Authored By: Dustin Wood, CPA. Dustin has been with the firm 8 years and is the audit manager here at Cook Martin Poulson, PC. He specializes in financial statement services.
The Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) have been working on converging standards between generally accepted accounting principles in the United States of America (U.S. GAAP) and international accounting standards. Two of the projects they have been working on, and that continue to move forward, are related to revenue recognition and accounting for leases. U.S. GAAP has provided industry-specific and “bright line” guidance in these areas in an effort to make the standards easier to apply. The proposed standards, as part of the convergence project, would move away from that guidance making it more difficult to determine when revenue should be recognized and how to account for leases.
Current practice differs from the proposal in the following four ways: 1) Under the proposal revenue would be recognized only upon transfer of goods or services (i.e. percentage-of-completion recognition could only be used if the customer owns the work-in-progress being built or developed), 2) All distinct goods or services would need to be separately identified, 3) Collectability would affect the amount of revenue recognized, and 4) Estimates would be required to determine the allocation of revenue and the basis for the allocation.
The revised revenue recognition model being proposed centers around revenue being recognized when promised goods or services are transferred to customers in an amount the company expects to be entitled to. The five steps included in the model are as follows:
1. Identify the contract with a customer.
2. Identify separate performance obligations in the contract.
3. Determine the transaction price.
4. Allocate the transaction price to the separate performance obligations in the contract.
5. Recognize revenue when (or as) the company satisfies a performance obligation.
While applying the steps may seem like a simple process that isn’t always the case. The proposed standard and model appear to add complexity and require additional interpretation to determine when or how revenue is recorded. The final standard is expected to be issued by the end of 2013 and companies need to be aware of this development and assess how it will impact their financial accounting policies and procedures.
Accounting for Leases
Potential changes to lease accounting (particularly accounting by the lessee) would do away with current accounting requirements, which provide a “bright line” test to determine whether a lease is an operating lease or a capital lease for the lessee. Operating lease payments are currently expensed as rent and lease payments while capital leases require the recording of an asset and a liability, as if the asset were being purchased. Based on current discussions, changes to lease accounting would require recording assets and accompanying liabilities for all leases, and would require adjusting lease accounting for leases already in place. The proposed changes are currently still in the discussion and proposal stage, and a final standard is not expected until 2014 and would likely not require implementation until 2017, but companies should be prepared for the changes and be aware of what adjustments may be necessary.
We will continue to monitor the status of these standards and provide updates once the final standards have been issued.