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By Christoph Hütten
Christoph Hütten has been Senior Vice President and Chief Accounting Officer at SAP SE since 2003. Dr. Hütten joined SAP SE as Assistant to the Chief Financial Officer in 1999 and acted as Head of Corporate Finance. Dr. Hütten serves as chairman of the IFRS Global Preparers Forum, a formal advisory body to the IASB, and the FASB/IASB Joint Transition Resource Group for Revenue Recognition , and as chairman of the Financial Committee of Schmalenbach-Gesellschaft für Betriebswirtschaft e.V. Dr. Hütten attended the Institute of Financial Accounting of Saarland University.
With few days left until the new revenue recognition standard comes into effect, many accounting and finance professionals are scrambling to prepare. As developing the new standard was a joint effort by the U.S. Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB), it applies to companies both in the U.S. and the rest of the world. Compliance on Jan. 1, 2018, is non-negotiable. Public companies that operate on a calendar year-end financial cycle will be required to implement the new five step, principles-based model, commonly referred to as Accounting Standard Codification (ASC 606)—part of U.S. GAAP—and International Financial Reporting Standard (IFRS) 15.
With time to implement the standard quickly running out, accounting and finance teams should be actively evaluating the challenges and impact that the regulation poses, both for their departments and businesses as a whole. Before looking at the implications and solutions for complying to the new standard, it’s important to understand why these changes were put into place.
ASC 606/IFRS 15 is a five-step principles-based model made to improve revenue comparability across industries, replacing all current revenue recognition requirements under IFRS and U.S.GAAP. It requires businesses to recognize revenue in a way that shows the transfer of goods and services promised to customers. This represents a radical shift in how revenue is reported for many companies.
The two boards began development of the standard in 2002 to remove inconsistencies between the IASB and FASB definitions of revenue. For over 10 years SAP was at the forefront of providing support, insight, ideas, and feedback to the IASB and FASB staff to help shape the new rules. In detailed letters on the exposure drafts and numerous discussions with the IASB and FASB staff, my team and I provided both insight into what the draft new rules would mean for customer contracts in the software industry, and ideas on how to improve the use and operation of the new rules.
The IASB and FASB established a FASB/IASB Transition Resource Group (TRG) for Revenue Recognition to address implementation issues. Comprised of 30 accounting executives from across industries, audit firms, and other stakeholders, this group provided views on how to apply the new standard to transactions that stakeholders struggled with. As a member of TRG, we helped interpret issues occurring during the implementation process.
IFRS 15 will require businesses from many industries to look at revenue in a new way, affecting how they manage business processes and internal control over financial reporting. The most significant impact, however, will be on how businesses report revenue.
RevenueUnder the new standard, all goods and services delivered to the customer and all related arrangements like purchase options, return rights, concessions and warranties must be considered when determining when and how much revenue to recognize. The timing of recognizing revenue aligns less with the timing of invoicing, and more with management judgment. The amount of disclosures increases significantly, providing a much more granular insight into companies’ revenue patterns.
Profits (Earnings)A change in revenue recognition not only impacts how revenue is calculated and recorded, but also profits—and the impact on profits goes beyond the direct impact of changes in revenue patterns. The new standard brings additional changes to when finance professionals recognize profits the expenses incurred to obtain and fulfill a customer contract.
The potential significance of the impact on revenues and profits requires companies to plan and prepare for when the new rule goes live, and has its impact reflected in budgets, compensation plans, and other guidance.
Knowing IFRS 15 takes months, if not years, to prepare for and will have a significant impact on a business’ bottom line, SAP started preparing for the adoption of the standard over four years ago. In this preparation SAP wore two hats. As a software vendor, SAP prepared by building software to help our customers seamlessly comply. As a preparer of financial statements, SAP prepared by drafting new revenue recognition policies, preparing new business rules and compensation policies, adapting processes, installing the newly developed software, and by training both the finance teams, the sales teams and many others.
New policies and business rulesIn the software industry revenue recognition rules have a significant impact on the business models used and how business is conducted. The new standard results in far-reaching changes to this role of revenue recognition. Some business practices may lose their historically favorable revenue treatment. Other business practices that in the past were avoided because of unfavorable revenue patterns may become more attractive. For both, new ways of preventing them or at least controlling them are needed. Thus, SAP’s efforts in the area of policies was not limited to Corporate Accounting. We drafted a 500-page guideline, detailing revenue recognition policies as a basis for training and revenue recognition assessments in 2018. We also introduced new business rules and compensation rules to be applied.
TrainingIn light of the importance of revenue recognition, SAP’s efforts to train staff on the new rules and what they mean for each business were far from limited to SAP’s accounting personnel. The effort was organization-wide. SAP’s CEO and board of directors, individual sales employees, and business leaders in all areas of the company, (as well as finance personnel inside and outside accounting) learned to understand the impact of the new rules.
Training differed significantly by target group. For the revenue recognition experts, SAP held IFRS 15 conferences in offices across the globe. These conferences covered everything from the principles of the new standard to case studies that detailed the impact of SAP’s new policies on the individual business models and contract structures. In both live and virtual sessions across zones, SAP’s sales personnel were provided insight into the most critical changes to revenue patterns to ensure they will consider them in contract negotiations with customers. SAP’s CEO and board of directors were also updated in board meetings and live sessions. Finance departments such as Tax, Financial Planning and Analysis (FP&A), Risk Management, and Legal received dedicated training sessions to address and discuss the impact on their functions. E-Learnings and webinars for all target groups covered everything from a high-level overview to the details on an individual topic.
TechnologyIn many areas, the new standard increases the complexity of recording revenue. Finance teams need up-to-date technology to help streamline the process and manage the complexity of large amounts of data. To ensure full compliance while being efficient, SAP realized the needs for tools specifically designed to support transitioning to and applying the new revenue recognition rules. The foundation for the software was first-hand feedback from numerous customers that SAP engaged, as well as the deep insight my accounting teams gained through their involvement in developing ASC 606/IFRS 15 and my membership in the TRG. Based on this, SAP’s finance software development team, in close collaboration with the accounting team, designed a revenue recognition product to explicitly meet implementation demands of the standard. Together we worked to develop a road map for supporting IFRS 15 compliance and build a product to help both our customers and our own business comply with the new regulations. As an early adopter of this new product, SAP’s finance teams help to improve and mature the product’s functionalities and features.
When it comes to revenue recognition, the biggest takeaway is that time is not on your side. Finance executives need to take the time to understand how revenue and earnings will be affected. To further ease the transition, finance leaders should properly train their employees and provide the technical infrastructure needed to support the new regulation. Finally, in the industries most affected by the new standard, leaders across functions need to understand that the new standard is not a compliance gimmick to entertain the accountants in the company, but rather something that impacts processes, policies and compensation across the company. As such, it is more a business change than a mere accounting change.
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