Back in May 2014 the Financial Standards Accounting Board (FASB) issued Accounting Standard Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606). This update will have a significant effect on revenue recognition guidance and therefore accounting policies related to revenue recognition. This ASU replaces all separate industry specific guidance related to accounting for revenue (for the most part, there are some scope limitations), and consolidates revenue recognition guidance into one primary topic in the codification. The result of this change is that Organizations need to consider the impact of this update on their accounting policies and financial statements sooner rather than later. Changes may be needed to accounting policies, accounting systems, and Organization operations to ensure Organizations are operating in compliance with the new accounting guidance once required. Public issuers must implement ASU 2014-09 by fiscal year 2018 while nonpublic Organizations must implement by fiscal year 2019.
The new guidance will require all Organizations to recognize revenue under a new five step process. The five step process is broken down into the following stages:
- Identify the contract
- Identify the separate performance obligations
- Determine the transaction price
- Allocate the transaction price to separate performance obligations
- Recognize revenue when (or as) the Organization satisfies the performance obligations
This new process must have management’s significant assumptions and related accounting policies disclosed in the financial statements, and established prior to the effective year. As this new guidance is still a year or two out from needing to be implemented, you must begin to assess documentation and information necessary that will be needed to comply with the new guidance as implementation will require either a full retrospective or modified retrospective approach. Beginning to assess information needs earlier for finance and accounting teams will reduce stress and implementation time as we near the effective date.
There will be specific key changes related to construction contractors who have been on a percent complete method of revenue recognition. Some of those changes are that change orders will be assessed as contract modifications and must be treated one of three ways, either as a new and separate contract for additional work, the new contract might act as to terminate the prior contract and replace, or continue as an existing contract stepping into the place of the old. Another key change will be documentation and analysis required by management related to uninstalled materials. Purchased but not installed materials will only be recognized in revenue to the extent of the materials cost, the related gross profit will not be recognized until those uninstalled materials are subsequently installed. Finally the last significant change as a result of this new guidance will be financial statement disclosures. They will be required to be expanded to provide a financial statement user background information on how management analyzes each of their contracts in relation to the five step process above. These changes may result in expanding on the information most finance and accounting teams are tracking now and will result in more documentation.
So, what do you need to do to prepare? Talk with key stakeholders now, key management, your accounting team, key operational support, bonding agents, and possibly clients to ensure everyone is aware of the upcoming changes. Contracts may need to be modified to comply with the new revenue guidance and will need to be closely analyzed by finance teams in order to ensure an Organization’s financial statements comply with the new revenue recognition guidance. Holding these discussions earlier than later will ensure your Organization is set up for successful implementation. Please reach out to your regular Peterson Sullivan contact if you would like to discuss further. We are in this with all of you and look forward to ensuring all of our clients enjoy a successful implementation of ASU 2014-09.
For more information, please contact Audit Senior Manager, Nick Bilotta at 206.382.7813.