What is ASC 606?
ASC 606 and IFRS 15 are the latest revenue recognition standards designed to reflect the new business standards. As per ASC 606, the revenue needs to be recognized for each obligation under a contract, based on how much obligation under the contract has been fulfilled.
ASC 606 requires that revenue for each obligation within a contract is attributed to that obligation, regardless of how it is bundled in the sales process. FASB issued ASC 606, Revenue from Contract with Customers (Topic 606) on May 28th, 2014.
Before ASC 606 became effective for Public Companies on December 15th, 2017, and for non — public organizations on December 15th, 2018, the US continued to follow the current Generally Accepted Accounting Principles (GAAP). GAAP differs significantly from worldwide guidelines under the International Financial Reporting Standards.
IFRS 15 was issued by IASB on May 28th, 2014 to help reconcile these discrepancies and it came into effect on January 1, 2018. Both IFRS 15 and ASC 606 apply to any entity that enters into a contract with customers to transfer goods or services, or enters into a contract for the transfer of non-financial assets, unless those contracts are within the scope of other standards. This covers nearly every company with the exception of lease and insurance contracts which are covered by different rules.
Need for Reinventing Revenue Recognition
The B2B sales in the present have become more complex with firms bundling and pricing products and services. Services like training classes, bookkeeping, Attorney Services, credit rating agencies to name a few sell services in bulk at once however, the delivery of the services is done over a period of time. To sort the revenue associated with this method of delivery of services, ASC 606 came into place.
Before IFRS 15/ASC 606 came into effect, similar companies would recognize revenue differently based on how their accounting and auditing team would interpret the existing GAAP guidelines. In this era of borderless business in cloud and subscription structures, it was important to harmonize the rules where buyers pay for goods and services in advance of delivery. The new rule requires companies to reflect the price and timing of the transfer of goods and services more accurately.
Requirements under ASC 606:
ASC 606 /IFRS 15 requires that revenue recognition should reflect the actual status of each obligation in a contract with multiple obligations. Revenue that is earned upfront should be recognized upfront. Revenues earned overtime should be recognized over time and Revenue earned at milestones should be recognized as milestones are reached.
ASC 606/IFRS 15 also requires all entities to evaluate every sales agreement in detail to recognize revenue. It also refines and codifies how GAAP is applied. Under the new guidance companies must consistently estimate performance obligations over time, even though they may not record the revenue until earned.
To Conclude:
· Revenue recognition per ASC 606 /IFRS 15 is a five-step process:
· Identify the contract with the customer
· Identify the performance obligation in the contract
· Determine the transaction price
· Allocate the transaction price to the performance obligations in the contract
· Recognize revenue when the entity satisfies the performance obligation
ASC 606/IFRS 15 applies to all contracts with customers except:
· Lease
· Insurance contracts
· Debt and Equity securities, as well as derivatives
· Guarantees (other than product or service warranties)
· Non- Monetary exchanges between entities in the same line of business to facilitate sales to customers or potential customers
In addition, ASC 606/IFRS 15 is likely to impact in these areas as well:
· Contract costs
· The sale of non-financial assets
· Income taxes
· Warranties
· Sales returns and allowance
References: ASC 606 White Paper 2019_Apttus
