Issues with New Accounting Standards for Revenue Recognition

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The Accounting Standards Update (ASU) 2014-09 was published by the International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) as an improvement to the existing revenue recognition standard. The implementation of the new revenue recognition standards is expected to bring about numerous issues related to information disclosure, lack of outlined rules, and difficulties in the utilization of judgments by entities.

Firstly, companies will be required to disclose more information than before as a result of the new revenue recognition standard. They must disclose information such as the amounts of revenues from customer contracts, contract assets connected with customer contracts, and impairment losses on receivables. Furthermore, a lot of detailed information concerning customer contracts must be disclosed, such as disaggregated revenue, and contract liabilities, receivables, and assets (Marshall 24). They also need to divulge general performance obligations, as well as the transaction price assigned to the remaining performance obligations at the conclusion of the reporting period. The disclosure of capitalized costs associated with fulfilling or obtaining customer contracts is also required. Companies also need to disclose information such as significant judgments involved in establishing when performance obligations are fulfilled, as well as in approximating the transaction price and the sum allocated to performance obligations (Marshall 24).

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Furthermore, unlike the Accepted Accounting Principles (GAAP) for revenue recognition, which offer industry-specific guidance, significant professional judgment is required by the new standard. GAAP provides models which focus on particular industries such as construction and software (Marshall 9). Instead of relying on a particular set of criteria for every industry, the new revenue recognition standard is dependent on customary business practices and contract terms across the board. Consequently, entities will have to ensure that their contracts describe how and when the transfer of value to the customers occurs. The entities also employ significant judgments in establishing when they fulfill performance obligations and making estimates of the transaction price and the amount assigned to performance requirements (Marshall 24). They will need to make many financial estimations under the new standard, and they have to ensure that proper judgment is employed to end up with accurate estimates.

Companies will also experience difficulties in utilizing their judgments to determine the existence of a significant financing component that is important enough to include the time value of money. One of the steps in the revenue recognition process requires entities to determine the transaction price. This phase involves several actions, one of which is to examine the contract to establish whether a significant financing component exists. An entity needs to reflect the time value of money in its transaction price estimate if a significant financing component exists in the agreed-upon payment timing in the contract (Thornton 11). Thus, to establish the existence of a significant financing component, entities need to consider factors such as the duration of time between the transfer of goods to the client and the payment. Other factors include the interest rate in the contract and that in the relevant market as well as whether there would be a substantial difference in the consideration amount if the client paid cash when the goods were transferred (Marshall 11). If an entity gets consideration over a duration of time long enough that the time value of money has an impact, it needs to adjust the reported revenue to reflect the received consideration accurately. A significant financing component may be inexistent if the customer pays in advance and is in control of the date of transfer of the goods. Other reasons for the inexistence of the significant financing component include if the consideration is variable as a result of uncontrollable third party factors, and when something other than financing is responsible for the difference between the cash price and the promised consideration (Marshall 11). Entities also experience difficulties in applying significant judgments to evaluate changes in circumstances such as price adjustments in the contract (Thornton 7).

Overall, the new revenue recognition standard raises several issues such as the need to disclose more information, utilization of professional judgment by entities, and difficulties in using the judgments. Thus, entities should have a clear understanding of the new revenue recognition standard.

  • Marshall, Brian H. Revenue Recognition: A Whole New World. RSM US LLP, 2014.
  • Thornton, Grant. A Shift in the Top Line: The New Global Revenue Standard is Here. Grant Thornton International Limited, 2014.

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