ASC 606 has already had an immense impact on public companies, changing the way these businesses account for revenue, handle contracts, and more.With the implementation date for private companies on the very near horizon, it’s your last chance to make things happen—or risk noncompliance. Today, we are starting a series on the various industries and how the new standard will affect them.
Wide-Ranging Changes for Each Industry
As we discussed in a blog last year, ASC 606 is set to have vastly different impacts on different industries. Throughout that year (leading up to the effective date for public companies), the AICPA assembled task forces to discuss challenges that these companies may have.
This is what makes it such a complicated change for in-house accountants and it’s why multinational players took 3 years to update their contracts and accounting processes. Needless to say, you have about 3 months and even if your change won’t be as massive as theirs, it still presents a last minute scramble that needs to be completed.
With the standard set to change the way everyone manages contracts, it means that while this time next year a life sciences company will treat performance obligations the same way as an aerospace and defense contractor, they will need to take two completely different approaches to make changes now.
Set to replace over 200 unique processes, the table below shares how each industry will need to look at each step differently.
|Industry||Step 1||Step 2||Step 3||Step 4||Step 5|
|Aerospace and Defense||✔||✔||✔||✔|
|Construction, Building, Engineering||✔||✔|
|Licensors (Media, Life Sciences, Franchisors)||✔||✔||✔||✔|
Updates from the Industry Task Forces
The meetings brought to light many different concerns held by different companies as the effective date approached. We’ve explored some of these working group reports to discuss the challenges that companies like yours may face in the transition period. While this will not explore every single industry (you can check out the responses from each task force here), it will provide a look at some of the reports in the next couple blogs.
Aerospace and Defense
Few industries see as big of a change as companies in the aerospace and defense industry. With massive contracts with many performance obligations, the shift to ASC 606 will represent a major change in steps 1, 2, 3 and 5. Among the notable shifts:
- Acceptable measures of progress (including uninstalled/wasted materials): ASC 606-10-25-33 specifies two ways to measure progress in a contract: the output method and the input method. With government contracts commonly featuring convenience clauses, this creates challenges in using the output method.
- Accounting for Contract Cost: Under the new standard, companies are required to capitalize and amortize the incremental costs to obtain and fulfill a contract, recognizing these costs as assets themselves and amortizing these costs as the goods are transferred to the customer.
- Variable Consideration and Constraining Estimates of Variable Consideration: Many A&D contracts include incentives for effective project cost management and timely production of contracted goods. These are rolled into the variable consideration equation as they are not guaranteed. Additional examples of variable consideration include: award fees, claims, cost incentives or penalties, economic price adjustments, billing rate adjustments, performance incentives or penalties, price adjustment or redetermination clauses, and unpriced change order.
- Contract Existence and Related Issues for Foreign Contracts with Regulatory Contingencies and Unfunded Portions of U.S. Government Contracts: In certain scenarios (foreign direct commercial sales), in which there is a great deal of uncertainty as to whether or not a contract exists and contractors will need to judge whether it is likely that a contract will pass through regulatory scrutiny to determine that a contract exists.
- Transfer of Control on Non-US Federal Government Contracts: With so much variance between different A&D Contracts, accounting for transfer of control in different scenarios presents a unique challenge in determining whether the entity or the customer controls the assets that are produced throughout the life of the contract.
- Significant Financing Component: As A&D contracts are large and lengthy and are often paid in advance of transfer, this represents a significant financing component.
- Accounting for Offset Obligations: In A&D contracts, there are often offset obligations when firms work with foreign governments (e.g. working with a company from the foreign buyer’s country). In ASC 606, contractors will need to identify if such an offset obligation represents a distinct performance obligation or if said offset is to be bundled with other obligations.
Additional judgement regarding transaction price allocation, disclosures, modification, segmentation, and the impact of termination rights on the contract term need to be looked at as well.
Travel vouchers, loyalty cards, commissions, and more, airlines have a wide range of issues in accounting for their contracts. For accountants at these entities, in which the entire ticket purchase, subsequent transaction, and plane operation acts as a set of contracts, the management of such represents a market change in the way these companies do business. Among the top issues:
- Regional Contracts and Capacity Purchase Agreements: Common in airlines, CPAs present challenges for both the regional and national carrier.
- Breakage: A ticket purchase is a contract, but what happens when a customer doesn’t use his or her ticket? As most tickets are non-refundable, accounting for day-to-day breakage becomes a practice of accounting for variable consideration.
- Ancillary Fees and Services: In addition to the ticket itself, people purchase ancillary services including baggage, priority boarding, prepaid food, and more. For airlines, each ancillary service was formerly included under other revenue, but now have to be considered as passenger revenue because they are not distinct from the ticket itself.
- Interline Transactions and Commissions: For trips with multiple connecting flights, each segment represents a separate performance obligation. However, the determination needs to be made at the ticket selling airline whether it is the principal or the agent in the transaction in order to decide who gets the commission.
- Brand Name, Customer List, Loyalty Status: The maintenance of a customer database, as well as the pursuant royalties, co-branding, and performance obligations presents a challenge unique to industries like gaming and airlines. Additionally, airlines need to look at the different tiers of their loyalty programs to determine whether these tiers convey a material right to a good or service.
- Changes in the Volume of Mileage Credits under a Co-branded Credit Card Arrangement: This implementation issues will discuss under the co-brand credit card agreements, when the total amount of consideration and the volume of the various benefits to be delivered to customers are both variable how, if at all, should airlines adjust their allocation of the relative standalone selling price during the term of the contract.
- Price Estimation for Loyalty Programs: For airlines, the price of a mile needs to be estimated in order to account for the price of a redeemed ticket. Recent studies have found that the adjusted market assessment approach is likely the most effective way to determine the value of the mileage credit.
- Change Fees: Traditionally, flight changes represented additional passenger revenue that was recognized when the transaction took place. Now, these changes are to be accounted as a contract modification and recognized when the flight occurs.
Over the next few weeks, we will explore the different impacts that ASC 606 will have on different industries, but if you haven’t worked to make changes, it’s time to contact us or download our guide to revenue recognition here..