Real estate developers, telcos, ship and oil rig builders among those likely to be most affected
A new joint standard on revenue recognition published by the International Accounting Standards Board and the US Financial Accounting Standards Board last night may have a significant impact on the headline revenues of companies bundling products and services, or whose long-term building projects span more than one year.
The new standard comes more than five years after the standard setters published the first version of their joint revenue proposals. It replaces most of the detailed guidance on revenue recognition that currently exists under the US Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS).
Mr Gerald Low, Audit Partner, KPMG in Singapore said: "We have a new standard on one of the most important financial reporting metrics – revenue – and it will apply to almost all companies reporting under IFRS and US GAAP."
He added, “Publishing a joint standard on revenue recognition is a major achievement for the standard setters. For companies however, the real work is just beginning.”
"The long project timescale has caused many companies to postpone thinking about how they will be affected. It was also natural for some not to expect the standard to be issued so soon. But now it's here."
Commenting on the new standard's impact on financial statements, Mr Low said: "Directors responsible for the financial statements will need to ensure that the companies they steer understand these revisions. Otherwise, they might run the risk of non-compliance with the new standard."
"Many companies typically prepare five-year budgets and these budgets may have to be re-visited to take into account the proposed changes of the new standard. Additionally, revisions may have to be made to executive compensation packages linked to revenue numbers. IT systems may also have to be reconfigured to reflect the changes to the timing of revenue recognition,” he said.
New standard likely to be welcomed by real estate developers
Real estate developers in Asia, in particular, may lead the pack in early adoption of the new revenue standard.
Said Mr Low: "Revenue and profits are currently recognised only upon completion of their developments overseas. This causes significant earnings volatility.
"Applying the new standard is expected to allow revenue and profits for some overseas building projects with non-refundable progress payments to be recognised progressively. Many developers in Singapore are already eagerly waiting for the Accounting Standards Council to issue the new standard here."
Changes to headline revenue numbers for the telecommunication, offshore and marine sectors
Companies that bundle their products and services or who engage in major long-term projects spanning more than one year are likely to see the most impact from the new standard.
This is mainly due to changes to the timing of revenue recognition.
Globally, there are telecommunication companies that do not currently recognise the allocated sale value of a handset as revenue when the handset is given to the customers under a bundled arrangement. What they currently practice is limiting the revenue to the actual cash received, or to recognise the cost of the handset as a marketing expense.
Under the new standard, revenue is allocated to the handset based on the standalone selling prices of the handset and the ongoing service. This means that in many cases, more revenue will be allocated to the handset.
Said Mr Low: "The unbundling of different elements in the contract, including handset revenue, would result in an acceleration of revenue recognition while the timing of cash inflows remain unchanged. This new revenue model will result in a significant difference between when revenue is recorded and when actual cash is received from customers."
Ship and oil rig builders may experience significant earnings volatility from adopting the new standard.
Mr Low said: "The current practice for ship and oil rig builders is to recognise revenue over time. Some arrangements may no longer meet the criteria for doing so. This means that adopting the new standard will delay how revenue is recognised.
"For affected companies, the new standard may change their earnings pattern by deferring revenue until delivery of the vessels in some cases."
The new standard takes effect in January 2017, although IFRS preparers can choose to apply it earlier. While the effective date may seem a long way off, affected companies need to make important decisions on when and how to transition to the new standard soon.
All companies should also assess the extent of the impact, so that they can address the wider business implications, including communications with investors and analysts. Mr Low said: "An early decision will allow companies to develop an efficient implementation plan and inform their key stakeholders."