Non-Financial Assets and the New Standard

The FASB has launched a proposal to clarify the basis for accounting for the sale of non-financial assets within the context of the new revenue standard.  

As there has never been specific guidance to address the sale of non-financial (or not core to the business) assets, it is ASC 606's aim to help clarify such instances.  In particular, the real estate industry should take notice as it is common for sales to take place which include non-financial assets.

Refer to this article at CFO.com for more detail.

The FASB Tackles Collectability

Can you mitigate your credit risk for collectability under the new revenue standard?  What if you don't have a contract for accounting purposes?  Any relief?  ….The FASB takes a shot at these and more at its recent meeting. 

                                                (by Sam Kerlin, Partner, The Argon Advisors)

 

The FASB met on February 10, 2016 to discuss feedback on proposed Accounting Standards Update, Revenue from Contracts with Customers Topic 606:  Narrow-Scope Improvements and Practical Expedients.   The feedback came from various accounting organizations as well as preparers and users of financial statements.  The Board largely upheld its proposed changes to the new revenue standard, with a few twists described below. 

Collectability:  Assessing “Substantially All,” Mitigating Credit Risk and Next Steps When no Contract Exists

The Board re-affirmed its position that in determining whether a contract exists, it must be probable the entity will receive “substantially all” of the consideration to which it expects to be entitled.  In approving the proposed language as currently drafted, the Boards underscored that the objective of collectability is to ensure the arrangement is “substantive”, “valid” and “genuine.” 

The amended collectability guidance clarifies that an entity should only consider amounts subject to credit risk.  That is, an entity may mitigate its credit risk through an advanced payment or by stopping to provide goods or services upon non-payment.  In this case, one would evaluate collectability on the transaction price related to goods or services expected to be transferred and not otherwise covered by the advanced payment.  This clarification could make it easier to pass collectability and conclude a contract exists for accounting purposes.

Interestingly, some respondents suggested that certain new collectability examples should be revised or removed.  Some respondents were concerned that the examples imply bright lines to define “substantially all.”  Other respondents thought the examples raise more questions.  For example, which GAAP should apply to transfers of control when an arrangement fails collectability and is thereby exempt from the control guidance under ASC 606?    

Departing from current GAAP, the new revenue standard often disallows revenue recognition upon cash receipt if no contract exists for accounting purposes.  The standard provides for two ways to release nonrefundable consideration into revenue, one of which requires terminating the contract.  However, contract termination can often jeopardize one’s ability to legally pursue payment from the customer.

To alleviate concerns, the Board re-affirmed a third way to release revenue where no contract exists.  An entity may release revenue when non-refundable consideration is received, control has transferred on the goods or services to which the consideration relates, and the entity has stopped providing further goods or services (and is allowed to do so).   This effectively allows an entity to recognize revenue without terminating the contract.

Noncash consideration:  to Fair Value or Not to Fair Value…and When?

Entities may transfer goods or services to a customer in exchange for something other than cash…let’s say equity/shares or bartered services (such as advertising).  The Boards affirmed that noncash consideration should be measured at fair value at contract inception.  This differs from current GAAP, which generally requires measurement of consideration when the equity instrument vests, rather than at contract inception.  It is worth noting, however, evaluation at contract inception coincides with other measuring events throughout the standard, including estimating stand-alone selling price or evaluating the presence of a significant financing component.

The Boards further re-affirmed that changes in fair value attributable to the form of noncash consideration such as changes in the stock price of a traded security would not be subject to the constraint of variable consideration.  As a result, fair value changes occurring between contract inception and final settlement would not be recorded as revenue, but rather presumably as gain or loss depending on other relevant GAAP.  Additionally, the Board discussed whether the definition of fair value for noncash consideration should be linked to the fair value guidance under ASC 820 and whether the fair value of noncash consideration should be based on the spot price vs a forward price.

Transition Items:  Clarification and Another Practical Expedient

The Board added a practical expedient for contract modifications upon adoption.  Instead of tracing each contract modification over time to the initial contract and applying contract modification guidance to each and every step along the way, an entity may perform a single overall allocation at the earliest period presented in accordance with ASC 606 (e.g., 1/1/16 or 1/1/18 for calendar year entities).  The entity would effectively allocate the total overall transaction price to the sum of satisfied and unsatisfied performance obligations (inclusive of all cumulative modifications) at that time.  Although this single allocation may nevertheless be challenging, it represents something of a compromise and is available to an entity regardless of whether it elects to adopt retrospectively or prospectively using a cumulative catch adjustment.

Upon adoption an entity must apply the new standard to all contracts “open” at the date of initial application (e.g., for a calendar year company, at 1/1/16 under the retrospective model and 1/1/18 under the cumulative catch/prospective model).  Contracts “completed” as of this date are exempt from evaluation under the new standard.  The Boards clarified the definition of a completed contract, noting a contract is completed if “all or substantially all” of its revenue is recognized using previous GAAP by the date of initial application.

Additional Items of Possible Relief:  Withholding Taxes and Remaining Performance Obligations

Current GAAP allows an entity to make a policy election to present certain taxes withheld from customers as gross revenue or net revenue.  The Board acknowledged that without the policy election entities may find it difficult (and costly!) to make a gross vs net determination for each jurisdiction where revenue is earned.  The Boards affirmed the proposed policy election allowing an entity to elect net presentation.  The Board suggested that gross presentation is not elective and, rather, would require the entity to perform a full gross vs net analysis before it could report revenue gross of taxes withheld.

The Board is considering a practical expedient for disclosures of remaining performance obligations where an entity does not estimate variable consideration to measure and recognize revenue.  Examples might include certain hosting or transactional arrangements where a series performance obligation exists.  The Board will consider this matter at a future time.

Sam Kerlin

Prior to joining The Argon Advisors, Sam was a partner at KPMG. Sam recently completed a rotation as an audit partner in KPMG’s Department of Professional Practice, the firm’s national technical office in New York City. Sam has served several global and public audit clients in software technology, pharmaceuticals and bio-manufacturing. Previously Sam also served as tax manager in KPMG’s Washington National Tax practice in D.C., specializing in mergers and acquisitions tax accounting. He spent several years abroad in Germany and Russia and is fluent in both languages. Sam’s rotation in KPMG’s Department of Professional Practice included serving primarily on the firm’s Revenue and Debt/Equity topic teams. Sam has also served as the lead partner on several public software and other technology companies in recent years and specializes in technology and healthcare industries. Additionally, Sam serves as a representative observer for KPMG on the AICPA’s Software Task Force. Sam helped implement the adoption of SFAS 123R, Accounting for Share-Based Payments, at several companies within the Southeast. He has served as a consultant for revenue recognition and accounting for income taxes on several advisory engagements and leads firm training in revenue recognition, income taxes, and accounting for business combinations. Sam is a frequent instructor/speaker for clients and national training events on various accounting topics, including FASB/IASB convergence, revenue recognition, and accounting for income taxes. Sam has also co-authored several articles of KPMG thought leadership and helped draft KPMG’s publication on the new revenue standard. He has also taught corporate taxation in the graduate school at Georgia State University Other Activities Member of Finance Society, Technology Association of Georgia Member of Program Committee, GaBio Sam holds a CPA license in the state of Georgia and New York. He graduated from Wake Forest University with a BA in Russian and Masters in Accountancy.

**Just Announced** FASB to meet Wednesday, February 10 on Narrow Scope Improvements #RevRec

The FASB announced today a meeting will be held on February 10, 2016 at 9 AM EST on Narrow Scope Improvements.  The meeting can be observed live via webcast or in person.  Attending in person requires registration at the FASB website.

Per the FASB website:

The Board will redeliberate changes proposed in its September 2015 Proposed Accounting Standards Update, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients, in light of stakeholder feedback received. The Board also will discuss whether to add a practical expedient to the disclosure requirement for remaining performance obligations in Topic 606.

Topics covered in the proposed ASU include the following:

  • Assessing the collectibility criterion
  • Presentation of sales taxes and other similar taxes collected from customers
  • Noncash consideration
  • Contract modifications at Transition
  • Completed contracts at Transition

CLICK HERE to view the proposed ASU.

 

Companies slow to prepare for the new revenue standard

KPMG recently polled financial statement preparers across various industry groups regarding their progress towards implementing the new revenue standard.

  • Less than 29% of corporate financial preparers say their companies have a clear plan to implement the new standard.
  • Less than 13% say they have completed an assessment of the effects of the new standard and are planning implementation.
  • 82% say they are still assessing its effects or have taken no action.

Public companies must apply the new revenue standard beginning after December 15, 2017, which includes all interim periods leading up to the reporting date.  Private companies are delayed one year.

Clearly, most companies are seemingly behind on implementing the new standard. But why?

Well, we've compiled some common myths and facts we've consistently heard from F/S preparers preventing timely implementation below:

  1. "This new revenue standard sounds like IFRS convergence 2.0.  It's never going to happen."  Yes, IFRS convergence has practically been delayed into perpetuity...but ASC 606 is happening.  The FASB has drafted and published the new standard and many  industries will face drastic changes to the way they account for revenue from contracts.
  2. "I don't see how the new standard will affect my industry at all.  My numbers won't change."  While many industries will see significant changes to the way they report revenue, it's true that some industries will see no impact to the top-line numbers they've historically reported.  However, under the new standard, companies will still have to modify disclosures on the F/S, update internal GAAP policies, make changes to their SOX programs, and potentially change the way in which they record and capture data.
  3. "It seems as if the standard is still being updated...I'm going to wait till it's finalized."  While certain provisions of the new standard are still being reviewed by the FASB (namely the licensing guidance), the core of the new standard will not change.  There are some key tasks to be performed that will not be affected by updates to the standard:
    1. Performing initial gap assessments and drafting new revenue models
    2. Understanding the data needed to comply with the new standard and current system limitations
    3. Updating accounting policies and revenue checklists
    4. Implementing SOX compliant contract review processes
    5. Training of accounting personnel
  4. "We will address the new standard internally as the convergence date approaches."  ASC 606 is complicated.  And it presents vast changes to the way many firms will be forced to recognize revenue.  It will most likely be extremely difficult to rely on internal staff with already busy schedules to A) obtain the high-degree of ASC 606 knowledge required to understand the unique challenges each firm faces, and B) implement those changes across different functions of the business (finance, sales, IT, legal, etc.).
  5. "We don't want to spend the money implementing the new revenue standard at this time."  Unfortunately, the demand for ASC 606 implementation is only going to increase.  As the KPMG study indicated, most firms have not started preparing for this substantial accounting change.  And since each company presents its own set of unique facts and circumstances, it will be difficult to find 'out-of-the-box', cheap, wholesale solutions.  The companies that start this process sooner will save in the long run.

Licensing Developments from the January 6, 2016 FASB Board Meeting

While no official decisions were made, the Board observed two major points in relation to the accounting for licenses.

Observation #1 - Under ASC 606, license renewals will not be recognized as revenue until the term of the license renewal begins.

Under current GAAP, license renewals are to be recognized once an agreement is made between the Licensor and the Customer, regardless of when the new license term actually begins.  Since no additional performance is required by the Licensor by extending the term of a license, delivery (the triggering event) has occurred.

Under the new standard, a Customer must be able to use AND benefit from a performance obligation before a Vendor can recognize revenue.  

Accordingly, a Licensor cannot recognize revenue from a term license renewal until the Customer has the right to use and benefit from the license (i.e. when the term actually begins).  

Observation #2 - The application guidance on licensing does not override the five-step revenue recognition model in Topic 606.

In other words, licensing arrangements will still be considered under the context of ASC 606.  The licensing sub-topic will work in conjunction with the new revenue standard and will not require Companies to evaluate licensing deals outside of ASC 606.

Upcoming FASB Meeting 12/16: Principle versus Agent Considerations (Gross vs Net Recognition) #RevRec

Refer to the FASB upcoming meetings page to register for the video conference. The meeting will be held Wednesday 12/16 at 8:00 AM EST.

The FASB will redeliberate changes proposed in its August 2015 Proposed Accounting Standards Update, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), in light of stakeholder feedback received. 

These redeliberations will be conducted jointly with the IASB as it redeliberates the proposed amendments to principal versus agent considerations in its Exposure Draft, Clarifications to IFRS 15.