More Considerations for Technology Companies Impacted by New Revenue Recognition RulesNovember 11, 2014
How your technology company will be affected and what steps you need to take now.
Back in July, we wrote about how software companies are among those that will feel the biggest impact of new rules for reporting revenue from customer contracts under Generally Accepted Accounting Principles (GAAP). But other types of technology companies will be affected as well, such as computer hardware and electronics manufacturers, biotechnology firms, and providers of IT consulting, social media management and online gaming services.
Many of the same issues affecting software companies also affect other technology companies. For example, because third parties often look to a technology company’s top line to gauge its performance and financial health, changes in revenue recognition could impact such a company’s credit standing, debt covenants, compensation agreements and royalty payments to third parties. In addition, the changes could result in temporary differences in book and tax earnings to the extent that the new GAAP rules don’t sync with the tax code.
Also like software companies, other technology companies may end up reporting revenue sooner than under the industry-specific guidance that previously applied. Likewise, these companies in many cases will need to expand their disclosures about revenues from customer contracts.
These other technology companies can start working toward compliance by reviewing existing contracts and asking critical questions about the probability of the seller not having to make a significant reversal in revenues. Consider the following questions:
- Can groups of contracts with the same customer entered into around the same time be combined and evaluated as a single contract? If a technology provider, such as an online gaming company, sells hundreds of small add-ons, can similar contracts be accounted for using a portfolio approach, rather than recognizing each sale as an individual contract?
- Do the new rules simplify and accelerate the accounting for bundled services such as integration and implementation too?
- What is the impact on contracts with fixed and variable or downstream revenue considerations?
- Are bill and hold arrangements one or two performance obligations under the new rules?
- Should change orders, contract modifications and terminations be treated as separate contracts or as part of the original contract?
- When using a dealer or broker to sell technology goods, when does control transfer to the intermediary? How do return provisions affect the change-in-control determination?
- How do undelivered contract terms, such as hosting services and future upgrades, affect revenue recognition? Are unspecified updates provided on a when-and-if-available basis?
- How do other contract provisions, such as extended payment terms, refunds and returns, factor into the analysis?
- How will the new revenue recognition rules impact the company’s taxable income? Is it advantageous to use an alternate tax accounting method that could create deferred tax obligations if the entity reports revenues earlier under the new standard? Or is it simpler and more cost-effective to report revenue using the new standard for tax purposes?
Other areas impacted are contingent revenue and accounting for contract costs, such as sales commissions. Generally, the new rules are more flexible and subjective than the old industry-specific ones, but they’ll require enhanced disclosures about the nature of customer contracts, performance obligations, the timing of satisfying obligations, contract policy decisions and the use of estimates. Technology companies also may need to break down revenues by contract type or customer.
The changes go into effect with 2017 reporting for public companies and 2018 reporting for private companies. Early adoption is permitted only for private companies, which can adopt the new standards in 2017 if they prefer. Nevertheless, to avoid future problems, all technology companies should begin tracking these changes and modifying their reporting processes now.
Contact us to discuss how your technology company will be affected and what steps you need to take now.