FASB Allows Early Adoption of Key Provisions of New Revenue Recognition Approach


FASB on Wednesday brought U.S. GAAP closer to the approach FASB and the International Accounting Standards Board (IASB) have outlined in their preliminary views documents for their joint revenue recognition project that is scheduled for completion in 2011.


At its board meeting, FASB ratified the consensus approach reached at the Sept. 9-10 Emerging Issues Task Force (EITF) meeting on two EITF issues related to revenue recognition. The approach taken in these EITFs is basically the same as the approach revealed in FASB’s preliminary views document for its joint revenue recognition project with the IASB, according to AICPA Accounting Standards Executive Committee (AcSEC) Chairman Jay Hanson, who is also a member of the EITF.


The EITFs, which can be adopted early, show FASB’s commitment to the approach taken in the preliminary views document, says Glenn Bradley, who chairs the AcSEC task force that prepared the AcSEC comment letter on the document.


The first, EITF Issue no. 08-1, Revenue Arrangements with Multiple Deliverables, applies to multiple-deliverable revenue arrangements that are currently within the scope of FASB Accounting Standards Codification (ASC) Subtopic 605-25 (previously included in EITF Issue no. 00-21, Revenue Arrangements with Multiple Deliverables).


EITF Issue no. 08-01 provides principles and application guidance on whether multiple deliverables exist, how the arrangement should be separated, and the consideration allocated. It also requires an entity to allocate revenue in an arrangement using estimated selling prices of deliverables if a vendor does not have vendor-specific objective evidence or third-party evidence of selling price. The guidance eliminates the use of the residual method, requires entities to allocate revenue using the relative-selling-price method and significantly expands the disclosure requirements for multiple-deliverable revenue arrangements.


The second, EITF Issue no. 09-3, Certain Revenue Arrangements That Include Software Elements, focuses on determining which arrangements are within the scope of the software revenue guidance in ASC Topic 985 (previously included in AICPA Statement of Position no. 97-2, Software Revenue Recognition) and which are not. This EITF removes tangible products from the scope of the software revenue guidance if the products contain both software and nonsoftware components that function together to deliver a product’s essential functionality and provides guidance on determining whether software deliverables in an arrangement that includes a tangible product are within the scope of the software revenue guidance.


Both EITFs have the same disclosure requirements, effective date, and transition methods. They are effective on a prospective basis for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010. Alternatively, an entity can elect to adopt the EITFs on a retrospective basis. Early application is permitted; however, entities must adopt both EITFs in the same period using the same transition method. In the initial year of application, companies are required to make qualitative and quantitative disclosures about the impacts of the changes.


Final versions of the EITFs, which have yet to be released, will update the FASB codification via a FASB Accounting Standards Update.


The new approach to revenue recognition, according to Hanson, continues FASB’s ongoing shift away from focusing on the income statement and what income has been earned in favor of a stronger focus on changes to the balance sheet regarding what contractual performance obligations have been met in a given period. Another key objective of the new revenue recognition project is to enhance comparability by eliminating industry-specific exceptions, Bradley says.


But by applying the same model across all industries, there will be changes lauded by some and criticized by others. “The software world is going to cheer for this,” says Hanson, who also pointed out that there is a potential downside for the construction industry.


The primary issue in the software industry is accounting for multiple element arrangements such as selling a software license that includes support after the sale. Under current U.S. GAAP, software providers who don’t have vendor-specific objective evidence of the value of the individual elements included in a bundled sale are required to defer recognition of associated revenues for the entire sale. The preliminary views document and EITF Issue no. 08-01, introduce an estimated selling price method for valuing the elements of a bundled sale. However, EITF 08-01 is general guidance that specifically excludes software sales. So although other industries may take advantage of the new rules, the software industry will have to wait on the longer-term revenue recognition project that is due to be completed in 2011.


The software industry did gain one victory, however, in the form of EITF Issue no. 09-3, Certain Revenue Arrangements That Include Software Elements, which narrowed the scope of the software revenue recognition guidance in ASC Topic 985 (previously included in AICPA Statement of Position (SOP) no. 97-2, Software Revenue Recognition).


EITF Issue no. 09-3 allows vendors to recognize revenue for devices such as personal digital assistants (PDAs) under the rules for hardware. Up until now, such devices were treated as software under revenue recognition rules. According to Hanson, PDAs were not envisioned when SOP no. 97-2 was written. (See “ Software Revenue Recognition on the Rise ,” JofA, Dec. 07.)


For the construction industry, however, FASB’s new approach to revenue recognition is more problematic. Under current U.S. GAAP, construction companies recognize revenue based on percentage of completion. So if a construction company has incurred the costs of constructing six floors of a 10-floor building, it is entitled to recognize 60% of the revenue. Under the preliminary views proposal, revenue recognition is based on transferring control to the customer. So if the customer does not gain control of those six floors, the construction company would be unable to recognize revenue for their construction even it has incurred the related costs.


Both AcSEC and the AICPA accounting standards staff have assessed the potential impact of the preliminary views document and have provided comments to FASB. AICPA staff members have summarized the issues and provided links to resources including the potential impact on specific industries in a frequently asked questions document available here .


FASB and the IASB are expected to publish an exposure draft of the new revenue recognition standard during 2010 and a final standard in 2011.


—Matthew G. Lamoreaux is a JofA senior editor. His e-mail address is mlamoreaux@aicpa.org.


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