Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606), has created quite a stir in the accounting world. The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have given notice to companies that beginning in 2017 for public companies, and 2018 for private companies, that this ASU must be adopted. This is a much longer lead time than is usually given for such changes, but for good reason, these changes, according to at least one of my clients, are the most significant changes to accounting rules in 20 years. These changes were added to the agenda for the IASB and FASB in 2002 and they really started putting a full effort on creating the changes in 2007, so given that these changes are years in the making and extremely significant, it is only appropriate that companies are given adequate time to prepare.
Much has been written about the impact of the revenue recognition rule changes for accountants that must prepare to accurately calculate and disclose revenue according to the new rules. There is another group that will also be significantly impacted though, and that is the IT personnel and business analysts that support the organizations accounting and ERP system. These members of the organization face a two-pronged challenge:
- Ensuring that the business processes and systems implemented are capable of supporting the calculations and reporting needed based on the new rules.
- Providing the ability for the finance team to adopt the new rules retrospectively, which will involve either adjusting prior periods for the new guidance or determining the cumulative effect of the new guidance on existing contracts at the date of adoption.
Business leaders will no doubt evaluate these new rules and based on their analysis make changes to a number of business processes including how contracts are estimated and priced, how commissions are generated, how revenue is calculated and reported, how related documents are stored, and what information is collected on a contract.
The members of the organization that support the ERP and other business systems must be very aware of the fact that their current application may not be able to support these new processes, storage requirements, or calculations. In the worst case scenario, the application will not be capable of supporting the changes through configuration and light customization. Unfortunately, this is the case for many ERP systems in place today.
This means that many businesses will need to plan for an external solution, upgrade or implement a new ERP solution they had not planned on. All of these options have ramifications to the business. Collecting contract data in spreadsheets and calculating offline is not a desired option as it limits the power of the business to do reporting, is cumbersome, and inefficient. Upgrading or implementing a new ERP system is always an effort and in this case may be made more difficult because of the timing involved.
The timing is the part of this catching many people off guard. Although the new rules do not go into effect until 2017 for public companies, the transition requirements state that when adopting in 2017, the impact of the rule changes for all reporting periods included in the financial statement may have to be considered. Given that public companies include three years of income statements in their financial statements, one method of application would be to retrospectively report back to 2015. If this adoption method was elected, transactions occurring as early as January 1, 2015 would have to be accounted for based on the new guidance. However, since the rules also prevent early adoption to the new revenue recognition standards, that the current business systems must continue to calculate in the legacy method.
Companies are now considering the option of running two sets of accounting books in parallel for a two year period, one with the legacy revenue recognition rules and another with the new standard. This would certainly make the transition in 2017 easier but requires additional analysis and work to be rapidly done. The IT and business analysts will need to again evaluate the current ERP and business systems and determine what options are available for supporting two sets of accounting books. There are a wide variety of options to do this, including running two systems, two instances of the same system, multiple legal entities within one system, or using an ERP system that allows multiple sets of accounting books. In any case, the ability to determine the revenue treatment under the new guidance must also be there.
Even if a company does not elect to run in parallel for two years there is still the daunting task of calculating the net effect that the new revenue recognition rules would have had on the past two years, whether this is done by retrospectively adjusting the revenue recognized for all contracts for prior periods or electing to adopt the guidance using a cumulative adjustment approach. In any case, knowing that will happen, companies need to now begin planning to ensure that the supporting data is being collected and accurately stored. The adjustment to be made is not as simple as a ledger entry as the way that revenue is determined must be considered.
What does all this mean? It means that the Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606) is much more than just something that accountants need to worry about. This is going to create change in the fundamental way that many companies view and operate their business. There is an enormous IT component that goes with this. IT professionals and others who support ERP and business applications need to be prepared with a solid plan for approaching these revenue recognition rule changes.
RSM offers services in assurance and technology for companies facing these changes. Contact our professionals at firstname.lastname@example.org or visit our Financial Reporting Resource Center: Revenue recognition to learn more.
By: John Hannan – Nationally recognized partner in the mid-market ERP and CRM market