Most companies would agree that revenue recognition standards are complex and ever-evolving.
By comparing ASC 606 and IFRS 15, this article will provide clarity on key differences in revenue recognition under GAAP and IFRS...
Examining scope exclusions, warranties, contract costs, licensing, and disclosure requirements. With a strategic approach, companies can effectively transition to the new standards and embrace the future of revenue recognition.
Introduction to Revenue Recognition Frameworks
Revenue recognition refers to the accounting rules that determine when a company should recognize revenue from its customers in its financial statements. ASC 606 and IFRS 15 are the main revenue recognition standards in the US and internationally.
Exploring the Objectives of ASC 606 and IFRS 15
The key objectives of ASC 606 and IFRS 15 are to:
- Provide a single comprehensive model for recognizing revenue from contracts with customers
- Improve financial reporting comparability across companies and industries
- Enhance relevant disclosures to help investors better understand revenue
- Simplify the preparation of financial statements by reducing inconsistencies in requirements
Tracing the Evolution of Revenue Recognition Standards
ASC 606 and IFRS 15 replaced older revenue recognition standards like ASC 605 and IAS 18. New standards were needed to:
- Eliminate inconsistencies in revenue requirements across different industries
- Provide more robust disclosure requirements surrounding revenue
- Improve comparability of revenue recognition practices globally
Determining the Applicability of ASC 606 and IFRS 15
The standards apply to all contracts with customers except:
- Lease contracts
- Insurance contracts
- Financial instruments and other contractual rights or obligations
Essentially all companies recognize revenue from contracts with customers.
Understanding the ASC 606 Revenue Recognition 5 Steps
Both ASC 606 and IFRS 15 follow this 5-step process:
- Identify the contract with the customer
- Identify separate performance obligations
- Determine the transaction price
- Allocate price to performance obligations
- Recognize revenue as performance obligations are satisfied
Assessing the Impact of New Revenue Recognition Standards
Key changes from ASC 606/IFRS 15:
- Revenue recognized earlier/later for certain businesses
- Significantly expanded disclosure requirements
- Additional judgment required in certain areas
The changes improve financial reporting but also introduce complexities.
What is the difference between IFRS and GAAP revenue recognition criteria?
Essentially, IFRS is based on the guiding principle that revenue is recognized when value is delivered. GAAP has much more specific rules regarding how revenue is recognized in different industries, but essentially, income isn't recognized until goods have been delivered or a service has been rendered.
To elaborate further on the key differences:
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IFRS 15 focuses on a single revenue recognition model across industries and transactions. It is based on a 5-step process for determining when revenue should be recognized:
- Identify the contract with the customer
- Identify the performance obligations
- Determine the transaction price
- Allocate the transaction price
- Recognize revenue when performance obligations are satisfied
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ASC 606 is the GAAP equivalent of IFRS 15. While similar in approach, there are some key differences:
- ASC 606 provides more prescriptive guidance and illustrations for specific industries and transactions
- ASC 606 has different criteria for determining principal versus agent designations
- There are more extensive disclosure requirements under ASC 606
In summary, while both standards follow similar principles, IFRS 15 aims to provide a singular revenue recognition framework across all contracts and industries, while ASC 606 has more precise guidance tailored to various specific business models and transaction types common in the US market.
So when assessing revenue recognition, it is critical to first determine which accounting standard is being applied based on the company's regulatory environment. From there, the specific criteria and disclosure rules guiding revenue recognition for that standard must be closely followed.
How is revenue recognized under IFRS 15?
The core principle of IFRS 15 is that revenue is recognized when goods or services are transferred to the customer at the transaction price. IFRS 15 follows a 5-step model for revenue recognition:
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Identify the contract with the customer. The contract must create enforceable rights and obligations.
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Identify the performance obligations in the contract and determine if they should be accounted for separately.
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Determine the transaction price, which includes estimating variable consideration and adjusting for the time value of money if the contract includes a significant financing component.
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Allocate the transaction price to the performance obligations identified in step 2. This is generally done based on standalone selling prices of the goods or services.
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Recognize revenue when or as performance obligations are satisfied by transferring control of the good or service to the customer.
Some key factors in applying this model include identifying if revenue should be recognized over time or at a point in time, and determining if the company is a principal or an agent in the transaction.
The core principle focuses on transfer of control rather than transfer of risks and rewards as under the previous IAS 18 standard. This represents a shift towards recognizing revenue based on satisfaction of performance obligations.
How does ASC 606 affect revenue recognition?
ASC 606 directs entities to recognize revenue when the promised goods or services are transferred to the customer. The amount of revenue recognized should equal the total consideration an entity expects to receive in return for the goods or services.
Specifically, ASC 606 outlines a 5-step process for revenue recognition:
- Identify the contract with the customer
- Identify the performance obligations in the contract
- Determine the transaction price
- Allocate the transaction price to the performance obligations
- Recognize revenue when/as performance obligations are satisfied
By following this process, revenue is recognized earlier under ASC 606 compared to previous guidance for certain types of arrangements. For example, licenses for intellectual property may meet the criteria for "right to use" licenses under ASC 606, resulting in upfront revenue recognition compared to the previous ratable recognition over the license term.
Additionally, ASC 606 provides more prescriptive guidance around principal versus agent considerations. Careful analysis is required to determine if an entity is acting as the principal, responsible for providing the actual good/service, or as an agent, responsible for arranging for the good/service to be provided. Under ASC 606, principal arrangements generally result in higher revenues.
So in summary, ASC 606 introduces more judgment into the revenue recognition process, but also provides a principles-based framework to facilitate consistent accounting treatment across entities and industries. Overall, the timing and pattern of revenue recognition may differ as compared to previous guidance.
Is the threshold for recognizing a provision under IFRS different than it is under US GAAP explain?
Yes, the threshold for recognizing a provision under IFRS is different than under US GAAP. Here is an explanation of the key differences:
IFRS has a lower threshold for recognition of provisions. Under IFRS, a provision should be recognized when:
- There is a present obligation (legal or constructive) as a result of a past event
- It is probable (> 50% chance) that an outflow of resources will be required to settle the obligation
- A reliable estimate can be made of the amount of the obligation
In contrast, US GAAP has a higher threshold for recognition of contingent liabilities. Under US GAAP, a loss contingency should be recognized as a liability when:
- Information available prior to issuance of the financial statements indicates it is probable (> 75% chance) that an asset has been impaired or a liability has been incurred at the date of the financial statements
- The amount of loss can be reasonably estimated
In summary, the key differences are:
- IFRS uses a >50% probability threshold for recognition
- US GAAP uses a >75% probability threshold
As a result, more provisions and contingent liabilities may be recognized under IFRS than under US GAAP. The difference in thresholds leads to earlier recognition of liabilities under IFRS.
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Comparing ASC 606 and IFRS 15 Revenue Recognition
While ASC 606 and IFRS 15 share the same core principles, there are some key differences in certain areas of application. This section will summarize the major areas where ASC 606 and IFRS 15 diverge.
Examining Scope Exclusions Under ASC 606 vs IFRS 15
IFRS 15 contains some scope exclusions not excluded under ASC 606, such as:
- Leases
- Financial instruments
- Non-monetary exchanges
These arrangements follow other accounting standards under IFRS but are included in the scope of ASC 606.
Divergent Approaches to Accounting for Warranties
- ASC 606 - Warranties are accounted for as a separate performance obligation and revenue allocated.
- IFRS 15 - Warranties accounted for under IAS 37 Provisions, Contingent Liabilities and Contingent Assets, not as a separate performance obligation.
This causes differences in timing of revenue recognition between the two standards for arrangements involving warranties.
Contrasting the Capitalization of Contract Costs
Both standards allow capitalization of costs to obtain and fulfill a contract but criteria differs:
- ASC 606 - Fulfillment costs capitalized if relate directly to contract, generate resources used to satisfy performance obligations, and expected to be recovered.
- IFRS 15 - Fulfillment costs capitalized if relate directly to contract, generate resources to satisfy performance obligations, and costs incurred regardless of whether contract obtained.
This results in more costs eligible for capitalization under IFRS 15 than ASC 606.
Licensing Revenue Recognition: ASC 606 vs IFRS 15
- ASC 606 - Prescribes royalty recognition model for licensing of intellectual property.
- IFRS 15 - Uses general revenue recognition model for licenses, no special guidance.
This causes earlier revenue recognition under IFRS 15 compared to ASC 606 in many licensing arrangements.
Disclosure Requirements: A Guide to ASC 606 and IFRS 15
While disclosure objectives are similar, several specific disclosure requirements differ between the two standards, including:
- Disaggregation of revenue
- Contract balances
- Performance obligations
- Significant judgments made
Entities reporting under both standards need to ensure appropriate disclosures are made to satisfy both ASC 606 and IFRS 15.
Industry-Specific Revenue Recognition Guidance
In addition to the core principles outlined in ASC 606 and IFRS 15, there are some key considerations for applying the standards across industries. This section summarizes guidance for certain sectors.
Revenue Recognition in the Technology Sector
For software and cloud services, it's important to determine whether the arrangement involves granting a right to access or a right to use intellectual property.
- Access rights are recognized over time, while use rights are generally recognized at a point in time.
- Professional services may be recognized over time if certain criteria are met.
- Multiple performance obligations often need to be identified and accounted for separately.
Telecommunications and Bundling
- Bundle components should be identified and accounted for separately whenever possible.
- Contract modifications require assessment to determine if they should be accounted for prospectively or through a cumulative adjustment.
- Consider timing for recognizing installation fees and other upfront charges.
Construction Contracts
- Construction projects recognized over time using input or output methods to measure progress towards completion.
- Impact of change orders on original contract price and estimated costs should be considered.
- Cost overruns may require recording an onerous contract provision.
Asset Management
- Performance fees recognized at the end of the performance period per contract terms.
- Franchise fees for use of brand name/IP recognized over the term of the arrangement.
- Distribution fees recognized when the service of distributing funds has been provided.
Media Industry
- Licensing of IP often involves access rights recognized over license period.
- Sales-based royalties recognized when the subsequent sale occurs.
- Contra revenue may need to be assessed for returns, discounts, etc.
- Barter transactions require determination of standalone selling prices.
Implementing ASC 606 and IFRS 15: A Strategic Approach
Implementing the new revenue recognition standards requires careful planning and collaboration across the organization. By taking a strategic approach, companies can effectively manage the transition and set themselves up for long-term compliance.
Building a Multidisciplinary Revenue Recognition Team
Bring together stakeholders from finance, sales, legal, IT, and other relevant departments to form a revenue recognition project team. This cross-functional group can provide diverse perspectives to identify potential impacts, develop solutions, and drive adoption of the new standards.
Updating Processes for ASC 606 and IFRS 15 Compliance
Review existing revenue-related processes and identify needed changes to support the new accounting treatments and disclosure requirements under ASC 606 and IFRS 15. Key areas to assess include:
- Sales contract review and revenue analysis
- Tracking performance obligations and variable consideration
- Collecting required data attributes for disclosures
- Reporting metrics and analytics
Update processes accordingly and implement appropriate controls.
Leveraging Technology for Revenue Recognition Compliance
Evaluate current technology systems and tools for gaps in supporting new revenue recognition data and reporting needs. Identify opportunities to enhance IT infrastructure, integrate systems, and leverage analytics for efficiency and insights.
Educational Initiatives for ASC 606 and IFRS 15 Readiness
Conduct training across the organization to build understanding of the new standards, including:
- Overview sessions for broader business teams
- In-depth training for finance, sales, legal and other key roles
- Reference materials covering policies, procedures and guidelines
Ongoing education ensures sustainable compliance.
Phased Transition to ASC 606 and IFRS 15
For large global entities, developing a phased rollout plan can help manage complexity. This may involve:
- Transitioning smaller or less complex units first
- Using longer allowable adoption timeframes
- Gaining learnings to refine processes for broader implementation
With proper planning, governance and engagement across the business, companies can effectively adopt the new revenue recognition standards.
Vintti's Expertise in ASC 606 and IFRS 15 Implementation
Vintti has significant experience helping companies successfully implement ASC 606 and IFRS 15 to achieve revenue recognition compliance. Our services include:
Assessing Revenue Streams for ASC 606 and IFRS 15 Impact
- Analyzing your business models and revenue streams
- Identifying gaps between current state and ASC 606/IFRS 15 requirements
- Quantifying the expected impact across revenue streams
Designing Solutions for Revenue Recognition Compliance
- Mapping future-state processes and data flows
- Defining system requirements for recognition, measurement, presentation and disclosure
- Ensuring end-to-end compliance with ASC 606 and IFRS 15
Planning for ASC 606 and IFRS 15 Implementation
- Developing accounting policies, transition adjustments
- Creating test scripts and transition accounting
- Preparing updated financial statements, disclosures
Technical Configuration for Revenue Recognition Systems
- Configuring revenue software for new revenue processes
- Testing integration between source systems and accounting systems
- Enabling automated revenue recognition processes
Comprehensive Testing and Training Services
- Performing end-to-end testing for all use cases
- Training finance teams on new policies, processes, systems
- Ensuring smooth transition to ASC 606 and IFRS 15 compliance
With deep accounting expertise and technical capabilities, Vintti can provide tailored services to ensure successful revenue recognition implementation.
Conclusion: Embracing the New Revenue Recognition Landscape
Key Takeaways on ASC 606 vs IFRS 15
The key differences between ASC 606 and IFRS 15 include:
- ASC 606 has more detailed guidance and implementation examples, while IFRS 15 principles are more high-level
- ASC 606 specifies when control of goods/services is transferred to the customer, while IFRS 15 focuses more on transfer of control
- There are some variances in how contract costs are capitalized
The standards do have significant similarities as well:
- The core revenue recognition principles
- The 5-step process for recognizing revenue
- Requirements around performance obligations, variable consideration, disclosures, etc.
So while there are some specific differences in certain areas, ASC 606 and IFRS 15 convergence on the fundamental framework and process for revenue recognition.
Strategies for Effective Transition and Compliance
To smoothly transition to ASC 606/IFRS 15, businesses should:
- Perform contract reviews early and develop policies for addressing common issues
- Identify systems, processes and controls that need updating for the new standards
- Provide adequate training to accounting teams on recognizing and measuring revenue
- Develop disclosures and implement processes for gathering necessary data
- Perform testing prior to implementation to identify any gaps
Ongoing compliance requires continuing education on updates and dedicating resources to maintain consistent standards application.
The Future of Revenue Recognition: Amendments and Trends
Recent and upcoming amendments like ASU 2021-08 aim to clarify guidance on:
- Accounting for contract costs
- Applying the concept of transfer of control
- Determining transactions prices and amounts allocated to performance obligations
Broader trends point towards continually enhancing comparability between US GAAP and IFRS guidance.
Audit-proof Revenue Recognition for Any Business Model
Strategies to enable audit-proof revenue recognition include:
- Maintaining organized contract documentation with clear performance obligations
- Implementing robust controls around identifying performance obligations
- Developing pricing policies and approval controls
- Automating revenue recognition calculations where possible
- Enforcing disciplined account reconciliation processes
- Retaining adequate support for key judgments and estimates
Rigorously applying these across business models facilitates compliant financial reporting.
Final Thoughts on Revenue Recognition Standards
The emergence of ASC 606 and IFRS 15 represents a major step towards global accounting standards convergence. While adapting to the new principles requires some effort, the long-term benefits of consistent and transparent revenue recognition practices warrant embracing these standards. Maintaining diligence around implementation while staying abreast of updates will enable businesses to reap the rewards of invested effort in the years ahead.
