MCG Spotlight – A Conversation on the New Revenue Recognition Standards
In this edition of MCG Spotlight, Paul Greilich sits down with Jeff Weinberg, Matt Spinek, and Paul Dunn to discuss the new revenue recognition standards and what they mean for your business.
Paul Greilich: Hello everyone, and welcome to this edition of Spotlight. My name is Paul Greilich and today we’re going to be talking about the new revenue standard. I’ve got Paul Dunn here with me, Jeff Weinberg and Matt Spinek with the firm. We’re going to jump right into this thing and I’m going to direct the first question to Paul. You know, the last ten years the new revenue recognition model has been the biggest thing to come across the FASB’s desk. What are some of the major changes companies are going to have to deal with?
Paul Dunn: Well, this truly is. It’s probably been the most significant change in the past decade that both the CFO’s organization is going to deal with, certainly controllers, but it really cuts across the whole organization from a people standpoint, technology, as well as the policy for the organization. And so, companies are going to have to revisit their policy, look at their data, how they process their revenue recognition, as well as look at their systems, and streamline their systems and focus on the revenue recognition process from a system standpoint also.
Paul Greilich: Wow. So, Jeff, the implementation dates – what are some of the options the companies have to consider as they enter some of these timeframes? What can you share with us?
Jeff Weinberg: So, the implementation effective dates will be for public companies, fiscal years beginning after December 15, 2017 and then one year later for non-public companies, December 15, 2018. And so, having said those dates, there are a couple different options from a transition standpoint that companies will look at. There’s a full retrospective approach or a modified retrospective approach. The key difference there is while under the modified retrospective approach, you know, you’re only going to be really analyzing those contracts specifically regarding implementation for your financials with respect to contracts that still have not been completed versus the full retrospective approach where you’re basically going to analyze all the contracts for reporting and your financials under the new standard. And so, the key difference there, of course, would be when you’re presenting comparative financial statements under the full retrospective approach, you will certainly have consistency in the accounting method applied versus under the modified retrospective where one year, of course, will be the current year will be the new standard, and then the comparative year would be the prior.
Paul Greilich: Okay, yeah. We need to get into the meat of this thing a little bit. Matt, what are some of the things that people are going to have to deal with and how should they approach the new standard? How’s the new standard laid out?
Matt Spinek: So, as we kind of talked about, I think the current revenue recognition model today there’s a lot of inconsistencies, it’s very robust, there’s a lot of Industry specific guidance that’s out there. With the new model, really, it’s going to take away the industry-specific and really provide just a comprehensive framework now the companies are going to be able to follow. It’s really going to dictate how and when revenue is going to be recognized and it’s going to be consistently applied across industries and different transactions. And application of that goes through the five step process. The first step is going to be identifying the contract. There’s going to be certain criteria the company’s going to have to meet to be able to be within the scope of the new standard. The second step is to identify separate performance obligations and here really this is just looking at what are the goods and services are being sold within the context of the contract. The third step is going to be determining the transaction price and here’s what are the price of the goods and services that are being sold. There’s going to be some judgement in estimates that are going to be involved within this step, as well, as much the rest of it. But with the fourth step, we’re going to allocate the transaction price to the different performance obligations. And the last and final step of the model, we’re going to recognize revenue as those performance obligations are satisfied.
Paul Greilich: So, tell me a little bit of nuance on some of these estimates on the transaction price. Some of the things that people are going to have to work through there.
Matt Spinek: Okay. So, one of the major things that have come up is variable consideration and right now variable consideration isn’t anything new to the current GAAP. However, it is applied a little bit differently under the new standard. To be variable consideration, you know, it has to be contingent on the currents of a future event and under the current GAAP rules, you know, fees have to be fixed and determinable and any type of contingencies can be recognized until the resolved. Well under the new standard now, it’s going to be a little bit of a shift because management’s now going to estimate this variable consideration which could be in the form of rebates, discounts, performance bonuses, or any type of contingent to these payments and they’re going to include that into the transaction price. Of course there’s some constraints and limitations on the use of variable consideration, but I think it’s really going to allow companies to accelerate revenue, but there’s also going to be some judgment and that’s going to be exercised by management.
Paul Greilich: I see, I see. So, FASB really brought together a lot of the revenue recognition guidance that’s been out there, put it together in this five-point framework. It seems like for a number of companies it’s not going to change revenue recognition a lot, but we do know that it is going to impact some industries more than others. What are some of those?
Matt Spinek: A lot of companies are going to be affected. I think that some don’t think it will apply to them, but it’s going to be very important for them to go through the assessment to be able to prove out that it doesn’t apply to them, especially through the enhanced financial disclosures that are going to be brought out that in this standard some of the main industries that are going to be affected our technology and franchises.
Paul Greilich: You know when I really look at the implementation process, Paul, I’m hearing stories about how some companies are struggling to get a handle on this. How should they start?
Paul Dunn: Well, really it starts with putting a team together. And some companies are simply struggling in putting the team together, because it’s very resource intensive. The companies have to pull people from, as I mentioned, from across the organization and so they have to take finance resources, accounting resources, and people that are knowledgeable about the contracts themselves, and so they have to pull from the sales organization, they also have to pull from the IT organization, because a lot of the data that exists related to the contracts exists in the IT organization. So, you have multiple constituencies working together that haven’t worked together before, so that creates a lot of complexity. But as Matt mentioned, just getting your hands around the contracts themselves – to talk about the performance obligations. A lot of companies are very decentralized and so our clients have found that they haven’t managed those contracts very efficiently, and just finding the contracts and then the addendums to the contracts, that’s pretty difficult. So, if you’re a heavily contract driven organization that gets pretty complex, pretty quickly.
Paul Greilich: I see. What are some of the obstacles some of your clients have encountered during the implementation process, Jeff?
Jeff Weinberg: First, just being able to identify that you have all of the contracts and amendments to the contracts, hopefully they’re in electronic form and everything’s in good order to begin the process. But I think in addition to that, really, as a starting point, of course, we recommend doing an impact assessment before you really get started. And so, you certainly want to have identified the collection of your contracts to do that, but the impact assessment will help you identify any significant risk areas for implementation that you may not be aware of currently. And so, to do that in the impact assessment, we’ll basically take a sampling of contracts and talk to the various individuals involved in the revenue recognition process currently, look at your policies procedures, certainly any other external management letter comments, things of that that nature, and by doing this you’re able to actually identify again these risk areas and so before you would even begin the full-fledged implementation you would want to engage in a risk remediation process. That really would fall in what we classify as phase one of our four phase implementation process.
Paul Greilich: I see, I see. So that impact assessment is pretty Important?
Jeff Weinberg: It’s definitely critical. You wouldn’t want to get into the middle of your implementation it realized that you had something significant that hadn’t been addressed necessarily, and I would say to Matt’s point, you know, even though you think this may not really apply, maybe – I’m in an industry or my business is such that it’s not going to have as much of an impact – you still need to go through the exercise to confirm that that’s the case.
Paul Greilich: Right, right. Your accountants or auditors might want to see that you’ve made that step and kind of gone through it.
Paul Dunn: Right, I think what we’re finding is the boards of directors are asking, “how does this revenue recognition standard impact our organization?” And so, just simply to respond to the Board of Directors or the CEO, an impact assessment is the most direct way to respond to those requests and it’s a good first step to get your arms around how does this affect my organization.
Paul Greilich: Right. It may need to explain some things to investors or other stakeholders, constituents. For some, it will have a big impact.
Paul Dunn: Exactly.
Paul Greilich: Are some companies reassessing some of their revenue recognition policies during this time?
Paul Dunn: Oh, absolutely. This is a, really, a fresh look and applying this standard and I think boards and CFOs are taking a fresh look at revenue recognition now.
Jeff Weinberg: And it’s one of the benefits that, you know, you don’t always maybe hear that’s talked about as much, but it’s a great opportunity within the organization create a cross functional team. So, you know, even groups that don’t necessarily talk with each other are able to do so in resolving any outstanding issues. On top of that, as Paul indicated, you’re able to really get a fresh look where things are going to be much cleaner than they probably ever have, especially if you have contracts that have been in place for some time.
Paul Greilich: Thanks, everyone, really appreciate it. Obviously, it’s a team effort, applying the new standard, making sure you pull together the different departments, documenting things right, communicating all the way up to the board, all things that we’ve enjoyed helping our clients do. Well, thank you for joining us today for this edition of Spotlight and join us next time.