New Developments Summary - Revenue Recognition Project Nearing End

Author:Ms Grant Thornton's Audit Practice Group
Profession:Grant Thornton LLP

Boards complete substantive redeliberations


For several years, the FASB and the IASB have been discussing their joint revenue recognition project with the objective of developing a single comprehensive, converged revenue recognition model. Those discussions have resulted in a Discussion Paper followed by two Exposure Drafts, with the most recent in 2011, Revenue from Contracts with Customers (2011 ED). The Boards received numerous comment letters on all three documents and have engaged in other outreach efforts throughout the process to solicit feedback on the proposed revenue model. The Boards considered that feedback in their redeliberations of the 2011 ED, and as a result of those redeliberations tentatively decided to revise some of the proposed revenue guidance. At the conclusion of the February 2013 joint meeting, the Boards have completed their substantive redeliberations on the 2011 ED.

The Boards plan to issue a final standard by the middle of 2013, which would be effective for reporting periods beginning on or after December 15, 2016 for public entities reporting under U.S. GAAP. An entity could apply the new guidance retrospectively or alternatively, it could elect an alternative transition method. Early adoption would not be permitted. The new revenue guidance would be effective for nonpublic entities for annual reporting periods beginning after December 15, 2017 and interim and annual periods thereafter. Early adoption would be permitted for nonpublic entities in fiscal years beginning after December 15, 2016.

This bulletin summarizes the current status of the proposed revenue recognition model reflecting tentative decisions made by the Boards through March 2013.

  1. Introduction

    More than five years ago, the FASB and IASB embarked on a joint project to develop a single model for recognizing revenue and to streamline substantially all revenue recognition guidance. That project began taking shape in 2008 with the issuance of the joint Discussion Paper, Preliminary Views on Revenue Recognition in Contracts with Customers. Then, in June 2010, the Boards issued a joint exposure draft (ED), Revenue from Contracts with Customers, for public comment. After performing extensive outreach with constituents and reviewing nearly 1,000 comment letters on the 2010 ED, the Boards decided to revise their original proposal and to re-expose it for public comment in November 2011.

    The Boards have performed extensive outreach on various aspects of the revised revenue recognition proposals and gathered feedback in response to specific questions raised in the 2011 ED. As a result of that process, the Boards identified a number of topics for redeliberation, such as performance obligations satisfied over time, identification of separate performance obligations, constraining the cumulative amount of revenue recognized, customer credit risk, licenses, and disclosures.

    This bulletin updates the proposals included in the 2011 ED to reflect the tentative decisions reached by the Boards in redeliberations through the February 2013 joint meeting and for the effective date decisions reached by the FASB at its March 2013 meeting.

    Barring any unforeseen problems, the Boards plan to issue a final standard with converged guidance on revenue recognition in the middle of 2013. When finalized, the proposed guidance would replace most of the guidance in FASB Accounting Standards Codification® (ASC or Codification) 605, Revenue Recognition, and supersede most industry-specific revenue guidance.

  2. Proposed revenue recognition model

    The proposed revenue model is based on the core principle that requires an entity to recognize revenue in a manner that depicts the transfer of goods or services to customers in an amount that reflects the consideration the entity expects to be entitled to in exchange for those goods or services. A “customer” is defined as “a party that has contracted with an entity to obtain goods or services that are an output of the entity's ordinary activities.”

    To apply this principle, an entity would perform the following five steps:

    1. Identify the contract with a customer.

    2. Identify separate performance obligations.

    3. Determine the transaction price.

    4. Allocate the transaction price to separate performance obligations.

    5. Recognize revenue when or as an entity satisfies performance obligations.

      The proposed guidance would apply to contracts with customers to provide goods or services. It would not apply to certain contracts that are within the scope of other U.S. GAAP, such as lease contracts, insurance contracts, financing arrangements, financial instruments, guarantees other than product warranties, and nonmonetary exchanges between entities in the same line of business to facilitate sales to third-party customers.

      The proposed guidance also would cover transfers of nonfinancial assets that are not part of an entity's ordinary activities. In such an arrangement, an entity would be required to apply the control and measurement requirements in the proposed guidance, including the requirements on constraining revenue, in determining when to derecognize the asset and the amount of consideration to be included in the gain or loss on the transfer. An entity would also apply to those transactions the requirements in the proposed guidance to determine when a contract exists (Step 1 as discussed below).

      Step 1: Identify the contract with a customer

      The first step in the proposed model is to identify the “contract,” which the proposed guidance defines as “an agreement between two or more parties that creates enforceable rights and obligations.” A contract can be written, oral, or implied by an entity's customary business practices. According to the proposed guidance, a contract with a customer must satisfy all of the following criteria:

      The contract has commercial substance.

      The parties have approved the contract and are committed to perform.

      The entity can identify each party's rights and the payment terms for the goods and services to be transferred.

      For purposes of applying the proposed guidance, a contract would not exist if each party has a unilateral enforceable right to terminate a wholly unperformed contract without compensating the other party.

      In response to concerns about recognizing revenue for transactions that contain nonrecourse seller-based financing, the Boards tentatively agreed to provide additional guidance to determine whether a contract with a customer exists based on the customer's commitment to perform under the contract.

      Combining contracts

      An entity would combine two or more contracts and account for them as a single contract if they are entered into at or near the same time and meet one of the following criteria:

      The contracts were negotiated as a package with one commercial objective.

      The amount paid under one contract is dependent on the price or performance under another contract.

      The goods or services to be transferred under the contracts constitute a single performance obligation.

      Contract modifications

      A contract modification results when the parties to a contract agree on a change in the scope and/or the price of a contract. If the parties approve a change in scope but the corresponding price has not yet been determined, the entity would apply the proposed revenue guidance to the modified contract when the entity has an expectation that the price of the modification has been approved.

      The Boards tentatively decided that contract modifications, including contract claims where changes in scope and price are either unapproved or in dispute as described in ASC 605-35, Revenue Recognition -Construction-Type and Production-Type Contracts, would be considered approved when the modification creates or changes the enforceable rights and obligations of the parties to the contract. Approval could be made orally or in writing or could be implied by customary business practice.

      An entity would account for a modification as a separate contract, which would affect future revenues only, if the modification results in both of the following:

      Promised goods or services that are “distinct,” as defined

      The right to receive consideration reflecting the goods' or services' stand-alone selling prices under the circumstances of the modified contract

      If a contract modification is not a separate contract, the entity would evaluate the remaining goods and services to be delivered under the modified contract to determine how to account for the modification, as follows:

      If the remaining goods or services are distinct from those delivered before the contract was modified, the entity would treat the modification as a termination of the original contract and the creation of a new contract. As such, the transaction price available for allocation to the remaining separate performance obligations would equal the amount of consideration received from the customer but not yet recognized as revenue, plus the amount of any remaining consideration the customer has promised to pay that has not been recognized as revenue.

      If the remaining goods or services are not distinct and are part of a single performance obligation that is partially satisfied as of the modification date, the entity would treat the modification as part of the original contract by adjusting both the transaction price and the measure of progress toward completion of the performance obligation. The revenue recognized to date would be adjusted for the contract modification on a cumulative catch-up basis.

      If the modification represents a combination of the two preceding scenarios, the entity would allocate the consideration received but not yet recognized as revenue, and any remaining consideration the customer has promised to pay, to the remaining performance obligations, including those partially satisfied. The entity would also update the transaction price and remeasure the progress toward completion for any performance obligation that is...

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