Revenue Recognition is Changing

General Principals of Revenue Recognition

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Persuasive evidence of an arrangement

Determining if delivery has occurred or

services have been performed

Fixed or determinable

fees

Collectability is reasonably

assured

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Persuasive evidence of arrangement exists

Entity A business practices are to obtain a written

legal contract signed by both

parties

EXAMPLE

Entity B business practices are to conduct contracts

through emailed conversations

If Entity A sells a product or services to Entity B in

order for Entity A to recognize revenue, Entity B must be aware, accepted the terms, and signed the

contract

To ensure that the understanding

between parties about the specific

nature and terms of a transaction has been

finalized.

To account for a transaction depends on

evidence of the final understanding between

parties; changes can result in different

methods of recognizing revenue

Persuasive evidence of

arrangement is based on an

entity’s customary business practices

Determining If Delivery Has Occurred or Services Have Been Performed

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Delivery and Service Terms should be explicit in the

contract

Revenue is generally recognized on the delivery of the product and when the service rendered is performed

Delivery and Service accidental delays or postponement should be explicit for in the contract of recognizing revenue based on those stipulation

Entity A is a maid service which customary practices are for customers to sign a written

contract. Entity A states in the contract that revenue is

recognized once services are performed and the customer is (reasonably) satisfied. Entity A performed services at Entity B,

however Entity B stated Entity A job was poor which Entity A

agreed. Entity A cannot recognize revenue until the customer is

satisfied even though the services was already performed.

Fixed or Determinable Fees

Sales price must be fixed or determinable however there is a regard to the amount of consideration the seller will receive due to existence of

uncertainties. In addition, evaluation of whether an arrangement fee is fixed or determinable can be flexible.

An example is portion of the fee can be fixed or determinable while the remaining becoming fixed or determinable over time

Factors that impact fixed or determinable fees include cancellation provisions,

estimates of future returns and contingent income

Collectability is reasonably assured.

To assess if an entity can collect receivables or cash when revenue is earned, it is usually applied the same way as determining whether a receivable has become a bad debt

If collectability from the customer is questionable, the vendor should not recognize revenue until it receives the amount due or conditions change

The customer financial condition is an indicator of both its ability to pay and to determine if revenue is realizable.

If collectability reasonable assure from the customer but changes due to customer circumstances and the vendor determines collection from the customer is no longer probable, the amount should be recorded as a bad debt

FASB NEW UPDATES TO REVENUE RECOGNITION

The FASB and IASB issued a converged

guidance on recognizing revenue

in contracts with customers

Why Did The FASB Issue A New Standard on Revenue

Recognition?

The objective of the new guidance is to establish the principles to report useful

information to users of financial statements about

the nature, timing, and uncertainty of revenue from

contracts with customersRevenue recognition differs in (GAAP) and

International Financial Reporting Standards

(IFRS) (both need improvement)

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The New GuidanceRemoves inconsistencies and weaknesses in existing revenue requirements

Provides a more robust framework for addressing revenue issues

Improves comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets

Provides more useful information to users of financial statements through improved disclosure requirements

Simplifies the preparation of financial statements by reducing the number of requirements to which an organization must refer

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Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation

Step1: Identify the contract(s) with a customer.

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Step 2: Identify the performance obligations in the contract.

Step 4: Allocate the transaction price to the performance obligations in the contract.

Core Principle

Core Principle Recognize revenue to depict the transfer of

promised goods or services to customers in an amount that reflects

the consideration to which the entity expects

to be entitled in exchange for those goods

or services

Step 3: Determine the transaction price

Identify the Contract with a Customer

A contract is an agreement between two or more parties that creates enforceable rights and obligations. A Entity should

ensure that the contract meets the following criteria:

Approval and commitment of the parties

Identification of the rights of the parties

Identification of the payment terms

The contract has commercial substance

Identify the Performance Obligations in the Contract A performance obligation is a promise in a contract with

a customer to transfer a good or service to the customer.

A good or service is distinct when

It is Capable of being distinct

It is distinct within the context of the

contract

The customer can benefit the good or service either on its own or together with other resources that are readily available to the customer.

The promise to transfer the good or service is separately identifiable from other promises in the contract.

The transaction price is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties. To determine the transaction price, an entity should consider the effects of

Determine the Transaction Price

• Variable Consideration

• Constraining estimates of

variable consideration

• The existence of a significant

financing component

• Noncash consideration

• Consideration payable to

the customer

For a contract that has more than one performance obligation, an

entity should allocate the transaction price to each

performance obligation in an amount that depicts the amount of consideration to which the entity expects to be entitled in exchange

for satisfying each performance obligation

Amounts allocated to a satisfied performance obligation should be

recognized as revenue, or as a reduction of revenue, in the

period in which the transaction price changes.

Allocate the Transaction Price to the Performance Obligations in

the Contract

All reporting entities will allocate the transaction price to the good or

service underlying each performance obligation on a relative stand-alone

selling price basis

There will be consistent principles for recognizing

revenue regardless of industry and/or geography

The new guidance includes a cohesive set of disclosure requirements that will

provide users of financial statements with useful information about the

organization’s contract with customers.

The new guidance introduces a constraint on revenue that applies

to variable consideration

Collectability is no longer a recognition threshold and does not affect the measurement of

transaction price

Top Changes to Expect with the New Standard

• Company A’s has to enter a contract with the customer regardless of industry practices and has to identify the contract and terms with a customer

• Company A would not use collectability as a criterion to recognize revenue. The transaction price will be equal to the amount of consideration to which the reporting entity is entitled- not the amount that the reporting entity expects to receive.

• Company A would recognize revenue once it satisfies a performance obligation which could be at the point time or over time. The new guidance put emphasis on the transfer of control.

• Company A would consider how much of the amount is variable and estimate the total consideration to which it is entitled and update that estimate at each reporting date.

• Company A’s persuasive evidence of arrangement to recognize revenue can be dictated by entity’s customary business practices.

• Company A would consider collectability of revenue and if it determined the customer’s financial standing is questionable, Company A would only recognize revenue when its receives the amount due

• Company A would recognize revenue once the product or service has been implemented and the customer is “satisfied”. (Transfer of risks and rewards)

• Company A would recognize revenue in consideration that the price is fixed or determinable which doesn’t include variable amounts in the transaction price until the variability is resolved.