Is your company recognizing revenue correctly?
November 21, 2019
by Trevor Peterson, audit senior manager, Tanner LLC, and Goddard School Business Advisory Council member
Is your company recognizing revenue correctly? Some of the most significant new accounting standards went into effect for non-public companies on January 1, 2019, and public companies in 2018, so if you aren’t or aren’t sure, listen up!
CPA or not, keeping up with the generally accepted accounting principles, as outlined by the standard-setting Financial Accounting Standards Board (FASB), is complex. The issue at hand is understanding the correct and appropriate recognition of revenue. In theory, knowing and recording when revenue is earned and expenses are incurred may seem straightforward (e.g. I get the money, I record it, I spend the money, I record it). However, in reality, financial statement auditors spend much of their time verifying that revenues and expenses are recognized appropriately, at the right time, in the right place, and according to the established principles.
The ramifications for incorrect revenue recognition to a company, large or small, public or private, can be severe and when discovered, especially at critical growth or acquisition points, permanently damage the reputation and value of the organization.
The updated Revenue portion of the Standard (Revenue from Contracts with Customers) is specifically focusing on ensuring that organizations are appropriately recognizing revenue at the point of goods and services delivery in an amount reflecting what was expected. The Revenue Standard outlines five steps that must be followed to fully adopt the new standard:
- STEP 1: Identify the contract with the customer
- STEP 2: Identify the performance obligations in the contract
- STEP 3: Determine the transaction price
- STEP 4: Allocate the transaction price to the performance obligations
- STEP 5: Recognize revenue when (or as) the company satisfies the performance obligations
Unfortunately for companies, this new standard takes significant time and effort to properly implement and document the new revenue recognition model because each of the five steps has unique and sometimes complex considerations that vary from company to company. Even for companies within the same industry, the conclusions may differ based on the contracts.
As an example of the complexity of the issue, the accounting firm KPMG published a 1,033 page guide on implementing the new revenue standard. Steps one through five made up about half of the guide, the other 565 pages were in the “other” category. Why is this significant? Because of the complexity of the changes, the guide had to break down significant concepts that weren’t even discussed in the five basic categories.
SO WHAT’S NEXT?
If you, your company or firm hasn’t initiated the process of evaluating and implementing the new Revenue Standard, it would be wise to start now. Investors and banks are expecting these changes to be implemented so don’t be caught unprepared, or worse yet, with incorrect revenue recognition at the point of critical growth or acquisition. There are many resources available online and CPA firms are a credible place to find guidance. Looking at the 10-K filings for publicly traded companies similar to your business is a good place to start.
ABOUT THE AUTHOR
Trevor Peterson is a senior manager in the audit practice at Tanner LLC. As a senior manager, he works with private and public clients in a variety of industries, including construction, manufacturing, and technology. Trevor received his bachelors and master’s degree from Weber State University.