On May 28, 2014, the Financial Accounting Standards Board (FASB) released Accounting Standards Update No. 2014-09 (ASU 2014-09), which will result in substantial changes in revenue recognition under U.S. GAAP. This long-awaited standard has been deliberated for the past several years and will impact some industries more than others.
Fortunately, the impact for most construction entities will be fairly modest, with the percentage of completion method still relatively intact as the preferred approach to recognition of revenue from construction contracts.
ASU 2014-09 sets forth a new revenue recognition model requiring the following steps:
- Identifying the contract (including whether contracts should be combined)
- Identifying the performance obligations (including whether they are distinct or should be combined into one performance obligation)
- Determining the transaction price (including assessment of the impact of variable consideration)
- Allocating the transaction price to performance obligations
- Recognizing revenue upon satisfaction of performance obligations
Under the new model, entities will have to determine whether a performance obligation is satisfied over time or as of a point in time. To be considered satisfied over time, one of the following criteria must be met:
- The customer simultaneously receives and consumes the benefits of the entity's performance (as the entity performs the services);
- The entity's performance creates or enhances an asset that the customer controls as the asset is created or enhanced; and
- The performance does not result in the creation of an asset with an alternative use and the entity has a right to payment for performance completed to date.
If the performance obligation meets one of the three criteria, the performance obligation is satisfied over time and therefore revenue should be recognized over the period of the contract. The majority of construction contracts will meet one of the criteria. Therefore, the impact on revenue recognition will not be significant, as most construction companies will be able to continue to recognize revenue over time using input or output methods.
The new standard does clarify that when using input methods, such as costs, an adjustment to the measure of progress maybe required if costs incurred do not contribute toward the satisfaction of the performance obligation or when costs incurred are not proportionate to the entity's progress in satisfying the performance obligation. In addition, if an entity cannot reasonably estimate progress, but does not expect to incur a loss, then it is permitted to recognize revenue equal to costs incurred.
The new standard will require a significant amount of new disclosures surrounding revenue recognition. Fortunately, nonpublic entities can make an election not to disclose the majority of the newly required disclosures.
ASU 2014-09 is effective for public companies for annual periods beginning after December 15, 2016 and interim periods within those annual periods. Early adoption is not permitted. It is effective for nonpublic companies for annual periods beginning after December 15, 2017 and interim periods within annual periods beginning after December 15, 2018. Nonpublic entities are permitted to adopt the provisions early, so long as it is on or after the effective periods for public companies.
ASU 2014-09 provides alternative methods of initial adoption:
- Option #1: Retrospectively to each prior reporting period presented;
- Option #2: Retrospectively with the cumulative effect of initially applying the update recognized at the date of initial application with disclosure of the amount by which each financial statement line item is affected in the current year as a result of applying the new standard and an explanation of the significant changes between reported results under the new revenue standard and prior U.S. GAAP.
We are prepared to assist you with understanding the impact of Accounting Standards Update No. 2014-09 (ASC 606-10), Revenue From Contracts With Customers.
For more information, contact Mark A. Guillaume, Manager, Audit & Accounting and member of Kreischer Miller's Construction industry group at Email or 215.441.4600.
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