Delays in preparing for new revenue recognition accounting requirements are starting to pinch the IT development time line, forcing many companies to begin thinking about manual workarounds.
It’s like falling dominoes, says Eric Knachel, senior consultation partner on revenue recognition at Deloitte & Touche. Companies underestimated the impact of the new standard, so they put off the implementation, he says. That means many companies haven’t allowed enough time to deal with whatever systems implications the huge new accounting standard might produce for their particular business environments.
“Generally speaking, companies are coming up with workarounds or short-term fixes to their existing systems, or manual solutions,” says Knachel.
A recent survey by Big 4 firm EY seems to bear that out. Nearly half of companies in that poll said they are planning systems changes specifically around new revenue recognition requirements, but 45 percent said they are concerned about whether they will meet the deadline for having the system up and running. The rules take effect for public companies in 2018.
John McGaw, EY accounting change leader for the Americas, says companies that may not be able to get automated solutions functioning in time for the Jan. 1, 2018, effective date may develop manual workarounds. And even those who get makeshift systems in place in time may have to work outside the automated systems to arrive at some of the judgments and estimates required under the new standard.
“Generally speaking, companies are coming up with workarounds or short-term fixes to their existing systems, or manual solutions.”
Eric Knachel, Senior Consultation Partner, Deloitte
Manual workarounds can include any number of stopgap solutions, says McGaw. “People can build certain models or perform certain calculations in spreadsheets or databases,” he says. “That’s what we’re seeing companies doing.”
That assumes, of course, that companies have gotten far enough through their preparations to have completed their technical accounting analysis. The latest survey suggests as of March only 40 percent of companies had accomplished that much, McGaw said.
“Until you complete that analysis, you can’t create new revenue recognition policies under the new standard,” he says. “And until you complete that step, you can’t convert that into business requirements that are needed to create new systems, new data requirements, and new controls.”
Betsy Meter, a partner at KPMG, says she sees companies struggling through the IT challenges. “Many companies did not believe the implementation effort would be so significant,” she says. “They’re waking up in June and realizing they have a fairly significant task ahead of them. There’s still a lot of work to be done.”
Aside from those companies that procrastinated their way into manual workarounds, some companies planned to adopt the standard with manual solutions from the beginning, says Meter. In some instances, companies recognized adoption would require a large capital investment and they didn’t expect to be able to meet the standard’s effective date with a fully functioning new system, so they planned to use manual methods to get through the implementation exercise.
In other cases, companies that expected little change in their reported revenue figures have determined they don’t need new systems at all, but can achieve the new accounting with changes or adjustments occurring outside their IT systems, says Meter.
KEY PROVISIONS OF THE ASU
Below, Deloitte summarizes the key provisions of the revenue recognition standard.
The revenue model’s core principle and application can be depicted as follows:
Core principle: Recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
When? The entity satisfies a performance obligation by transferring a good or service to the customer.
How much? Amount to which the entity expects to be entitled (i.e., transaction price) allocated to the distinct goods or services.
The core principle was established by the FASB and IASB and is the underpinning of the entire revenue framework. In this principle, the boards identified and answered the two most fundamental questions concerning revenue:
That is, when may an entity recognize revenue?
— When the entity satisfies its obligations under a contract by transferring goods or services to its customer. That is, when the entity performs , it should recognize revenue.
That is, how much revenue may an entity recognize?
The core principle is supported by five steps (following a scope decision) in the new revenue framework, which are outlined in the following chart:
Jagan Reddy, senior vice president at technology firm RevPro at Zuora, says he’s getting calls from companies now asking if they can put systems in place that can be ready to go by the end of the year. “It’s too close,” he says. “There’s a lot of work to be done.” The conversations soon turn to have to establish a manual approach as at least a temporary solution.
Manual methods are especially challenging in terms of arriving at the historic numbers that will need to be developed to present three years of data in financial statements, says Reddy. “Companies have to state two years’ backward revenue under the new guidance,” he says. “To do all that manually, it’s nearly impossible unless someone is going to try to do a high-level review and adjust the numbers.”
Whatever the various reasons companies find themselves using manual methods to achieve compliance, the implications for internal control over financial reporting are steep. Auditors have already taken a beating through inspections by the Public Company Accounting Oversight Board in recent years to get tougher on manual controls, management review controls, and data produced by systems.
Knachel says companies will be relying on more monitoring controls and management review controls to get their new revenue accounting up and running. “Manual controls typically require more people,” he says. “They’re more prone to error, and it increases the fraud risk.”
Companies are likely to cope with the short-term demand for more people to perform such work internally, which means prioritizing something else lower on the task list. “I’d like to think companies don’t have people sitting around with nothing to do, waiting to do this,” he says. “That means asking people to do more or work longer.”
McGaw envisions a number of challenges with manual workarounds that will require careful control considerations. “The processes can have varying degrees of complexity in the underlying accounting,” he says. “Control challenges include the spreadsheet environment, data integrity issues, version control issues, data governance issues, and access rights.”
More automated revenue systems may have controls around such issues built in, says McGaw. “If you don’t have those, you may have to put in more detective controls, more reconciliations on the back end, more reviews,” he says. “It will be a less efficient exercise. It just takes more effort to put into place. It will be more difficult, and generally, more costly.”
If companies can expect more work due to manual workarounds and manual controls, they can expect auditors to be doing more work and taking more time as well, says Knachel. “From an auditing standpoint, when you talk about manual controls and management review controls, those are hot buttons,” he says. “It will ultimately increase the amount of time auditors will need to spend.”
Meter says companies will be under pressure to make the control environment audit-ready by the end of the year. “It has to be, or it results in a material weakness or significant deficiency, which no company wants,” she says.
As companies near the end of the second quarter, Meter says she detects a sense of urgency around the implementation effort. “At this point, if a company is not well under way, they need to elevate it to highest levels in the organization and get the resources and the dollars allocated to get this done,” she says.