The countdown to implement the new revenue recognition rules from the Financial Accounting Standards Board (FASB) is quickly approaching for private companies, yet many with calendar year ends may still have a long way to go to meet the Jan. 1, 2019 implementation deadline.
As recently as March 2018, a poll conducted by Deloitte & Touche LLP found that almost half (47 percent) of private company professionals reported their organization was only in the early stages of implementation of the new standard or had not started at all.
“Private companies may not realize the substantial time and resources this process often requires. Without adequate planning, this could become a fire drill,” said Mark Davis, national managing partner, Deloitte Private Enterprises, Deloitte & Touche LLP. “From our experience working with companies who have already completed their implementation, many ultimately find the process to be much more exhaustive than they initially anticipated.”
With the deadline fast approaching, Davis says, it is critical that private companies and small businesses take these lessons seriously in charting their own path to compliance.
According to the Deloitte poll, private company professionals are beginning to assess the impact the new standard will have on both their financial statements as well as business functions outside of finance and accounting. The poll also found:
- 25 percent of respondents expected a material impact on their company's financial statements due to the new standard.
- 13 percent of respondents reported their organization had already developed a plan for other parts of the business
- 23 percent were in the preliminary stages of assessing the rule's impact across business functions
Deloitte surveyed more than 5,400 C-suite and other professionals about the state of their organizations' preparedness to implement FASB's new revenue recognition standard when it conducted the poll in March 2018.
“While many private companies are considering and planning for the impact of this accounting change throughout their businesses, our poll indicated that about 10 percent of respondents do not plan to look at this issue at all,” said Davis. “It's important to remember that this new standard will bring changes to financial statements that could have a wide-ranging impact on a business, from bank loan needs to timing for bonuses and other compensation incentives.”
Davis says the shift to the new standard could be particularly challenging for private companies and small businesses that don’t have the resources to hire additional staff to implement the new standard.
“Many private companies and small businesses are planning to task their existing workforce with the responsibility to implement the new standard, versus hiring additional staff. However, companies may not realize the intensive amount of training their employees will need regarding the nuances of the new standard,” Davis said.
The implementation will also likely be more intensive for some companies than others, depending on the industry they serve, and their size and business structure, he added. “For example, a company with complex, customized contracts will have more work to do than a company with standardized contracts,” Davis said.
Some of the other challenges the new standard will pose to private companies and small businesses, Davis says, include the fact that the new standard greatly enhances both quantitative and qualitative disclosure requirements. It also introduces concepts that don’t exist under the current revenue recognition model—including many that involve significant judgment, such as estimating transaction price.
In fact, 24 percent of respondents to the Deloitte poll reported they believe the top challenge their organizations will tackle is ensuring that appropriate judgment is exercised on when and how to recognize revenue.
“One of the biggest hurdles private companies are encountering is that revenue recognition is more nuanced than anticipated, with more gray areas than black and white,” said Eric Knachel, Partner, Professional Practice Group, Deloitte & Touche LLP. “While the new standard seeks to remove industry specific accounting for recording revenue and improve financial reporting, many areas remain where companies are being asked to make judgments and estimates. It will be important for companies to adopt formalized processes for how they handle this challenge, to ensure revenue streams and business functions follow a consistent approach.”
Given the short period of time that remains to adopt the standard, Davis says private companies and small businesses should also work with recipients of their financial statements to address before- and after-revenue trends that reflect the change in accounting rules, and ensure they have the time necessary to make changes to loans or other agreements if needed.
For example, Davis says, a company may have a debt agreement with a bank that stipulates certain financial covenants. If the amounts used in those covenants are impacted due to when revenue is now recognized, a company might be required to modify its loan agreement, adding time to a successful implementation of the standard.
Davis says he believes many companies are not prepared for the far-reaching impact the new standard will have on day-to-day operations. “Many people think it is just an accounting issue, but unlike a number of other accounting standards it will not only impact the finance and accounting function; it will affect legal and HR, and potentially the sales team in terms of calculating commissions,” Davis says.
There is an element of training in adopting the new standard that is very important, Davis says. “If the company isn’t going to hire a full-time internal resource to manage the revenue recognition process, educating the current workforce is going to be critical,” he adds.
Aside from starting to prepare right away, Davis says CPAs can help their clients by counseling them to:
- Revisit their data-gathering processes, which can yield business insights beyond those strictly required for financial statement disclosures.
- Identify ramifications—such as process changes and new data needs (e.g. allocating consideration to various performance obligations and identifying remaining performance obligations)—and address them as soon as possible. This may provide companies with an opportunity to revisit their financial close process and develop more streamlined procedures.
- Be prepared to address before- and after-revenue trends that reflect the change in accounting rules. A variety of stakeholders will want to understand how the standard will be addressed and its impact on financial performance and timelines.
- Understand how changes in the timing of revenue recognition versus cash receipts can impact recognition of taxable income, expenses, benefits, and deferrals.
- Evaluate how effective their internal control processes are relating to each of the requirements of the new standard.
- Evaluate existing financial and accounting systems, as well as spreadsheet-based processes that are often inefficient and error-prone.
“Small businesses need to understand the audience for their financial statements. Because the adoption of this standard could impact the timing of when revenue is recognized prospectively, financial information previously provided to a bank or other financial institution, or external investor may change,” Davis says. “Companies who do not adequately prepare for implementation, taking these items in to account, may see a negative impact on the relationships they have with banks and other interested parties.”
“No one gets a free pass,” Davis adds. “Don’t underestimate the amount of work that’s involved and don’t delay—2019 is just around the corner.”