The new ASC 606 and related 340-40 accounting standards require companies make some fundamental changes in how they handle revenue recognition. Even though the deadline for compliance for publicly held companies has already passed, it appears that many companies are still struggling to meet the new requirements for accounting for revenue from customer contracts.
The new revenue recognition rules replace industry-specific guidance with one framework for all types of businesses. Companies must rethink their accounting practices, including how they handle sales commissions. Under the new rules, sales commissions paid to obtain a contract must be capitalized as an asset. They also must be amortized during the service period.
Companies now must carefully consider how they account for contract modifications, clawback provisions, and fringe benefits.
According to the experts at Effectus Group, a technical accounting firm based in San Jose, Calif., companies are falling into six common pitfalls as they try to implement an ASC 606 and 340-40 compliance initiative:
1. Failing to get executive buy-in
Complying with the new revenue recognition rules is a big project, which makes executive support critical. This isn’t something a couple people in accounting can handle on their own. The first step for implementing the new standard should be taking your executives to lunch, says Matt Svetich, a director in Effectus Group’s technical accounting and IPO practices. Executive buy-in includes having a line-item budget.
2. Starting too late
Don’t make the mistake of thinking complying with these new accounting rules is going to be a quick job. Adopting both the 606 and 340-40 standards takes an average of nine months, according to Effectus Group; compliance with the commissions piece (340-40) alone can take three to five months, but can easily take longer given the complexity.
3. Assigning the project to an already busy person
ASC 606 compliance is often assigned to one person, likely the controller or COO, who already has a full plate. That’s a mistake, Svetich says. The project is too big for someone who is already at 100% capacity, so it’s important to bring in someone either internally or externally who can drive the project forward.
4. Lack of cross-functional collaboration
The new rules impact more than your finance and accounting units. Companies need to understand the various stakeholders in the commission structure and then involve the relevant parties in compliance planning. For example, companies that use the rate of technological obsolescence as the deciding factor in amortization periods will want to include someone from engineering or product.
5. Failing to get early auditor feedback
Don’t wait until the end of the project to reach out to your auditor; you’ll miss out on the valuable advice your auditor could provide early in the process. Svetich recommends running a draft framework for how you’ll account for commissions past the auditor early on to get his or her feedback.
6. Relying on spreadsheets
Using manual methods and Excel spreadsheets to figure out how commissions should be capitalized and amortized isn’t practical on an ongoing basis. This needs to become operational and performed on an ongoing basis; leveraging software can automate the process.
There’s a lot at stake in complying with the new accounting standards; companies that fail to adhere to the new rules run the risk of audits, financial restatements, and penalties.
Modern technology can help you adopt the new revenue recognition rules by categorizing and amortizing commissions expenses and other costs automatically. Find out more here.