FASB, IASB Issue Sweeping, Long-Awaited, Generally Aligned Revenue Reporting Rules

By Steve Burkholder
With contributions by David R. Jones

May 28 — The Financial Accounting Standards Board and the International Accounting Standards Board May 28 issued sweeping, generally aligned standards on revenue reporting that were 12 years in the making.

The new U.S. and international accounting standards are intended to offer a one-stop, comprehensive source for how companies and non-profit enterprises are to report revenue, long a problematic area of accounting for the boards.

Issued May 28, the jointly written standards of the Financial Accounting Standards Board and the International Accounting Standards Board become effective for public companies in 2017. In the U.S., private companies and not-profit entities will have a year longer to apply them.

The new rules affect `any entity that either enters into the contract with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards.'

The rules, FASB's Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606), and IASB's International Financial Reporting Standard 15, are aimed at improving, simplifying and strengthening revenue recognition principles and practices. They also will cut inconsistencies in accounting treatments and provide for comparability among companies and across capital markets, according to FASB and IASB.

Cutting Hundreds of Items of Guidance

The new U.S. generally accepted accounting principles will replace some 200 separate items of revenue reporting guidance. Much of that is industry-specific.

On the IASB side, IFRS 15, is to replace IAS 18, Revenue; IAS 11, Construction Contracts; and related guidance.

In the U.S., faulty revenue recognition practices—especially premature booking of revenue—have long been a source of restatements and a leading area of enforcement by the Securities and Exchange Commission.

Deep Impact in Several Sectors

The fresh FASB and IASB standards (7 APPR 917, 11/25/11, 1 APPR 5, 10/21/05) are to have broad effect globally, at least in the process by which revenue is recognized. For many companies, revenue reporting practices will not change, leaders of the boards said May 28.

Sectors expected to see deeper impact—and either faster or slower recognition of revenue, hinging on circumstances—include telecommunications, computer software, construction, real estate sales and asset management.

For example, telecommunications companies that sell telephones and phone service will probably see faster recording of revenue from sales of handsets, standard-setters predict.

In the computer software industry, “revenue will be recognized predominantly earlier” than it is today, FASB Chairman Russell Golden told reporters May 28. He suggested that is consistent with expected outcomes in the real estate sector.

“In asset management, however,” Golden said, some asset managers will recognize revenue later than they do under current practice.

Rulemakers Cite Convergence Achievement

In a May 28 joint statement, the two boards described the rules' improving the financial reporting of revenue, the top line in financial statements and “a vital metric” for investors.

In a conference call minutes after release of the new rules, Golden called the publication “a major achievement for both the FASB and the IASB.” He noted that “the boards have worked together for more than 10 years on this guidance.”

“It's a fine achievement, a great example of cooperation between the two boards.”Ian Mackintosh, IASB vice chairman

“It's a fine achievement, a great example of cooperation between the two boards,” Ian Mackintosh, IASB's vice chairman, told reporters in the conference call. The new rules “will enable investors to get confidence in the numbers and what they mean,” he said.

In a prepared statement, Hans Hoogervorst, chairman of the international board, described the new rules as “a fully converged standard.” Other commentators and rulemakers have spoken of the standards being substantially or generally converged.

Differences Remain

There exists a relatively small number of differences between IFRS 15 and the new U.S. generally accepted accounting principles on revenue.

Notable among the differences is the frequency of enhanced footnote disclosures that, for example, help understand “the future pipeline to revenue,” as Golden phrased it. FASB prescribes certain interim period reporting in footnotes, in keeping with U.S. corporate practices, while IASB leans toward annual disclosures.

The new rules also contain differences in the meaning or function of the notion of probability used in assessing collectibility of monetary consideration and in gauging constraints.

One of those differences—pertaining to what the boards call a “collectibility threshold”—figured in the lone dissent by a FASB member, Harold Schroeder, to the issuance of the new accounting principles on revenue. IASB unanimously approved the new IFRS 15.

The FASB chairman and the IASB vice chairman outlined plans for a joint `transition resource group' on revenue recognition.

SEC officials have described the IASB-FASB standards on revenue recognition as a convergence success story. Other pending high-priority joint projects on financial instruments, leases and insurance contracts have led to more standard-setting discord (10 APPR 385, 4/25/14, 10 APPR 253, 3/14/14, 10 APPR 205, 2/28/14).

Mackintosh and Golden discounted the prospect of differences in the IASB and FASB standards leading to different accounting outcomes, such as that from the boards' distinct functional notions of the term “probable.” Probability comes into play in a key step in the revenue recognition process, gauging collectibility of revenue.

“We're hoping this won't make a big difference in the actual application of the standard,” IASB's Mackintosh said.

“I agree,” said FASB's Golden. “I think the nuanced difference of collectibility should have a small impact on reported results.”

In his dissent, Schroeder questioned that outcome, which was suggested in the U.S. standard's basis for conclusions, after he laid out the boards' use of the same term “probable” with regard to collectibility, and different definitions of the word in IFRS and U.S. GAAP.

Schroeder stated his belief that the board, in its basis for conclusions, “overemphasizes materiality (that is, size) as a determining factor for relevance by concluding that there ‘would not be a significant practical effect of the different meaning of the same term.’ ”

If any threshold for collectibility were required, Schroeder wrote, he would prefer “a converged solution that produces the same results (even though different words are used).”

In his formal dissent, Schroeder wrote that he agrees with the rules' core principle, but believes “certain of the standards' key requirements are not consistent with that principle.”

Scope is Wide

The new rules affect “any entity that either enters into the contract with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards,” according to the new U.S. standard on revenue.

FASB cited examples of insurance contracts and lease contracts being outside the scope of ASU 2014-09, the new revenue rules.

The standard effectively marks out a new area in the U.S. board's codified rules, ASC 606, that set out a core principle, according to a May 28 news release of FASB and IASB—that companies should “recognize revenue to depict the transfer of goods or services to customers in amounts to reflect” the payment “to which the company expects to be entitled in exchange for those goods or services.”

Aims of the new standards, according to a May 28 edition of “FASB in Focus,” include:

  •  removing inconsistencies and weaknesses in existing revenue requirements;
  •  building a more robust framework for addressing revenue issues;
  •  providing more useful information to users of financial statements through enhanced disclosures; and
  •  simplifying the work on financial statements by cutting the number of requirements to which an enterprise must refer.

    Boards Ordain Five-Step Process

    Among the revenue reporting practices that will be phased out is the method anchored in percentage of completion, which is common in long-term construction contracts.

    Instead, companies and not-for-profit entities will follow a five-step process to recognize revenue:

  •  identify the contract with a customer;
  •  identify the performance obligations, or promises, in the contract;
  •  determine the transaction price;
  •  allocate the transaction price to the performance obligations in the contract; and
  •  recognize revenue when, or as, the reporting entity satisfies a performance obligation.

    Disclosures Strengthened

    Golden and Mackintosh emphasized that fresh disclosure requirements in the standards will, in their view, shed more light on what FASB describes as “the nature, amount, timing and uncertainty of revenue and cash flows” stemming from a reporting entity's contracts with customers.

    Golden noted that revenue is “an extremely important metric.” Because of that, he suggested, it would be useful to have the information the boards seek via footnote disclosures: methods used to recognize revenue, the “models to estimate models standalone prices for various performance obligations,” and assumptions used.

    With that information, FASB's chairman said, investors “would have a better understanding of the quality of those estimates.” In addition, those users would be able to comprehend “the pipeline to revenue,” or what is commonly referred to as “backlog,” he said.

    Golden called that “a very important metric so that investors can predict future revenue and future earnings.”

    Sufficient Time for Shift?

    FASB has noted that the effective date for the new standard—effectively, and for most companies, Jan. 1, 2017— “is longer than usual,” the board stated in “FASB in Focus.”

    With revenue reporting, the U.S. board decided that a delayed effective date is appropriate “because of the scope of organizations that will be affected and the potentially significant effect that a change in revenue recognition has on other financial statement line items.”

    In their conference call, Golden and Mackintosh suggested that they would like to stick with their plan for the effective date— technically, for public companies, for financial reporting periods starting after Dec. 15, 2016 and a year later for non-public entities.

    “There's always a balance between giving people plenty of time and getting something done,” Mackintosh said. “It will be the first of January 2017.

    “I think that's the right balance and I don't think we'd be looking to change the date unless something really, really major came up,” he added.

    Expert Resource Panel Outlined

    The FASB chairman and the IASB vice chairman also spent substantial time in outlining plans for a joint “transition resource group” on revenue recognition (9 APPR 644, 8/2/13). That group is to be named within weeks.

    Golden and Mackintosh emphasized that fresh disclosure requirements in the standards will, in their view, shed more light on what FASB describes as `the nature, amount, timing and uncertainty of revenue and cash flows' stemming from a reporting entity's contracts with customers.

    That panel of experts from various financial professions, together with standard-setters and regulators, is to hold its first public meeting in July. IASB and FASB view the transition resource group as an educational, and not a decision-making, body.

    The purpose of the panel “is to keep practices merged—to not only have a merged standard, but to keep the practices merged as we move forward,” said the IASB vice chairman.

    He suggested the group would help prevent difficulties that would arise if the boards “have separate interpretations or if we have separate changes to standards as we go forward.” At that point, FASB and IASB would no longer be converged, said Mackintosh.

    The boards envision disbanding the transition resource group by the 2017 effective date.

    FASB and IASB plan to conduct a live webcast session June 5 on their revenue recognition rules. The webcast will be geared to practitioners and preparers and users of financial statements.

    To contact the reporters on this story: Steve Burkholder in Norwalk, Conn., at sburkholder@bna.com and David R. Jones in London at correspondents@bna.com.

    To contact the editor responsible for this story: Laura Tieger-Salisbury at lsalisbury@bna.com

    The FASB version of the new revenue reporting standard is available at http://www.fasb.org/jsp/FASB/Page/SectionPage&cid=1176156316498.

    An edition of “FASB in Focus” on the revenue ASU is posted at http://www.fasb.org/jsp/FASB/Page/SectionPage&cid=1176158963831.

    FASB has made available at three-part video webcast on the new standard, featuring the board's chairman, at http://www.fasb.org.