The Financial Accounting Standards Board (“FASB”) and the International Accounting Standards Board (“IASB”) issued jointly written revenue recognition standards on May 28, 2014. The new guidance standardizes how companies should recognize revenue in financial statements under both U.S. generally accepted accounting principles (GAAP) and international financial reporting standards (IFRS). This new revenue recognition standard will replace most of the current revenue recognition guidance, including much of the industry-specific guidance that exists under GAAP today.
The new guidance aims to:
1. Remove inconsistencies and weaknesses in revenue requirements.
2. Provide a more robust framework for addressing revenue issues.
3. Improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets.
4.Provide more useful information to users of financial statements through improved disclosure requirements.
5.Simplify the preparation of financial statements by reducing the numberof requirements to which an entity must refer.
The core principle of the new guidance is that “an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” The guidance contains the following five step process:
Step 1: Identify the contract(s) with a customer.
Step 2: Identify the performance obligations in the contract.
Step 3: Determine the transaction price.
Step 4: Allocate the transaction price to the performance obligations in the contract.
Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation.
Public companies using GAAP will be required to apply the new revenue recognition standard for annual reporting periods beginning after December 15, 2016, including interim reporting periods therein. Public companies are not permitted to apply this new standard early.