Companies that have entered into collaborative arrangements to jointly research, develop, and commercialize intellectual property, are getting clear guidance on how to recognize and measure those arrangements. A new accounting rule, ASU 2018-18, requires certain transactions between participants in a collaborative arrangement to be accounted for under the new revenue standard, ASC 606, when the counterparty is a customer.
Bloomberg Tax spoke with Deloitte partner Dennis Howell about how the accounting rule will affect companies and industries, and how they need to prepare for adoption of the new rule.
Affecting Companies Providing R&D Service
ASC 808 defines a collaborative arrangement as “a contractual arrangement under which two or more parties actively participate in a joint operating activity and are exposed to significant risks and rewards that depend on the activity’s commercial success.” Howell said that collaborative arrangements are common among life science companies when they work together on research and development of new drugs and devices.
U.S. generally accepted accounting principle, ASC 808, didn’t provide guidance on how to recognize and measure these transactions. Historically, “entities have been developing their own accounting policies to fill the gap that U.S. GAAP didn’t provide,” Howell said. “When companies are developing their own policies, diversity exists,” he added. Some companies apply legacy revenue Industry guidance to recognize those transactions while others don’t.
Under ASU 2018-18, if a company concludes that a collaborative arrangement is a contract with a customer, or a distinct part of the arrangement is within the scope of ASC 606, the company should apply all of ASC 606's requirements, including the disclosure requirements. However, depending on how historically close companies were to applying ASC 606, they may or may not be impacted by the new rule.
Howell said that many biotech companies have collaborative arrangements to provide R&D services to pharmaceutical companies. If those biotech companies conclude the pharmaceutical companies are their customers, they will need to apply ASC 606.
Another situation Howell has seen in practice is when two pharmaceutical companies are both providing R&D activities to each other within a collaborative arrangement. “If the R&D activities are not viewed as ordinary activities that pharmaceutical companies provide, neither of the activities is accounted for under 606.”
He expects the new rule, ASU 2018-18, to have some impact on biotech companies but not a lot of impact on pharmaceutical companies.
Preparing for Adoption
Howell said that companies should begin preparing by inventorying their current collaborative arrangements, and “go through those arrangements to determine if there is a customer vendor relationship, or if the good or service elements in the arrangements are distinct.” If those arrangements are in the scope of ASC 606, companies then should follow the five steps required in the revenue guidance.
For the arrangements or the elements under the arrangements that companies determined are not within the scope of the revenue model, Howell said that they then need to establish a policy to determine the appropriate rule they need to apply to account for those arrangements and apply the rule consistently.
Overall, the new accounting rule will improve consistency among companies in accounting for collaborative arrangements. It is really “good guidance for biotech companies and companies providing R&D services,” Howell concluded.
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