Revenue Recognition Part One:
Identifying the Contract with a Customer
By Benjamin R. Ripple, CPA, Partner
As everyone prepares to adopt the new revenue recognition standards, which are applicable for years beginning after December 15, 2017 for public companies and the following year for nonpublic companies, we are taking a deeper dive into each of the five steps of the revenue recognition process. Our goal is to make understanding the 700 page original Accounting Standard Update (ASU) and the seven subsequent standard updates a little easier.
ASU 2014-09 defines a contract as an agreement between two or more parties that creates enforceable rights and obligations. It also goes on to give some criteria that a contract should meet, including commitment of the parties, identification of the rights of the parties and payment terms, commercial substance, and probability of collection of consideration.
In English, this means that a customer has agreed to buy something from you, be it a good, a service, a right to use intellectual property, or the right to use real property such as an apartment or a piece of equipment. When these agreements occur, it triggers the start of the revenue recognition process.
Your goal in this set is simply having a means of identifying that a contract with a customer has occurred. This might be a purchase order, a rent agreement, or if you are running a restaurant it could be the ticket that goes to the kitchen to start the meal prep process. It is just important that your company or organization have some means of capturing that a contract has been entered. If you do not know that you have entered a contract, you will never be able to complete the steps that come next because you will not even know that you have to start them.
So, your homework from this article is to take a step back from the day to day debits and credits and review what processes you have in place to identify when a contract with a customer is initiated. Are you comfortable with the process? Does it capture the contracts in a timely fashion? Does it identify all of the rights and obligations from the agreement? If there are any issues with capturing the information, this will be the first place to start making improvements now to make the transition to the new revenue recognition process easier on everyone.
If you need additional resources on understanding and implementing the standard, you have options. First, please reach out to your accounting service providers early to get on top of the implementation issue before it gets here. Second, FASB has setup the following website to help with transition to the new standard:
Whatever you do, please do not wait until the audit of the first period under the new standard to try to get this cleaned up. That will lead to a lot of headaches for you, your bankers, your accountants, and all of those people’s significant others that will have to deal with listening to them complain about the new revenue recognition process.
Benjamin R. Ripple Partner, Assurance Practice Leader, CPA
Ben is a partner in BRC’s assurance services. Since starting his career in 2001, Ben has worked with clients ranging from family-owned companies, to multinational corporations, to not-for-profit and governmental entities requiring A-133 audits. Ben’s industry experience includes: Manufacturing and distribution Hospitality, including restaurants and hotels Investment companies Governmental and not-for-profit entities Affordable housing […]