or services via contracts with customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. It doesn’t hurt refreshing ourselves on the 5-step model:
- Identify the customer contract
- Identify the performance obligation(s) within the customer contract
- Determine the transaction price
- Allocate the transaction price to the performance obligations identified within the customer contract
- Recognizing revenue when (or as) the entity satisfies the performance obligations
Seems simple in theory, yet, we are still encountering companies struggling with the complexity and magnitude of this new standard. Over these past several months of delivering on ASC 606 accounting advisory projects for adoption and implementation, we have seen common issues that have made those specific projects even more challenging. We wanted to take the time to share some of these pitfalls and how best to navigate around them before the clock strikes midnight.
- Pitfall #1 – “The assessment and implementation won’t take us much time at all”
Lessons Learned – So often we come across a company that believes this guidance does not apply to them or concludes with no thorough assessment that its impact will be immaterial. The fact is, the new standard applies to any issuing GAAP financial statements—regardless if you are Exxon Mobile or a 5-person machine shop. In addition, regardless of what affects the standard may or may not have on your operations and reporting, the time needed to gather, assess, analyze, and conclude on this new standard takes a substantial amount of time. Therefore, financial leaders need to have a defined project plan and execute to that plan to ensure proper and timely implementation.
- Pitfall #2 – “Not fully understanding the expanded disclosure requirements”
Lessons Learned – The new standard not only includes new accounting methods, but also discusses new disclosure requirements within the financial statements. Financial leaders need to understand what expanded disclosures are needed. Since most of our clients are defined as private companies, we are fortunate in the sense of reduced disclosure requirements compared to our public company counterparts. To that notion, it would be in private companies’ best interest to become familiar with the numerous practical expedients available to make the adoption and implementation process more streamlined.
- Pitfall #3 – “Insufficient analysis on promotional allowances”
Lessons Learned – The new framework was designed to be much more ‘judgment based’ and that is very evident in Step 3 where the term variable consideration must be evaluated. In short, variable consideration is the monetary value expected to be collected or conceded on a given contract. Variable consideration takes on many forms and is considered one of the more challenging areas of this new standard. Promotional allowances are one example of this. What we are finding is promotional allowances are specific to customers and can take on many forms. Companies that are including sale team representatives are overcoming this pitfall the best, as these team members know and understand customer agreements better than anyone. Key management judgments are frequent in this area and need to be well documented.
Pitfall #4 – “Assuming you can elect how to recognize your revenue”
Lessons Learned – Through our ASC 606 ‘roadshows’ to educate companies, we are frequently presented with a question of whether a company can make a unilateral election of revenue recognition. To refresh, ASC 606 allows revenue to be recognized ‘over time’ or at a ‘point in time.’ The guidance, though, is specific in the sense all revenue is recognized at a ‘point in time’ unless specific criteria are met. We coach our clients through this critical point to ensure the methodology to recognize revenue is appropriate for their specific performance obligation(s). Therefore, finance leaders need to understand these specific criteria points to ensure proper revenue recognition methods.
- Pitfall #5 – “One person can handle the adoption and implementation of ASC 606”
Lessons Learned – One of the biggest lessons we have realized throughout this process is companies that engage multiple teams, departments, and/or individuals are rewarded with a more complete and accurate implementation. The new guidance affects so many areas of a business that without a collaborative mindset, companies run the risk of shortcuts that could have lasting negative implications. Financial leaders should approach ASC 606 not as a ‘one-time event,’ but rather as a project to create an enhance an operational process.
We have covered a lot in this short time, and we want to leave you with some tangible action steps that you can take right now to avoid these pitfalls and ensure proper implementation of ASC 606.
Call to Action
- Assess where your company is with ASC 606 adoption. With ~3.5 months to go to year-end, are you satisfied with the progress made by your company? Are the right questions being asked and analyzed?
- Involve your auditors in this discussion. Regardless if you obtain a compilation, review, or audit, seek professional guidance from your CPA professionals. They should be able to offer insight into this guidance that makes the process easier to tackle.
- Commit to a defined project plan. We find the companies that involve a project management aspect to implementation are far more successful in their efforts. We encourage companies to define key milestones and hold everyone accountable. As we indicated above, this project takes time so plan accordingly.
We hope this article has inspired those companies not yet fully implemented on ASC 606, to kick it into gear and cross the finish line. This standard is robust and can be complex. But with the right people involved and a solid plan, execution can be achieved – contact me today to discuss further.