In May 2014, the Financial Accounting Standards Board and the International Accounting Standards Board introduced a new revenue recognition standard, IFRS 15. The law took effect Jan. 1, 2018, for public companies, while private businesses have an additional year to comply. Its implications are sweeping, affecting Canadian accountants and businesses in a host of ways. Here’s what you and your clients need to know.
The New Five-Step Revenue Recognition Standard
Before IFRS 15, businesses enjoyed a lot of latitude on when to recognize revenue. The result was that disparate practices developed across different industries and even among companies within an industry. This made it more difficult to compare businesses’ financial positions accurately.
The new law standardizes revenue recognition across industries and businesses. Particularly for companies that engage in contract-based sales, IFRS 15 tightens the rules substantially.
The crux of the law is a five-step process for recognizing revenue:
- Identify a contract, ensuring it spells out each party’s rights and obligations.
- Note in the contract the specific products or services the business promises to give the customer.
- Also note the price of each product and service agreed to by the customer.
- Match sales to corresponding prices.
- Only recognize the revenue once the customer assumes control of the product or service.
In other words, businesses no longer have the leeway to recognize revenue when a customer pays them but doesn’t deliver the goods until a later date. Per IFRS 15, revenue occurs only when the customer gets what it paid for.
Why You and Your Clients Need to Evaluate All Contracts
Very few sales contracts won’t be affected by the new standard. The less straightforward the terms of a contract, the more likely it needs adjustments to comply with the law. If you have clients who deal heavily in rebates, buy-one-get-one deals, or same-as-cash financing, you should review those contracts carefully. How do they recognize revenue in these unique sales situations? Chances are, they need to tweak what they’re doing.
Contract evaluation matters for new contracts and for those signed before the law took effect. IFRS 15 does not grandfather in contracts signed beforehand. Contracts inked in 2017 that are still in effect as of Jan. 1, 2018, need to be reviewed.
Make Sure to Communicate the New Rules to All Stakeholders
When working with a client on implementing the new rules, don’t forget to take note of who stands to be affected. It isn’t just the business owner and the person in charge of the company’s books. The company’s investors, for instance, could be in for a bumpy road during the transition. With a drop in revenue on your client’s books, a temporary valuation loss might follow. Investors should be prepared.
Your client also might need to amend some of its customer contracts. It’s crucial to get customers on board with any proposed changes. While IFRS 15 is sure to make waves in the Canadian business community, you can help your clients navigate them and stay afloat.