Volume 23, No. 7: The New Operating System For Revenue Recognition Arrives

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Like an operating system runs a computer, so revenue makes a company go. Nothing happens until somebody sells something, and now there will be a new operating system for reporting revenue.

Make no mistake about it: this is a big deal. It’s the accounting standard equivalent of putting a man on the moon. In the making since 2002, with two exposure drafts along the way in 2010 and 2011, the completed standard arrived in late May. It’s a massive document that will replace the several hundred pieces of accounting guidance that now define U.S. GAAP for revenue recognition. For the first time, International Financial Reporting Standards will have a comprehensive set of revenue recognition standards; no longer will analogies to U.S. revenue recognition standards be necessary for preparers using IFRS. In a boost to convergence efforts of the two standard setters, the new standard provides a major cross-off from the list of FASB and IASB standards to converge, because the new standard will be nearly identical for both accounting bodies.

Apart from the sheer size and sweep of the final standard, and apart from the accomplishments of the two standard setting bodies, the new standard is a big deal for one simple reason: revenue is almost always the single biggest – and most important – number on the income statement. Nothing happens until somebody sells something, and sometimes revenue is made to simply look like something was sold. Over the last several decades, much accounting mischief has started with revenues. There can be no assurance that mischief won’t occur under the new standard; indeed, because it will require the exercise of more judgment in many areas of revenue measurement, the opportunity for mischief may actually increase. Investors always want to know whether a new standard improves or detracts from the bottom line of their firms of interest, and this one will be no exception – although there’s no pat answer on how it will affect firms. Yet investors should care greatly about how firms will arrive at the revenue changes that will drive the bottom line delta.

Investors will have a long time to care about it, but they should avoid complacency. The new revenue recognition rules will go into place in years and interim periods beginning after December 15, 2016, making January 2017 the revenue recognition “big bang” for most companies. Along the way to 2017, there will be a lot of learning by companies and – in theory, at least – a lot of disclosure to investors about the revenue and earnings effects of the new standard.

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