Mastering ASC 606 (It Takes a Village)

You’ve heard of Oracle, the multinational computer technology company worth $40 billion. But, did you hear about the Oracle debacle, where the company announced its quarterly earnings and then released revised numbers that were $500 million lower? Does that make you wonder, “If that can happen to a Fortune 100 company, can it happen to me?” (The answer is “yes,” so keep reading.)

Oracle was not victim to bad accounting. It failed to manage compliance with the new state-of-the-art accounting guidelines known as ASC 606. These guidelines are the most significant change to business accounting in 100 years! It caused Josh Paul, head of technical accounting & SEC Reporting at Alphabet, the parent company of Google, to joke, “Hopefully, fear is what you’re feeling now.” Fortunately, fear is optional because the folks at BluSynergy have your back.

But, ASC 606 isn’t a joke. Do you remember when FAS 87 was implemented? That was the rule that set accounting and reporting standards for companies that offered pension benefits to their employees. It impacted 80% of the U.S. workforce and was the impetus for the $4.7 trillion 401K industry. And, ASC 606 is even bigger.

ASC 606 Compliance Failure = Fines, Firings, and Fraud

Depending on whether you are a public or private company, your compliance deadline was December 2017 or December 2018. You may be among the 50% of companies who still lack a compliance strategy in 2019. ASC 606 compliance is not something you can put off for “someday.” Someday was yesterday.

Failing to be ASC 606 compliant comes with huge risks and consequences. In 2002, Xerox restated earnings and was forced to pay a $10 million fine for fraud. When MiMedx issued an earnings restatement in June 2018, four top executives were forced to resign. And, in November 2017, the CFO of American Realty Capital Partners was sentenced to 18 months in prison, required to complete three years of supervised release, and fined $100,000 after his conviction on six counts of fraud; he faced 20 years in prison and got off easy. You don’t want to be next. Do you? (We hope not.)

Understanding ASC 606 Compliance

Oracle, a Fortune 100 company, had four years and legions of accountants to prepare, yet they still lost the ASC 606 game. And, they’re not unique. General Motors predicted the impact of ASC 606 might cost them $1 billion. Uber announced their revenues might be cut in half due to ASC 606. So, what’s the impact of ASC 606 on your top-line revenue?

To understand ASC 606 compliance requires getting a bit nerdy, but if you don’t understand ASC 606, it could land you in jail. So, settle in and keep reading. If the folks at BluSynergy can get through this, so can you!

We all know our global economy is rapidly becoming completely inter-connected. The Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) monitor U.S. and global accounting practices, respectively. They realized that businesses around the world needed to comply with a single standard in how they recognize and report revenue generated from customer contracts. Such a standard would make things like company valuations and comparative analysis more transparent.

Together, these Boards released new standards in 2014, including ASC 606, that established rules that affect how companies report gains or losses in revenue projections. The major accounting change is that, during a specified reporting period, companies have to recognize revenue in proportion to the goods and services they actually deliver to customers.

The rules are comprehensive, affecting your end-to-end processes including pricing, quotes, contracts, orders, and revenue recognition. Think about all the data points involved in the sales lifecycle: different subscription models, bundling, early contract termination fees, customer rebates, extended warranties, and shipping costs. The list is practically endless.

Think of it this way. Your mother-in-law doesn’t just want to know where you’re going on your honeymoon. She wants your rationale for choosing the destination, a list of vaccinations you need, a full itinerary with contact information, an estimate of expenses, the U.S. State Department travel advisories for all countries you will visit, daily emails or phone calls plus Facebook uploads of all your photos, copies of all receipts, and an expensive souvenir to show off to her friends. Like your mother-in-law, ASC 606 is thorough!

ASC 606 and Your Subscription Business

With ASC 606 enforced, you can’t just calculate simple revenue recognition in your subscription business. You have to track things you may not have tracked before: evergreen subscriptions, upfront fees, discounts over time, equipment costs, account suspensions, and nonrefundable deposits.

Does your accounting strategy address the breadth of ASC 606 requirements? How do you report usage, if that’s part of your subscription model? How do you determine whether revenue is contracted or recognized? How do you know when you claim dollars as unbilled deferred revenue?

The average subscription customer changes their contract four times over the lifetime of the contract. This may include upgrades, downgrades, bundling, add-ons, and other changes. With ASC 606, every change is essentially a new contract with a new valuation. Do you have a system to manage your subscription contracts for ASC 606 compliance?

Hopefully, you read our earlier blog post on subscription business models, so you are aware that subscription models are the future of business. Sadly, many businesses are afraid of failing to achieve ASC 606 compliance. So afraid that they are actually waiting to launch innovative pricing models, contract designs, and business strategies. (We hope you’re not one of them.)

Is this feeling overwhelming? Consider that with a subscription business, you depend on customer lifetime value. Aren’t you already taking a long-term view of things? The benefit of ASC 606 is that it will create more transparency and efficiencies in your financial tracking and forecasting. There are processes and systems out there to manage new risk. You don’t have to delay your business growth. The experts at BluSynergy would love to be a part of your strategic team.

Implementing ASC 606 Across Departments

ASC 606 affects nearly every area of your business; it changes the roles and responsibilities within your key business departments. So, it’s more important than ever for your functional teams to work together not in silos. They must act strategically to make sure your customer contracts are optimized for your top-line revenue.

These key departments will likely need new tools and systems, or upgrades to existing ones, to track and manage the pipeline from a prospective customer to signed contract and revenue recognition. This is a great time to automate if you haven’t already. BluSynergy may have just the solutions you need, at price points, you can afford.

Finance Department: ASC 606 will affect the daily tasks of your finance team. They will need to understand ASC 606 inside and out. They will likely need skills trainings and new or upgraded systems to accurately calculate and forecast revenue as well as to identify the most effective strategies for managing customer contracts. Quote-to-Cash technologies will be more important than ever. Do your product catalogs or quote sheets integrate ASC 606 revenue recognition rules? If not, your sales people may not sell with optimal revenue outcomes for your company and ASC 606 compliance.

Sales Department: Your sales team will rely more than ever on the finance department to provide product or service information that considers ASC 606. How else will your sales team know if a negotiated change in the terms of a customer contract is better or worse for your top-line revenue? Your sales team may no longer be able to “sweeten the pot” to close a deal now that ASC 606 is here. ASC 606 compliance affects what your sales team sells: subscription services, bundling, up-selling, cross-selling, and downgrading. And, sales incentives like commissions and bonuses may need to be renegotiated.

Legal Department: The top-line revenue value of a customer contract is more than the selling price. With ASC 606 in place, the legal terms of a contract may impact the revenue valuation of a customer contract. This includes things like free consulting services, marketing exposure, and shipping fees. In the past, your legal department got involved at the end of the sales process to manage your risk. Now, your legal team needs to be knowledgeable about the implications of ASC 606 for your business and they may need to engage in the contract process much earlier on.

Adopting the ASC 606 Five-Step Method

Fortunately, the Boards who created ASC 606 created a Five Step Process to help your company implement a compliance strategy. We’re providing an overview here. If you’re a do-it-yourself leader, the article provides more detail and great resources. Or, you can lean on the experts at BluSynergy to help with the heavy lifting.

Step #1: Identifying the Contract

ASC 606 defines a contract is an agreement between two or more parties that creates enforceable rights and obligations. A contract may be written, oral, or implied. It is identified by six key characteristics:

All parties approve the agreement.
All parties are dedicated to fulfilling their contractual obligations.
Each party’s rights are identifiable.
Payment terms are identified, and a price can be estimated.
The contract has commercial substance.
Buyers are credit worthy.

Step #2: Identifying the Performance Obligations

Performance obligations are your business or contractual promises to deliver goods or services. Under ASC 606, your business must explicitly define obligations in the contract as well as any obligations your customer may expect based on their previous relationship with your company. For example, if you have always given your existing customer free shipping, this is a performance obligation for that customer. For a new customer who expects to pay for shipping, this is not a performance obligation.

Step #3: Determining the Contract Price

The contract price is the cost of goods or services your customer pays to your business. Prices can be fixed, variable, or both; they are identified in the contract as a performance obligation. When the performance obligation (payment) is fulfilled, that cost is recognized by your business as top-line revenue. This price does not include future options or money collected by third parties.

Step #4: Allocating the Contract Price

Your businesses must correctly, transparently allocate the contract price for each performance obligation using its standalone selling price. The standalone selling price can be estimated using an adjustment market assessment, expected cost plus margin, and/or residuals. The ASC 606 specifies guidelines regarding discounts, variable considerations, and contract modifications that you must also take into consideration.

Step #5: Recognizing Revenue

Your company must recognize revenue when or as performance obligations are completed. For single-point-in-time performance obligations, your revenue is recognized at the point of fulfillment. For period-of-time performance obligations, your company must decide how to measure progress in relation to the fulfilled performance obligation; revenue is then recognized proportionate to the progress you have made.

Inaction Is Not an Option

You know that someday was yesterday when it comes to ASC 606. Fortunately, you’re not alone in facing the new realities of ASC 606. The team at BluSynergy is here for you!

Our qualified sales consultants will help you examine and update your accounting practices, so that they track the factors and processes you need to monitor for ASC 606 compliance. Our team can help you understand how strategic decisions about your company and approaches to your subscription models will affect your top-line revenue recognition. We can help your key leaders, including your CFO, to determine whether our technology solutions are the right ones for you to automate your subscription business, stay in compliance with the new ASC 606 standards, and proactively manage the challenges of a constantly evolving global marketplace. At BluSynergy, your success is our success!

If you’re behind in your ASC 606 compliance strategy, take action today! Give one of our BluSynergy sales consultants a call at 731-INVOICE (731-468-6423). We would love to be of service.