REVENUE RECOGNITION: YOUR GUIDE TO NAVIGATING THE NEW STANDARD

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1 REVENUE RECOGNITION: YOUR GUIDE TO NAVIGATING THE NEW STANDARD BDO USA, LLP, a Delaware limited liability partnership, is the U.S. member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. Page 1

2 PRESENTERS Cathy McNamara BDO Matthew Milkovie - BDO

3 LEARNING OBJECTIVES At the conclusion of this program, participants will be able to: Describe the main provisions of the new revenue recognition standard Identify presentation and disclosures required by the new revenue standard Identify resources relevant to implementing the revised revenue standard

4 DISCUSSION OUTLINE 1. Introduction and Transition 2. The Five step model 3. Other Key Areas 4. Presentation 5. Disclosure Page 4 Revenue from Contracts with Customers

5 INTRODUCTION AND TRANSITION ASC 606 Revenue from Contracts with Customers issued in May 2014 A single, principle-based revenue standard for U.S. GAAP and IFRS that replaces almost all existing U.S. GAAP and IFRS guidance The new revenue standard aims to improve accounting for contracts with customers by: o o o Providing a more robust framework for addressing revenue issues as they arise Increasing comparability across industries and capital markets Requiring better disclosure Exposure Draft: Revenue from Contracts with Customers

6 INTRODUCTION AND TRANSITION Core principle Recognize revenue to depict the transfer of 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 Steps to apply the core principle are: Revenue from Contracts with Customers

7 INTRODUCTION AND TRANSITION Effective dates: o Public entities - 1 st interim period within annual reporting periods beginning after Dec 15, 2016 o Nonpublic entities - Annual reporting periods beginning after Dec 15, 2017 and interim periods within annual periods beginning after Dec 15, 2018 Early adoption permitted for nonpublic entities only but no earlier than periods beginning after Dec 15, 2016 Applies to: o Contracts with customers, which may include in certain circumstances: o o Collaborations if counterparty is a customer Hybrid contracts for which revenue and non-revenue components have been separated Gain/loss recognition on sale of some nonfinancial assets (intangibles and PP&E) Applies to all industries, with certain specific transactions excluded: leases, insurance contracts, financial instruments, guarantees, certain nonmonetary exchanges Revenue from Contracts with Customers

8 INTRODUCTION AND TRANSITION ASC 606 is required to be applied retrospectively by one of the following methods: i. Retrospective application to each reporting period presented in accordance with ASC through (i.e. full restatement of comparative figures). ii. Modified retrospective with one or more practical expedients (i.e., completed contracts, use of hindsight for variable consideration, etc.) iii. Cumulative effect of change at adoption date (disclose effect of applying new standard) Revenue from Contracts with Customers

9 TRANSITION OPTIONS Retrospective Cumulative effect of application in equity of earliest period presented May elect to use up to three practical expedients Disclosures required: - Restatement of previous contracts - Change in accounting principle - Expedients used (if any)

10 TRANSITION OPTIONS Cumulative Applied at the date of initial application with no restatement Effect booked in equity in year of initial application Disclosures required: - Effect on each financial statement line item - Explanation of significant changes between standards

11 RESTATEMENT OPTION SCENARIO Current GAAP Prior Period Application Year Total Revenue Retrospective Revenue Equity adjustment Cumulative Revenue Equity adjustment

12 TAX CONSIDERATIONS OF NEW REVENUE RECOGNITION STANDARD Advance payments Additional book tax differences Variable consideration Possible change in accounting method for tax purposes Transfer Pricing

13 STEP #1 IDENTIFY THE CONTRACT STEP ONE Points to note Contracts can be written, oral, or implied by the entity s business practices Contracts with customers must meet ALL the following criteria: (i) The parties to the contract must approve it and be committed to perform their respective obligations. (ii) Each party s rights regarding goods and services to be transferred can be identified. (iii) The payment terms for goods and services to be transferred can be identified. (iv)the contract must have commercial substance. (v) It is probable that the entity will collect the consideration to which it is entitled. Note: Reassessment required in certain circumstances.

14 STEP #1 IDENTIFY THE CONTRACT STEP ONE Combining contracts One or more contracts that are entered into at (or near) the same time with the same customer (or related party) are accounted for as a single contract if any of the following applies: Package with a single commercial objective The contracts are negotiated as a package with a singe commercial objective. Interdependent consideration The consideration receivable under each of the contracts is interdependent on each other. Single performance obligation The goods or services to be provided under the contracts in total represents a single performance condition. Contrast to existing U.S. GAAP: Current guidance exists specifically for combining contracts in multiple-element arrangements (including software arrangements) and constructiontype/production-type contracts. The proposed guidance would apply to all revenue arrangements.

15 STEP #1 IDENTIFY THE CONTRACT STEP ONE Contract modifications Contract modifications are changes in the scope and/or price of the contract: o i.e. create new or amend existing enforceable rights and obligations. A contract modification must be approved, in writing, orally, or otherwise as implied by the entities business practices Depending on the circumstances may be accounted for as follows: A separate contract Termination replace the old contract with the new contract Continuation treat modification as part of the original contact

16 STEP #2 IDENTIFY SEPARATE PERFORMANCE OBLIGATIONS STEP TWO Definition of performance obligation A performance obligation is a promise to provide goods or services (or a bundle of goods or services) that are either: i. Distinct ii. Homogenous, and both: Each distinct good or service is a performance obligation satisfied over time (refer to Step #5), and The same method would be used to measure the entity s progress towards complete satisfaction of the performance obligation to transfer each distinct good or service to the customer (refer to Step #5).

17 STEP #2 IDENTIFY SEPARATE PERFORMANCE OBLIGATIONS STEP TWO Examples of performance obligation Goods produced for sale (e.g. a manufacturer)or purchased for resale (e.g. a retailer) Providing a service of arranging for another party to transfer goods or services to the customer (e.g. acting as an agent of another party) Standing ready to provide goods or services Constructing, manufacturing, or developing an asset on behalf of a customer (e.g. building an asset for the specifications of a customer) Granting licenses or rights to use intangible assets Granting options to purchase additional goods or services (when those options provide the customer with a material right) Granting rights to goods or services to be provided in the future that the customer can resell or provide to its customer Performing a contractually agreed-upon task (or tasks) for a customer.

18 STEP #2 IDENTIFY SEPARATE PERFORMANCE OBLIGATIONS Definition of a distinct good or service STEP TWO Can the customer benefit from the good or service, either on its own, or with other readily available resources? ( readily available resources are those that the customer possess or is able to obtain from the entity or another third party) Yes Is the promise to transfer a good or service separate from the other promised goods or services in the contract? Indictors may include: The entity does not provide a significant service of integrating the goods and services A good or service does not significantly modify or customize the other goods and services A good or service is not highly dependent or interrelated with the other goods and services No No The good or service is not distinct (these are then grouped into bundles of goods and services that are themselves distinct ) Yes The good or service is distinct

19 STEP #2 IDENTIFY SEPARATE PERFORMANCE OBLIGATIONS STEP TWO EXAMPLE Significant Customization of Software Entity A and Customer B enter a contract in which A will provide the following to B: o o o o License to customer relationship management software Consulting services to significantly customize the software to B s information technology environment Technical support Unspecified upgrades Total consideration to be paid by B = $600K Question: How many performance obligations?

20 STEP #2 IDENTIFY SEPARATE PERFORMANCE OBLIGATIONS STEP TWO EXAMPLE Significant Customization of Software (continued) Answer: Three performance obligations 1) The software product license and consulting service are not distinct within the context of the contract because the consulting service does significantly customize the software product. In other words, significant integration exists. Entity A would account for the license and consulting services together as one performance obligation. Entity A would recognize revenue for that performance obligation over time by selecting an appropriate measure of progress toward complete satisfaction of the performance obligation (assuming the ASC 606 criteria are met for satisfaction of a performance obligation over time). 2) Technical Support 3) Unspecified upgrades

21 STEP 2 IDENTIFY PERFORMANCE OBLIGATIONS CONSIDERATIONS FOR CUSTOMER-OWNED TOOLING Fact Pattern A supplier enters into two contracts in the same week with an OEM to (1) construct a tool for the OEM (the Tool ) and (2) supply the OEM parts using the Tool. Legal title of the Tool transfers to the OEM prior to production of the parts under the supply contract, and the supplier will recover its cost for the Tool through a separate payment from the OEM equal to the supplier s cost of the Tool. Payment for the Tool is due upon completion of the Tool and its approval by the OEM. Assume that the contract to construct the Tool should be combined with the contract to produce the production parts. Further assume that the supplier is one of several suppliers with the ability to construct the tool and subsequently produce the production parts with existing machinery and equipment. How many performance obligations exist within the combined contract? PwC Page 21

22 STEP 2 IDENTIFY PERFORMANCE OBLIGATIONS CONSIDERATIONS FOR CUSTOMER-OWNED TOOLING Fact Pattern A supplier enters into a contract to design tooling and produce ten identical prototype units of the production parts. The tooling design includes certain key functionality that has not been developed by the supplier before. It is expected that the tooling design will be modified during production of the prototype parts and that any given prototype might be modified based on the design changes and learnings from other prototypes. The deliverable to the customer is the prototype units; the customer does not obtain rights to the tooling design apart from the units. Are the design services and production of the prototypes separate performance obligations? PwC Page 22

23 STEP 2 IDENTIFY PERFORMANCE OBLIGATIONS CONSIDERATIONS FOR CUSTOMER-OWNED TOOLING Is customer-owned tooling a performance obligation? - Indicators of performance obligation PwC Page 23 - The tooling is transferred to the customer. - The tooling is separately identifiable in the contract. - There are competitors in the market that could produce both the tool and the parts, together or separately. - Indicators of contract input - The customer does not benefit from the tooling apart from the follow-on production. - Are restrictions that the customer may only remove tooling from supplier s location upon supplier s non-performance under the part contract relevant as to whether the tool is an input or a performance obligation?

24 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE Definition transaction price The transaction price is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer. Excluding amounts collected on behalf of third parties e.g. sales taxes etc. The consideration promised in a contract with a customer can vary in terms of nature and timing, and this affects the determination of the transaction price. Specific consideration is given to: i. Variable consideration (including constraints on estimates of variable consideration) ii. The existence of a significant financing component in the contract iii. Non-cash consideration iv. Consideration payable to a customer.

25 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE (i) Variable consideration Variable consideration can arise due to: Discounts, rebates, refunds, and credits Price concessions, incentives, and performance bonuses Penalties Consideration that is contingent on the occurrence or non-occurrence of a future event. When a contract contains variable consideration, the transaction price is estimated. (i) Expected value method i.e. the sum of the probably weighted amounts for a range of possible outcomes. (Appropriate where there are a larger number of contracts with similar characteristics) (ii) Most likely amount i.e. the single most likely amount out of a possible range of outcomes. (Appropriate where there are only two possible outcomes) Contrast to existing U.S. GAAP: Currently ASC S99 (SAB 104) requires the seller's price to the buyer be fixed or determinable as one criteria for revenue recognition. The proposed guidance would shift this concept to a measurement principle, rather than a recognition principle.

26 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE (i) Variable consideration (contd) Special Rule for Sales or usage based royalties For licenses of intellectual property based on sales or usage based royalties, consideration can only be recognized as revenue as and when the use or sales occur Reassessment The estimate of variable consideration, as it affects the transaction price, is reassessed (and updated where necessary) at each reporting date.

27 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE (i) Variable consideration (contd) Constraining the estimate of variable consideration ASC 606 limits (i.e. constrains ) the estimate of variable consideration only to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur. Assessment of this constraint requires judgment, in considering both: The probability of a change in variable consideration The magnitude of that change in variable consideration. Factors that may indicate a significant revenue reversal may occur include: Extent of factors that are outside the control of the entity (i.e. market volatility) Uncertainty in the estimate is not expected to be resolved in the short-term The entity s practice and/or experience with similar contracts The is a larger number and broad range of possible consideration amounts.

28 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE EXAMPLE Variable consideration Biotech XYZ will receive a certain milestone payment if the product candidate receives FDA approval. To date, the product candidate had received a positive recommendation by the FDA advisory committee. Based on its experiences, experience of another entity with a similar product candidate, and the recommendation by the FDA advisory committee, Biotech XYZ has determined it is 90% likely to be entitled to the entire milestone payment, and 10% likely to be entitled to no milestone payment. Question: Which method should be used to determine the transaction price?

29 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE EXAMPLE Variable consideration Answer: The most likely amount method should be used given there are only two possible outcomes.

30 EXAMPLE: CHANGE IN TRANSACTION PRICE Contract price: $15,000 Current Guidance $7,500 contractual Implicit price concession: 10,000 $2,500 bad debt Transaction price: 5,000 Entity now expects to collect $5,200 + $200 Change in transaction price Entity now expects to collect $4,800 - $20 0 Change in transaction price or bad debt Page 30

31 STEP #3 DETERMINE THE TRANSACTION PRICE STEP THREE (ii) Significant financing component (iii)non-cash consideration (iv) Consideration payable to a customer

32 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PERFORMANCE OBLIGATIONS STEP FOUR An entity allocates/splits the transaction price (determined in Step #3) between its performance obligations (identified in Step #2). The allocation is based on the relative standalone selling prices of each identified performance obligation, being: The price at which an entity would sell a promised good or service separately to a customer (i) Determining the standalone selling price of a performance obligation Question: Is there an observable price of a good or service for sales in similar circumstances and to similar customers? Yes: Use that price No: Estimate, maximizing the use of observable inputs and considering all available information (i.e. market conditions, entity specific, customers)

33 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PER. OBLIGATIONS Methods of determining the standalone selling price STEP FOUR ((i) Adjusted market approach Estimate the price customers in the market would be willing to pay May also consider reference to competitors prices for similar goods and services. ((ii) Expected cost plus a margin approach Forecast the expected costs and then add an appropriate margin. ((iii) Residual approach Total transaction price less the observable standalone selling prices of other performance obligations However, must meet either of the below criteria: i. The selling price varies significantly (the same good or service is sold at the same time to other customers for a very broad range of prices) ii. The selling price is uncertain (selling price has not yet been established and the good or service has not previously been sold on a standalone basis). Can only be used after the allocation of any discounts (refer next slide). Contrast to existing U.S. GAAP: Currently, use of the residual method allocates the entire discount to the delivered item. In contrast, a residual approach under the new standard is used to estimate the standalone selling price, not to actually allocate consideration to a performance obligation.

34 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PER. OBLIGATIONS STEP FOUR Discounts determining allocation Discounts exist where the sum of the standalone selling prices exceed the promised consideration. Allocation of the discount is made to either: i. Specific performance obligation(s) ii. Proportionately between all performance obligations. Specific allocation (i) occurs only if there is observable evidence that both: There are regular sales, on a standalone basis, of the (bundle) of goods or services The sales of the (bundle) of goods or services are regularly priced at a discount.

35 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PER. OBLIGATIONS STEP FOUR Example Allocation methodology and discounts An entity sells Products A, B, and C to a customer for $100 Each sale is a separate performance obligation Product A has a stand-alone observable price of $50 The estimated stand-alone selling prices of Products B and C are $25 and $75 The total stand-alone selling prices is $150 (i.e. $50 discount) The entity notes that there is no evidence that the discount relates entirely to either, or a group of, the products being sold Question: How is the discount allocated to each of the products?

36 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PER. OBLIGATIONS Example Allocation methodology and discounts STEP FOUR Answer: The discount is allocated proportionately to all of the products: Product A = ($100 x ($50 / $150)) $33 Product B = ($100 x ($25 / $150)) $17 Product C = ($100 x ($75 / $150)) $50 Total $100

37 STEP #4 ALLOCATE THE TRANSACTION PRICE TO PER. OBLIGATIONS STEP FOUR Variable consideration determining allocation The allocation of variable consideration (including changes in the estimate of variable consideration) will vary and may be allocated to either: i. The entire contract ii. One or more (but not all) performance obligations (e.g. bonuses) iii. One or more (but not all) goods or services within a single performance obligation (e.g. CPI adjustments for year 2 in a two year maintenance contract). Variable consideration is allocated to (ii) or (iii) above if both: It relates specifically to the satisfaction of the performance obligation of transfer of the goods or services Allocation is consistent with the overall allocation principle.

38 STEP #5 RECOGNIZE REVENUE STEP FIVE Revenue is recognized as/when an entity satisfies each performance obligation. Satisfaction occurs as/when the entity transfers control of the goods or services to the customer. Control is the ability to direct the use of and obtain substantially all of the remaining benefits from an asset (or prevent others from doing so). Common examples where a customer would usually obtain control include: Using the asset to produce goods or provide services (including public services) Using the asset to enhance the value of other assets Using the asset to settle liabilities or reduce expenses Selling or exchanging the asset Pledging the asset to secure a debt liability Holding the asset.

39 STEP 4 ALLOCATE THE TRANSACTION PRICE AUTOMOTIVE SUPPLIER SPECIFIC CHALLENGES Fact Pattern: A Supplier contract for the sale of tooling and parts. The cost of the tool is $200, and the standalone selling price ( SSP ) is $220. Expected parts production is 100 parts each year for three years, and the SSP of the part is $1 each. Scenario 3. Tooling and parts production are identified as separate performance obligations. Contract contains stated parts prices of $1 in Year 1, $0.98 in Year 2, and $0.96 in Year 3. Discount on parts production is allocated to both the tooling and parts production. Illustrative accounting - Depending on technical conclusions The transaction price is allocated to the tooling and parts production based on relative standalone selling prices. Total transaction price = $494 ($200 tooling and $294 parts) Total SSP = $520 ($220 tooling and $300 parts) Relative SSP allocation - Tooling = $209($220/$520 * $494) - Parts = $285 or $0.95 per part ($300/$520 * 494) - (assuming revenue allocate to parts production is probable (not subject to reversal)) PwC Page 39

40 STEP #5 RECOGNIZE REVENUE STEP FIVE Revenue is recognized either: (i) Over time Subject to various criteria under ASC 606 (ii) At a point in time If the criteria for recognition over time under ASC 606 are not met. (refer to subsequent slides) The two approaches are mutually exclusive. Key points will be discussed on the following slides.

41 STEP #5 RECOGNIZE REVENUE Recognize revenue over time STEP FIVE OVER TIME Criteria (i) - The customer simultaneously receives and consumes all of the benefits provided by the entity s as the entity performs A customer simultaneously receives and consumes all of the benefits provided as the entity performs, where: Another entity would not need to re-perform the work already completed to date to fulfill the remaining performance obligation, and The entity s work does not create an asset (i.e. WIP inventory). In practice, it is likely that only (some) service contracts would satisfy this criteria (i.e. not goods contracts).

42 STEP #5 RECOGNIZE REVENUE Recognize revenue over time STEP FIVE OVER TIME Criteria (ii) - The asset that is created or enhanced is controlled by the customer An entity needs to consider the indicators of whether control has been transferred as noted on the previous slide, i.e. whether: i. Is there a present right to payment for the asset? ii. Who has legal title to the asset? iii. Has physical possession of the asset been transferred? iv. Have the significant risks and rewards of ownership been transferred? v. Has there been acceptance of the asset by the customer? Note: This approach is similar to the rationale of the percentage of completion method under ASC for construction contracts (i.e. that there is a continuous sale and that the customer controls the work in progress).

43 STEP #5 RECOGNIZE REVENUE Recognize revenue over time STEP FIVE OVER TIME Criteria (iii) - The entity s performance does not create an asset with an alternative use to the entity An entity has an alternative use for the asset if it can readily redirect the use of the asset, both: Contractually, and Practically. If the asset can be readily interchanged with other assets produced by the entity, then there is no substantive contractual restriction preventing the redirection of the specific asset being produced (i.e. generic widgets ). If there is either no substantial cost on rework, or no substantial loss on sale of the asset to another customer for the asset in its current state, then there is no practical restriction preventing the redirection of the specific asset being produced.

44 STEP #5 RECOGNIZE REVENUE Recognize revenue over time STEP FIVE OVER TIME Criteria (iii cont d) - There is an enforceable right to payment for performance completed to date Enforceability Consider whether, in similar circumstances, legislation or legal precedent confers rights to payment: Exist, even though they are not included in the contractual agreement Do not exist, even though they are included in the contractual agreement. Also consider the entities business practices in choosing whether to persue rights to payments. Payment for performance completed The amount: Need not be fixed, however, must at least compensate the entity for performance to date Must approximate goods or services transferred to date (not merely compensation for loss of profit)

45 STEP #5 RECOGNIZE REVENUE STEP FIVE OVER TIME Question: For revenue recognized over time, how is progress towards completion of the performance obligation determined? The method used as the basis of revenue recognition over time must reflect the pattern of how the goods or services are transferred to the customer. These methods are broadly categorized as being either: i. Output methods (i.e. results, milestones, units produced/delivered etc.) ii. Input methods (i.e. resources consumed, labor/machine hours, costs incurred etc.) Note: Must exclude from these methods any measure relating to goods or services that has not been transferred to the customer. Note: Only one method per performance obligation can be used, and application must be consistent for similar performance obligations. Note: Subsequent changes in the method used are a change in estimate.

46 STEP #5 RECOGNIZE REVENUE STEP FIVE Recognize revenue at a point in time if criteria for recognition over time are not met: Indicators to be considered when determining whether control has been transferred to the customer include: (i) Is there a present right to payment for the asset? (ii) Who has legal title to the asset? (iii) Has physical possession of the asset been transferred? (iv) Have the significant risks and rewards of ownership been transferred? (v) Has there been acceptance of the asset by the customer?

47 STEP #5 RECOGNIZE REVENUE EXAMPLE Recognize Revenue STEP FIVE OVER TIME Entity A (residential real estate developer) is constructing an apartment building and marketing individual apartments. Customer B enters binding sales contract with A: o o o o o To purchase a specified unit not yet ready for occupancy To make periodic payments throughout the contract that approximate the selling price of the goods/services transferred to date which are refundable only if A fails to deliver completed unit To make a final payment upon taking possession of the unit B pays nonrefundable deposit at inception B may specify minor variations (not major structural alterations) to design

48 STEP #5 RECOGNIZE REVENUE EXAMPLE Recognize Revenue (continued) STEP FIVE OVER TIME Customer B finances payments through Financial Institution (FI): o FI makes payments directly to A on behalf of B, and has full recourse against B o B may sell its interest in partially completed unit with approval of FI o A is precluded from transferring specified unit to another customer Questions: Does the asset (apartment) have alternative use to A? Is the performance obligation satisfied over time?

49 STEP #5 RECOGNIZE REVENUE EXAMPLE (continued) STEP FIVE OVER TIME Answers: No alternative use. Performance obligation is satisfied over time. The asset (apartment) created by A s performance does not have an alternative use because the contract has substantive terms that preclude A from directing the unit to another customer. A concludes that it has a right to payment for performance completed to date because the customer is obliged to compensate the entity for its performance rather than only a loss of profit if the contract is terminated. In addition, A expects to fulfill the contract as promised. Therefore, A has a performance obligation that it satisfies over time. To recognize revenue for that performance obligation satisfied over time, A would measure its progress toward completion.

50 OTHER KEY AREAS i. Contract costs ii. Changes in transaction price iii. Sale with a right of return iv. Warranties v. Principal vs. agent vi. Customer options for additional goods and services vii. Customers unexercised rights vii. Non-refundable upfront fees viii. Licensing ix. Repurchase agreements x. Consignment arrangements xi. Bill-and-hold arrangements xii. Customer acceptance xiii. Disclosures Revenue from Contracts with Customers Page 50

51 OTHER KEY AREAS (i) Contract costs Treatment is dependent on whether the costs are Not in the scope of another standard In the scope of another standard Recognize an asset for incremental costs of obtaining a contract Practical expedient if amortization period is one year or less expense as incurred Recognize in accordance with the applicable standards, e.g. ASC Inventory ASC 360 PP&E ASC 350 Intangibles. Recognize an asset for costs to fulfill a contract if all of the following criteria are met: Costs are directly related to the contract Costs will generate/enhance entity s resources that will be used in satisfying performance obligations in the future Costs are expected to be recovered. Otherwise recognize as an expense Revenue from Contracts with Customers

52 OTHER KEY AREAS (i) Contract costs (contd) Subsequent to recognition, the contract asset is Amortized Based on a systematic basis consistent with the pattern of transfer of the goods or services. Assessed for impairment Carrying amount of contract asset Remaining expected consideration Remaining costs to be incurred Revenue from Contracts with Customers

53 OTHER KEY AREAS (iv) Warranties ASC 606 identifies and prescribes the treatment for two types of warranties Assurance warranties Assurances that the product will function as specified. A warranty that the customer cannot purchase separately. These do not represent separate performance obligations under ASC 606. Accounted for in accordance with other current U.S. GAAP. Service warranties A warranty that provides the customer with an additional service A warranty that the customer can purchase separately. These do represent separate performance obligations under ASC 606. Accounted for in accordance with ASC 606. Revenue from Contracts with Customers Page 53

54 OTHER KEY AREAS (ix) Licensing This is the right to use, but not own, intellectual property of the entity. (a) Assess if the license is distinct from other goods or services in the contract (b) If the license is distinct from other goods or services in the contract, assess whether the license is recognized over time or at a point in time Revenue is recognized over time, where an entity remains involved in the intellectual property (IP), if: i. There is a contractual requirement or reasonable expectation (based on business practice, policy, statements, shared economic interests) that the IP will be updated by the entity, and the customer has rights of access to those updates ii. There is no transfer of a good or service to the customer as a result of the entity s activities (i.e. there is no performance obligation) iii. The customer is exposed to positive and negative effects of the entity s activities as and when they occur. If the criteria are not met, the rights to the IP are therefore static, and revenue is recognized at a point in time when control is transferred to the customer. Revenue from Contracts with Customers

55 OTHER KEY AREAS xiii) Disclosures Qualitative and quantitative disclosures include: (i) The entity s contracts with customers Disaggregation of revenue Information about an entity s contract assets and contract liabilities (including reconciliations) Information about the entity s performance obligations The entity s remaining performance obligations at the end of the reporting period. (ii) Significant judgments in the application of the guidance Determining the timing of satisfaction of performance obligations Determining the transaction price and amounts allocated to performance obligations (iii) Assets recognized from the costs to obtain or fulfill a contract with a customer (iv) Use of practical expedients. Revenue from Contracts with Customers

56 IMPLEMENTATION AND OTHER CONSIDERATIONS Early preparation is key to smooth transition o Accounting and reporting o Tax o Business processes and systems o Change management and communication Significant judgments and estimates involved in ASC 606 Communicate with key stakeholders and audit committee Revenue from Contracts with Customers

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