Manufacturers, Are You Compliant with the New Accounting Standards?March 14, 2019
Manufacturers, it’s time to comply with the new revenue recognition requirements. They are a bit complex…Take into account some important factors.
Attention manufacturers: have you complied with the new revenue recognition requirements issued by the Financial Accounting Standards Board (FASB)? It is effective now so don’t delay any longer! These changes impact your calendar 2019 year end book and tax reporting.
FASB ASU 2014-09
As mentioned in a blog we posted last year, New FASB Standard: Revenue Recognition - Are You Ready? Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606), will likely have a significant impact on companies that offer guarantees (other than warranties that the product will function as specified), or are in the media, machine manufacturing, construction, and software industries.
The requirements were issued several years ago to provide an approach for recognizing income that more accurately depicts the transfer of promised goods and services.
Who does it apply to?
Any entity entering into a contract for the transfer of goods or services or the transfer of nonfinancial assets must comply with the requirements.
Complying with the new standard…Steps your business should take now:
- Identify contracts with customers
- Identify the performance obligations with customers
- Determine the transaction price
- Allocate the transaction price to the performance obligations in the contract
- Recognize revenue as your company completes each performance obligation.
Special considerations for manufacturers
Due to a high volume of contracts, manufacturing companies are uniquely impacted by the changes to the revenue recognition model. Here are some questions you can ask yourself to determine how prepared you are to take on the new standard:
Have we combined the appropriate contracts?
Under previous GAAP, manufacturers were able, but not required to combine contracts. Under ASC 606, you will be required to combine contracts when certain criteria are met….
- The contracts are negotiated as a package with a single commercial objective
- The consideration to be paid for one contract depends on the price or performance of the other contracts
- The goods or services promised in the contracts are a single performance obligation (in accordance with the guidance).
Have we classified warranties and other bundled services appropriately?
If a customer purchases an optional warranty separately, it is treated as a standalone performance obligation. This doesn’t apply if the warranty is an assurance type warranty (against product defects).
Product sold with services (installation, integration, training, etc.) bundled into the customer contract require assessment as to whether the services are recognizable separately or as a single performance obligation. Bill and hold arrangements need to be carefully evaluated too.
Have we correctly reflected volume rebates and discounts in the transaction price?
Under the new standard, determining the transaction price depends on evaluating the “consideration” due back to the customer, which includes rebates and discounts. Manufacturers often provide discount or rebate programs based on volume of sales. In order to estimate the transaction price, companies with volume rebates will need to consider the impact of the rebate on the contract, their experience with the customer or similar customers, and other qualitative factors.
Are we using the right revenue recognition model?
Manufacturers must recognize revenue over time if one of the following conditions are in place:
- The customer has a right to the benefits provided by the contract as the manufacturer fulfills the contract
- The manufacturer creates or enhances an asset (work-in-progress) that the customer controls during the process
- The manufacturer does not have an alternate use for the asset being created or enhanced (i.e. customized product), and it has an enforceable right to payment for performance completed to date.
Do we need to capitalize contract costs?
Incremental contract costs, like sales commissions and fulfillment costs (set up, design) you would not otherwise incur without the sales contract, generally are capitalized and amortized over the contract term if longer than one year.
These changes in revenue recognition can impact debt covenants, income taxes and compensation plans based on revenue or bottom line. As you can see, adopting this new standard could be time-consuming and complex. Do you need assistance putting procedures in place? Contact us. We can help.