SEC scrutinizing revenue judgments under new and old rules, deputy warns

Staff at the Securities and Exchange Commission is advising companies to start preparing investors now for whatever changes are coming as a result of new accounting standards, especially revenue recognition.

New standards on revenue recognition, leases, financial instruments, and credit impairment will touch trillions of dollars on corporate balance sheets, said Wesley Bricker, deputy chief accountant at the SEC, in a recent speech to an accounting conference. “Given the pervasiveness of these changes, now is a good time for companies to focus on investor outreach and education so that investors can sufficiently understand the effect of the new standards on companies’ financial reporting,” he said.

Companies should be prepared to explain to investors what is changing, why it’s changing, how it will change, and when, said Bricker. As an example, the new revenue standard will affect not only the revenue number but also performance metrics that are built off of revenue, like operating income, net income, and earnings per share. Margins, return on equity, return on assets, revenue multiples, and price-to-earnings ratios also will be affected, he said. “The new revenue standard has the potential to change not only the top line, but also the bottom line and analysis that depends on the financial statements,” he said.

Bricker said he’s encouraging investors to understand the company-specific impacts of the new guidance. That might lead to questions about the implementation plan for adopting the new standards, the role of the audit committee in monitoring implementation, changes to accounting policies and the effect that will have on financial results and trends, and the effect on other corporate policies and practices like sales commissions, compensation, and contracting approaches. Also important, he said, are the tax implications. “While this list is clearly not all-inclusive, it underscores for management the importance of full and transparent communication with investors,” he said.

Reminding companies that investors deserve notice that change is coming, Bricker reiterated staff calls for increasingly detailed disclosures as companies approach the transition date for pending accounting changes. “Without adequate transition disclosures, investors may not be prepared to fully understand changes in the company’s financial performance from one period to the next and the impact of adopting a new accounting standard,” he said. “Investors should expect the level of disclosures to increase as companies make further progress in their implementation plans for adopting the new standards and, when necessary, engage with company management to understand these disclosures.”

Bricker said companies would be well advised to make use of the Transition Resource Group of the Financial Accounting Standards Board that continues to vet interpretive questions as they arise. He also cautioned companies against twisting their conclusions under the new standard to try to make their current accounting work under the new rules.

“The SEC staff will continue to respect well-reasoned, practical judgments when those judgments are grounded in the principles of the standard and considered the utility of the resulting information to investors,” he said. “Conversely, aggressive interpretations that appear to be taken to achieve a specific outcome, such as preserving existing reporting, will not be well received, particularly when that outcome is inconsistent with the principles of the new standard.”

In addition to offering views on the adoption of new accounting, Bricker cautioned companies on departures from existing accounting in the form of non-GAAP disclosures to investors. The SEC has issued many such cautions in recent months, and in this instance Bricker offered a pointed caution on departures from GAAP in stating revenue.

“Revenue adjustments do more than just adjust from GAAP,” he said. “They change the very starting point from which other performance analyses flow.” As the staff monitors adoption of the new revenue rules, they’ll also be watching for compliance with existing rules. “If you present adjusted revenue, you will likely get a comment.” Staff will look “closely and skeptically” at explanations for why revenue adjustments are useful to investors, he said.