As the effective date of the Financial Accounting Standards Board’s new revenue recognition standard approaches, there’s increasing pressure on audit committees to assess their companies’ implementation efforts. For public companies, the new standard will apply to annual reporting periods beginning after December 15, 2017 (including interim periods). Understanding the new standard and evaluating its impact is a complex undertaking.
The Center for Audit Quality (CAQ) has published Preparing for the New Revenue Recognition Standard: A Tool for Audit Committees to help committees fulfill their oversight responsibilities. The publication is organized into the following four sections:
The need to identify separate performance obligations — distinct promises to transfer goods or services — is critical. To make the transition to the new standard, companies may elect full retrospective application — which requires prior-period financial statements to be recast — or modified retrospective application — which doesn’t require recasting, but does require the cumulative effect of initially applying the standard to be recorded as of the initial application date.
The audit committee should look at how the standard’s impact was assessed and who was involved in the assessment. In addition, determine what company-specific factors were considered and when management will provide pro-forma financial statements that illustrate the expected impact. Finally, review how the company’s external auditor views the assessment.
When making the assessment, it’s important to seek input from a wide range of departments, including accounting, tax, financial reporting, financial planning and analysis, investor relations, treasury, sales, legal, information technology and human resources. The CAQ also urges audit committees to ask management about the standard’s potential impact on specific aspects of the company’s business. (See “How will the new standard affect your company’s revenue?”)
- A new revenue recognition model
Accounting Standards Update No. (ASU) 2014-09, Revenue from Contracts with Customers, established a new core principle for revenue recognition “to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” It created a model for recognizing revenue:
- Identify the contract(s) with a customer.
- Identify the contract’s separate performance obligations.
- Determine the transaction price, using extra scrutiny if a contract calls for variable consideration, such as bonuses, incentives, rebates or penalties.
- Allocate the transaction price to the contract’s performance obligations, if there are multiple performance obligations.
- Recognize revenue when (or as) the entity satisfies a performance obligation (that is, when the customer obtains control of the good or service).
- Impact assessment
This section assists audit committees in evaluating management’s assessment of how the new standard will affect the company. For some companies, the amount and timing of revenue recognized under the new standard won’t differ significantly from their results under current U.S. Generally Accepted Accounting Principles. But audit committees will still need to make the analysis under the new standard’s requirements to reach that conclusion. In addition, all companies will be affected by the new standard’s disclosure requirements, regardless of its impact on revenue. The new rules expand disclosure requirements and require qualitative and quantitative disclosures intended to provide information about a company’s contracts with customers. The disclosures must include information about revenue and cash flow stemming from such contracts.
- The implementation plan
This section helps audit committees understand and assess management’s implementation plan. It provides detailed questions audit committees should ask on such subjects as project milestones, progress reports, external auditor and third-party vendor views, adequacy of resources, qualifications of the accounting team, accounting policy and significant accounting judgments, systems and controls, and company culture.
- Other implementation considerations
The final section covers other considerations, including deciding on a transition approach, handling dual recordkeeping requirements for retrospective application, determining whether to consider early adoption and complying with new disclosure requirements.
The publication also includes a list of articles, technical guides and other resources for navigating the implementation process.
No time to lose
By now, public companies should have made substantial progress toward implementing the new revenue recognition standard. The CAQ’s publication can help audit committees evaluate the status of their companies’ implementation efforts and, if necessary, accelerate the process. For additional information, go to http://www.thecaq.org/preparing-new-revenue-recognition-standard-tool-audit-committees.