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Revenue recognition methods
On the Radar: ASC 606
Contract arrangements typically include myriad criteria that may affect the application of the ASC 606 revenue recognition standard. In this edition of On the Radar, we step through revenue recognition methods and highlight some of the judgment calls you may need to make along the way.
Revenue recognition methods
The core principle of the revenue standard is to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which an entity expects to be entitled in exchange for those goods and services. Significant judgments frequently need to be made when an entity evaluates the appropriate recognition of revenue from contracts with customers. These judgments are often required throughout the revenue standard’s five-step process that an entity applies to determine when, and how much, revenue should be recognized.
Application of the five steps illustrated above requires a critical assessment of the specific facts and circumstances of an entity’s arrangement with its customer. Some of the more challenging and judgmental aspects of applying the revenue standard are highlighted below.
Entities often have difficulty determining the appropriate judgments to apply in the identification of performance obligations and the assessment of whether an entity is a principal or an agent, as described below. Not surprisingly, these are two topics of the revenue standard on which entities commonly seek the SEC staff’s views in prefiling submissions. In addition, these topics are frequently discussed in SEC staff speeches at the annual AICPA & CIMA Conference on Current SEC and PCAOB Developments.
Applying the revenue standard
Financial statement disclosures
The revenue standard requires entities to disclose both quantitative and qualitative information that enables users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.
The illustration below gives an overview of the annual revenue disclosure requirements for public entities. Nonpublic entities can elect not to provide certain disclosures, and the disclosure requirements for interim periods are significantly reduced in scope from the illustration below.
SEC comment letters
Revenue remains a hot topic of SEC comment letters. Key themes of SEC comment letters related to revenue recognition include the following:
The SEC also continues to focus on non-GAAP metrics, including adjustments that change the accounting policy or the method of recognition of an accounting measure that may be misleading and, therefore, impermissible. For example, a non-GAAP performance measure that reflects revenue recognized over the service period under GAAP on an accelerated basis as if the registrant earned revenue when it billed its customers is likely to be prohibited because it is an individually tailored accounting principle and does not reflect the registrant’s required GAAP recognition method. However, in certain circumstances, the SEC may not object when a registrant presents the amount of revenue billed to a customer—that is, “billings” or “bookings” (with appropriate characterization) as an operational metric—because such measures are not considered non-GAAP measures. For more information, see Deloitte’s Roadmap Non-GAAP Financial Measures and Metrics.
After the FASB issues a major new accounting standard, it performs a postimplementation review (PIR) process to evaluate whether the standard is achieving its objective by providing users of financial statements with relevant information that justifies the costs of providing it. This process enables the Board to solicit and consider stakeholder input and FASB staff research. At its July 28, 2021, and September 21, 2022, meetings, the FASB discussed feedback received to date on the revenue standard as well as the results of research performed on certain revenue topics, including disclosures, short-cycle manufacturing, principal-versus-agent considerations, licensing, and variable consideration. In the handouts prepared for the Board’s July 2021 and September 2022 meetings, the FASB staff noted that stakeholder feedback on the revenue standard was positive overall, particularly from users of financial statements since the standard results in more useful and transparent information, improved disclosures, and comparability across entities and industries. The staff further observed that while many preparers noted significant one-time costs associated with implementation of the standard, they also highlighted that the standard has been beneficial in the long run.
The FASB staff will continue to monitor implementation of the revenue standard and provide updates to the Board on any emerging issues identified. As the PIR of the revenue standard progresses, the Board and its staff may identify areas of improvement that could result in future standard setting.