Understanding & Adopting the New Revenue Recognition Standard
Presented by, Mark Dauberman, CPA CGMA EMBA
Revenue Recognition
fromContracts With
Customers
A Review of Key Provisions
Application
•Effective dates: Nonpublic entities not having adopted standard as of June 3, 2020
Annual periods beginning after December 15, 2019
Interim periods within annual periods beginning after December 15, 2020
Core Revenue Recognition Principle
Revenue recognized upon transfer of
promised goods or services to customers
Amount reflects consideration entity expects to realize in exchange for those goods or services
Five Step Process
Identify contract with customers
Identify separate performance
obligations in contract
Determine transaction price
Allocate transaction price to separate
performance obligations
Recognize revenue when entity satisfies
performance obligations, or while
they are being satisfied
Ste
p 1
– • Contract agreement between two or more parties
• Criteria to be considered contract
• Parties to contract have approved provisions
and are committed to perform
• Rights and payment terms can be identified
• Contract has commercial substance
• Collection is probable
Identify Contracts
With Customers
Ste
p 2
–
Performance obligation is
enforceable promise to transfer
a good or service to a customer
Identify Separate
Performance Obligations
Mu
ltip
le
De
liv
era
ble
s
• Treated as separate performance obligations if distinct
Distinct if both of the following criteria are met:
Customer can benefit from good or service, either on its own or together with other resources readily available to the customer
The promise can be distinguished from other promises in the contract
Always considered not distinct, & accounted for as single performance obligation when any of the following conditions apply:
Goods or services in bundle are highly interrelated & transfer requires significant integration services
Bundle of goods or services significantly modified or customized for contract
The goods or services are highly interrelated
Polling Question #1
• What aspect of the accounting profession are you involved in?
1 – I am a CPA working in public accounting.
2 – I am a CPA working in private industry, government, or for a not-for-profit.
3 – I am a CPA working outside of the profession of accounting, for example as an investment advisor.
4 – Accounting? I must be in the wrong room. Do you know where the Committee for Protecting Everything is meeting?
Ste
p 3
–
•Amount of consideration to which entity expects to be entitled in exchange for transferring goods or services
Excludes amounts collected on behalf of third parties
May include fixed amounts, variable amounts, or both.
Determine
Transaction Price
Includes consideration of various factors
Variable consideration recognized at expected amount
Time value considered if financing component is significant
Noncash consideration measured at fair value
Consideration given to a customer
May be for distinct goods or services
Otherwise, reduces transaction price
• Allocated to all performance obligations in proportion to standalone selling prices
Standalone selling prices as of date of contract inception
Amount estimated when standalone selling prices not known
Allocate
Transaction PriceS
tep
4 –
Polling Question #2
• At what level do you function within your firm or company?1 – I am a decision-maker in relation to the overall operations of my organization.
2 – I make decisions related to my department or division, subject to override by officers or executives.
3 – I supervise other employees, but do not have decision-making authority.
4 – I have responsibilities in relation to my role, but do not supervise others and do not have decision-making authority.
Ste
p 5
–
• Recognized when performance
obligations are satisfied or as they are
being satisfied
Satisfied when entity transfers promised good or service to customer
Transferred when, or as, customer obtains control of goods or services
Revenue Recognized
Customer Control Over Promised Good or Service
Various factors considered in determining when customer obtains control
Entity has present right to payment
Customer has legal title to asset
Entity has transferred physical possession of asset
Customer has significant risks & rewards of ownership
Customer has accepted asset
Performance Obligations Satisfied Over Time
Satisfied over time if promised good or service is transferred over time
Otherwise considered satisfied at a point in time that entity satisfies performance obligation in entirety
To Be Satisfied Over Time, One of Three Criteria Apply
The customer consumes the benefits provided by the seller’s performance as they are received
Performance creates or enhances an asset in control of customer while being created or enhanced
•Performance does not create an asset with an alternative use to the performing entity
AND
•Entity has a right to payment for performance to date & expects to fulfill the contract as promised
Recognition of Revenue Over Time
Based on progress toward satisfying performance obligation
May be measured under inputs or outputs approach
Updated as circumstances change
Variable Revenue That is Recognized Over Time
Cumulative amount
recognized should not
exceed amount to which entity is assumed entitled
• Entity has experience with similar types of performance criteria
• Entity’s experience is predictive
Determined on the basis of meeting two
criteria
Onerous Performance Obligations
Lowest cost of satisfying performance obligation exceeds contract price allocated to it
Entity recognizes liability & corresponding expense
Accounting for Costs
Certain costs may be recognized as assets
Recoverable incremental costs of obtaining a
contract
Costs required by standards to be
capitalized
Costs meeting certain criteria
Costs of obtaining a contract recognized as expense when incurred
Criteria for Capitalizing Costs Associated with Contracts
•Costs must meet all the following three criteria:
They relate directly to a contract or a specific contract under negotiation
They generate or enhance resources that will be used to satisfy performance obligations in the future
They are expected to be recovered
Polling Question #3
Do you believe that closely-held and publicly-held entities, big or smallshould apply the same accounting principles?
1 - Yes. I believe that when 2 entities enter a similar transaction, regardless of size or ownership, the accounting can be the same.
2 – Yes, but nonpublic entities, especially smaller ones, should not be required to provide disclosures with the same level of detail and amount of information.
3 – Yes , but GAAP needs to be made less complex and voluminous for all entities as the cost of compliance exceeds the benefit.
4 – No, publicly-held entities often enter transactions for different reasons and in different amounts than nonpublic entities, especially smaller ones.
ADOPTING THE NEW
REVENUE RECOGNITION
STANDARDA Guide for Nonpublic Entities
Recording the Initial Adoption
Selection of Method Used for
Adoption
Revenue Related Accounts
Reported on the Balance Sheet
Journal Entries for
Adopting the New
Standard
Disclosures
Initial Adoption
Two acceptable
approaches for adopting
the new standard:
Retrospective approach
Partial retrospective approach
Retrospective Approach
• Applied as of beginning of earliest period presented
Cumulative effect recognized as adjustment to beginning retained earnings in earliest period
Each period’s financial statements restated to reflect effects of new standard
• Elections available as practical expedients in period of adoption to allow nonpublic entity to avoid certain requirements.
Would not have to restate contracts initiated and completed in the same period
May use final contract price in place of applying requirements for variable consideration on contracts already completed
The entity would not be required to disclose portion of contract price allocated to performance obligations not yet satisfied, nor when the revenue from them is expected to be recognized
Not required to apply requirements for contract modification retrospectively for modifications made prior to the beginning of earliest period presented
Partial Retrospective
Approach
• Applied as of beginning of period of adoption
Cumulative effect recognized as adjustment to beginning retained earnings in that period
Financial statements for that period and subsequent periods restated to reflect effects of new standard
• Entity may elect which contracts to adjust retrospectively when measuring the cumulative effect
May elect to adjust amounts retrospectively for all contracts
May elect to adjust amounts retrospectively only for contracts not completed on that date
Cumulative Effect
•Net adjustment to opening balance sheet
Recognition issues
Measurement issues
Timing issues
Classification issues
Recognition Issues – All Transactions
• Assets and liabilities potentially applicable to any transaction: Contract receivable
Refund liability
Accrued revenue
Unearned revenue
Contract asset
Contract liability
Recognition Issues –Special Transactions
• Transactions with special provisions that may generate balance sheet accounts: Sale with right of return
Warranties
Entity acting as principal or agent
Options for additional goods or services
Prepayments and unexercised rights of customersNonrefundable upfront fees
Licensing
Repurchase agreements
Consignments
Bill-and-hold arrangements
Methodology
• Identify “open” revenue contracts as of beginning of period of adoption
Determine if criteria are met to qualify as contract with customer
If not, identify and measure balance sheet accounts using liability or deposit approach
If so, identify balance sheet accounts involved and determine if amounts differ
Adjust, create, or eliminate balance sheet accounts so that elements and balances agree
May result from change to requirements
May result from change to how aspects of transactions may be interpreted
May result from availability of more accurate or precise information
Polling Question #4
• When did you decide to become a CPA?1 – I knew I wanted to be an accountant from a very young age.
2 – I did well in bookkeeping and basic accounting classes in high school or early in my college career and pursued it since.
3 – I switched majors after not enjoying or not doing well studying a different field.
4 – I switched from a different career when it was not as rewarding as I had hoped.
Examples of Transactions to Consider Upon Adoption
Example #1 –
Transaction Not Meeting Criterion Related to Collectibility
• Calendar year entity sold used truck from inventory to customer on July 1, X1
Sales price $25,000, cost $18,000 Received $5,000 down payment Scheduled to receive $4,619.50 each
June 30, beginning 6/30/X2 Receivable bears interest at 5%
annually Seller obligated to provide maintenance
until last payment received Title to be transferred to buyer upon
receipt of last payment Collection not reasonably assured –
applied installment sales method under Topic 605, Revenue Recognition
Adopted Topic 606, Revenue from Contracts with Customers in year X3
Applying partial retrospective approach, recognizing cumulative effect adjustment as of 1/1/X3
Journal entries 7/1/X1 – 12/31/X2
Topic 605
See spreadsheet – Example 1 – Schedule #1
Balances at 12/31/X2 – Old
• Net Effect of All Entries Related to Sale Under the Old Standard
Assets
Cash +$9,619.50
Contract receivable +$16,380.50
Inventory – used trucks -$18,000.00
Interest receivable +$409.51
Liabilities
Deferred gross profit +$4,586.54
Income statement
Sales $25,000.00
Cost of sales $18,000.00
Unrealized gross profit $5,600.00
Realized gross profit $1,013.46
Interest income $1,409.51
Retained earnings +$3,822.97
Determining Transition Adjustment
Journal entries under new rule
See spreadsheet – Example 1 –Schedule #2
Desired Balances at 12/31/X2 – New & Transition Adjustment
• Net Effect of All Entries Related to Sale Under the New Standard
Assets
Cash +$9,619.50
Inventory – used trucks -$18,000.00
Inventory in custody of others +$18,000.00
Liabilities
Obligation to transfer truck title +$9,619.50
• Debit to retained earnings is the cumulative effect of the change, before tax
Transition Adjustment – See spreadsheet –Example 1 – Schedule #3
Polling Question #5
• How will the new revenue recognition standard affect your company or your clients?
1 – There will be little or no change to the amount recognized, but the information required for disclosures is difficult and costly to accumulate.
2 – It will significantly change the amount of revenue to be recognized in an individual period, but the amount will not change significantly in the long term.
3 – We have determined it will not have a material effect and are not adopting it.
4 – We have not completed our analysis and cannot yet measure the expected effect.
Example #2
Warranty Equivalent to a Service Contract
• Calendar year entity sold a washer and dryer to customer on October 1, X1 including a 3-year warranty for all service and repair
Sales price for the entire package was $2,000.
Standalone prices for the washer and dryer were $1,200 and $900, respectively. The entity does not sell service contracts.
The washer cost $900 and the dryer cost the entity $600
A local repair shop sells service contracts for the same washers and dryers for $300
Comparable to dealer warranty
Average cost of servicing the warranty is $180 for the 3-year period, including all costs for both appliances
Generally spent uniformly over the 3 years
Adopted Topic 606, Revenue from Contracts with Customers in year X3
Applying partial retrospective approach, recognizing cumulative effect adjustment as of 1/1/X3
Journal entries 7/1/X1 – 12/31/X2
Topic 605
See spreadsheet – Example 2 – Schedule #1
Balances at 12/31/X2 – Old
• Net Effect of All Entries Related to Sale Under the Old StandardAssets
Cash +$2,000.00
Inventory -$1,500.00
Misc. Acct. -$75.00
-Liabilities
Est. Warranty Liab. +$105.00
Income StatementSales $2,000.00
Cost of Sales $1,500.00
Warranty Expense $180.00
Retained Earnings +$320.00
Determining Transition Adjustment Journal entries under
new rule
See spreadsheet –Example 2 – Schedule #2
Desired Balances at 12/31/X2 – New & Transition Adjustment
• Net Effect of All Entries Related to Sale Under the New Standard Assets
Cash +$2,000.00 Inventory – Appliances -$1,500.00 Misc. Acct. -$75.00
Liabilities Unearned Warranty Revenue +$145.84
Income Statement Sales $1,750.00 Cost of Sales $1,500.00 Warranty Revenue $104.16 Warranty Expense $75.00
Retained Earnings +$279.16
• Debit to Retained Earnings is the cumulative effect of the change, before tax
Transition Adjustment – See spreadsheet –Example 2 – Schedule #3
Polling Question #6
• What is your favorite way of obtaining CPE?
1 – I like short (2-4 hour) live seminars that also give me an opportunity to network.
2 – I like live seminars for the networking opportunity, but I’d prefer to get it done in large chunks of 1 or more full days, so I am not as likely to be distracted by unrelated issues.
3 – I like webinars of varying lengths where the instructor can respond to questions, either conducting the class from a remote location or monitoring one that has been pre-recorded.
4 – I like pre-recorded programs of varying lengths approved for self-study, allowing me to study at my own pace and convenience.
Example #3
Long-term Construction Contract
• Calendar year entity entered 3-year contract on July 1, X1 to build sport facility for $45,000,000.
The project was expected to be completed approximately Sept. 30, X5 at a total estimated cost of $36,000,000 based on a budget prepared just prior to beginning the project.
As of 12/31/X1:
Costs of $4,520,000 were incurred and the budget was unchanged.
Under the cost-to-cost approach, used by the company, the project was $4,520,000/$36,000,000 or 12.56% complete. As a result, profit recognized in X1 was $1,130,000.
As of 12/31/X2
Additional costs of $7,675,000 were incurred, increasing the
total to $12,195,000 incurred to date.
Total estimated costs increased by $1,625,000 due to
settlement of a labor contract, bringing total estimated costs
to $37,625,000 and reducing estimated profit to $7,375,000.
The project was $12,195,000/$37,625,000, or 32.41%,
resulting in profit to date of $2,390,382.
Profit to be recognized in X2 is $2,390,382, minus the
$1,130,000 recognized in X1, for a net amount of $1,260,382.
Under the new standard, $1,625,000 of budgeted costs are not
allowed to be capitalized, $875,000 of which was included in
costs incurred to date as of 12/31/X2.
The new
standard was
adopted in X3
and the
transition was
made as of
1/1/X3
Journal entries 7/1/X1 – 12/31/X2
Topic 605
See spreadsheet – Example 3 – Schedule #1
Balances at 12/31/X2 – Old • Net Effect of All Entries Related to
Construction Contract Under the Old Standard
Assets
Contract Rec. +$14,585,382
Misc. Acct. -$12,195,000
Income Statement
Construction Contract Revenue $14,585,382
Cost of Sales $12,195,000
Retained Earnings +$2,390,382
Determining Transition Adjustment Journal entries under
new rule
See spreadsheet –Example 3 – Schedule
#2
Desired Balances at 12/31/X2 – New & Transition Adjustment
• Net Effect of All Entries Related to Construction Contract Under the New Standard Assets
Contract Rec. +$14,818,909 Misc. Acct. -$12,195,000
Income Statement Construction Cont. Rev. $14,818,909 Cost of Sales $11,320,000 G & A Expenses $875,000
Retained Earnings $2,623,909
• Journal entry at transition (see spreadsheet #3)
• Debit to retained earnings is the cumulative effect of the change, before tax
Transition Adjustment – See spreadsheet –Example 3 – Schedule #3
Thank You
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