Revenue Accounting Complexity Draws Clients to Cloud Companies

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By Denise Lugo

New revenue recognition accounting that public companies must adopt next year is driving more companies to cloud computing platforms.

Some cloud computing companies are raking in huge benefits as more customers come knocking in hopes of making application of the new revenue recognition rules easier, technology sources told Bloomberg BNA.

“Last year people were putting it off; they’re not putting it off now,” said Ian Howells, chief marketing officer at Intacct, a California-based cloud accounting software company that serves mid-sized firms. “It’s driving business for us in nearly every conversation we’re having. Public companies have got to move now.”

The business potential for cloud companies is enormous. Company earnings spiked, Jagan Reddy, chief executive officer of Leeyo Software Inc., a provider of revenue automation solutions, told Bloomberg BNA. “We witnessed last year 100 percent growth, whereas prior years we had 30-to-40 percent,” Reddy said. Leeyo, headquartered in San Jose-Calif., serves companies of all sizes and a variety of industries. “We used to do one or two demos in a week before, and right now we’re doing at least four-to-five a day,” he said.

The new standard, Revenue from Contracts with Customers (ASC 606), is one of the biggest changes in accounting in over a decade. It will affect every industry and is applicable to every company.

Revenue Rule Massive Undertaking

Adopting the rules is a massive undertaking for some companies. Moving to utilize cloud services therefore, enables increased capability, better access and collaboration within an organization.

Flowserve Corp., a multinational supplier of industrial and environmental machinery such as pumps and valves, moved a portion of its process to the cloud because of the complexity involved in applying aspects of the revenue rules.

“In order to comply with the revenue standard, we need to review all the orders that we are receiving from customers and determine whether we need to apply ‘point in time’ or ‘over time,” Flowserve’s global controller Bill Velasco told Bloomberg BNA in describing one requirement of the revenue model companies must fulfill. “And the fastest way to process them was to go to the cloud,” he said.

The revenue rules require a review of the contract. That involves identification of the terms and conditions of the language contained in the contract, the products the company is delivering to the customer and the conclusion to be documented.

For Flowserve, 50 times more customer contracts than under old rules need to be reviewed, Velasco said, “because contracts that are as short as four or five months have to be looked at to determine at what point revenue can be recognized,” he said.

Under the old rules, only long term contracts over 12 months had to be reviewed to ensure that the units of accounting are appropriately established. Only a handful of contracts therefore needed review, Velasco said.

Rules Require Judgment

The standard requires a five-step process for a company to determine if it has a contract with a customer that focuses on transfer of control, as opposed to transfer of risk and rewards. Among other provisions, companies must provide enhanced disclosures that focus on the nature, amount, timing and uncertainty of revenues and cash flows from contracts with customers.

“The prior revenue standard was largely rules-driven, which made it relatively straightforward to explain and document a company’s revenue,” Joseph Howell, of enterprise software company Workiva, told Bloomberg BNA. “The new standard is largely principles-based and requires substantially more judgment,” said Howell, co-founder and executive vice president of strategic initiatives at the Ames, Iowa-based company. Workiva serves all sizes of companies.

“That increased judgment, in turn, requires more disclosure and more explanation and documentation about how revenue and related expenses were calculated,” Howell said. “It also requires companies to reconsider related processes and internal controls.”

Cloud Outlook Bright

Even without the potential for business growth from new accounting rules, the outlook for cloud companies looks bright. Revenues for public and private cloud hardware, software and services amount to $180 billion—about 16 percent of the $1.1 trillion enterprise IT industry, according to a study done by global management consulting firm Bain & Co., which is headquartered in New York.

From now through 2020, 60 percent of IT growth will likely come from cloud demand, the report states. “Historically, companies have always handled technology in-house,” David Hartley, principal and virtual chief information officer at UHY LLP Advisors, told Bloomberg BNA. “What they’re realizing and adapting to now is the future, which is the cloud computing shared resource model, and they’re doing it for a number of reasons,” he said.

Cloud platforms eliminate a lot of infrastructure problems and enables easy interaction with company partners. “With an on premise software, it’s difficult to extract information, and it’s difficult to share,” Hartley said. “With the cloud, you’re all sharing the same instance, so your advisers can get in and look at exactly what you’re talking about simultaneously as opposed to emailing files back and forth.”

Cybersecurity: the Elephant in the Room

Some practitioners said they’re hesitant about taking the cloud leap, citing cybersecurity concerns and other challenges. The answer is good due diligence, technology consultants said. “Companies should look at the reasons they’re utilizing the cloud and be aware of their provider’s security and contractual obligations,” Aaron Donaldson, a principal in RSM’s Technology Management Consulting group, told Bloomberg BNA.

They should think about issues such as data ownership and what they’re going to do if the cloud company goes bankrupt or decides to invoke a clause in the contract that then deems that data no longer proprietary.

Companies should partner with a company that has history and good track record. “Think of it as a pre-nup,” said Donaldson. “If something were to change, you’ve already outlined a way to untangle,” he said.

To contact the reporter on this story: Denise Lugo in New York at dlugo@bna.com

To contact the editor responsible for this story: S. Ali Sartipzadeh at asartipzadeh@bna.com

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