The ASC 606 clock is ticking It may be time for brute force

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1 The ASC 606 clock is ticking It may be time for brute force By the time you read this, ASC 606 will be two minutes closer to a reality (see sidebar: ASC 606 in brief). The clock is ticking down toward the effective date for the FASB and IASB s new revenue recognition accounting standards (ASC 606 and IFRS 15). For most public companies that effective date is January 1, The impact of the new standards varies from company to company and by industry for some, the impact may be more limited and manageable, but for others the impact is significant. A large number of complex business models combined with significant changes in the recognition pattern often caused by the elimination of industry specific guidance has resulted in some very complex adoptions. Many of these companies have decided to pursue system-driven and automatic adoption approaches. Given the fast approaching deadline for adoption, for those without sufficient time to successfully implement an automated revenue management system along with the necessary supporting business processes, a largely manual brute force approach may be the only option. Time and options may be running out Many organizations are on track to complete final preparations for implementation of the new standard. Some of them are in the middle of this complex implementation and others are still assessing the impact. The questions of whether enough time remains and how a company should approach its remaining implementation activities, are functions of a company s effective date, the chosen transition method, availability and quality of data, and the degree of accounting impacts, which can have a multiplier effect on the company s processes, technology, and controls. Private companies working towards 2019 deadlines have a longer lead-time, but with most public companies having less than a year to comply, implementation options are limited. An end-to-end automated revenue management system for ASC 606 or IFRS 15 typically requires more than 12 months (sometimes as much as 18 months) to implement. This is particularly true for companies with multi-location operations, multiple element arrangements, or contracts where the scope and considerations are likely to change over the contract life. Companies pursuing revenue automation should be well into the implementation

2 An end-to-end automated revenue management system for ASC 606 or IFRS 15 typically requires more than 12 months (sometimes as much as 18 months) to implement. process if they anticipate relying on the solution at the time of initial adoption (Figure 1). The limited time remaining until adoption is even causing some companies that have started down the path of an automated revenue management system to evaluate the need for a backup plan in the event that an automated solution is not implemented in time or if the solution cannot address all of the business requirements (see case study). In some cases an alternative solution will be helpful for management to review, test, or understand the output for the automated revenue management system. Companies that cannot effectively implement an automated revenue system in the time remaining may have to take a brute force manual approach to reach compliance by the deadline. An accelerated manual approach is likely a combination of manual processes and enabling technology and tools, such as spreadsheets or a tactical database solution (such as MS SQL Server and Python), that supplement existing systems and processes to achieve near-term compliance. While there is an increased risk in a brute force approach because of its manual nature, some companies may find no other feasible solution in the short term. Figure 1: A fully automated revenue solution can take more than 12 months to implement Sample Today System go live Adopt and operationalize Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Assess Use cases/ bus. req. Design Func./tech. design Build Build for topic 606 solution Test Sit/e2e test UAT Performance test Data Data preparation Mock 1 Mock 1 Mock 1 Production go live Cutover & Deploy Opening balance Monthly process Solution stabilization FY18 processing and forecasting The ASC 606 clock is ticking It may be time for brute force 02

3 What to know and do Many companies are finding data availability, data quality, and controls around source data to be areas requiring significant attention as part of the implementation process. Because of a manual approach s higher level of risk and resource intensive process it shouldn t be considered a replacement for a sustainable long-term solution, but rather an interim approach or a necessary complement to it. As companies go down this path, a few important considerations should help ease both the implementation and the ultimate transition to a more permanent solution. Don t underestimate the complexity and the associated risks Even a brute force solution has many complex elements, including navigating accounting, operational, and data complexities as well as the management of resource constraints and competing priorities in a condensed timeline. Revenue recognition is a critical and often complex accounting area that companies can t afford to get wrong. Capitalizing the costs to obtain a contract (i.e., commissions), calculating stand-alone selling prices, and estimating variable consideration are complex areas affected by the new revenue recognition model, to name just a few. Furthermore, depending on the adoption method, it may take significant effort to quantify the impacts of the new standard to retrospective periods and calculate the opening balance sheet adjustments. Not to mention, that if a company is taking the modified retrospective approach, it will also have to plan for reporting results under both the new revenue standard as well as historical revenue recognition guidance each quarter in the year of adoption, which will further strain any existing resource constraints. Data, too, can add complexity. The new revenue recognition model touches many aspects of the quote to cash process, and involves gathering the required data across that process to meet the new standards requirements. Many companies are finding data availability, data quality and controls around source data to be areas requiring significant attention as part of the implementation process. The gathering of data required for preparation of financial statements in accordance with the new standards can be a time consuming task, because in some cases, historical data may not be readily available due to changes in enterprise resource planning, historical operational processes, or mergers and acquisitions. With process change and the addition of manual activities comes the need to modify controls, and in many cases, add new controls around manual processes. Given the amount of change required, external auditors and audit committees should be involved early and often with the overall adoption change approach especially when manual efforts are being relied on. Demonstrating to external auditors that there are adequate controls around manual processes and that controls (including spreadsheet controls) are designed and operating effectively will impact the extent of substantive work needed as part of the audit process. It s also important to understand and plan for the resource requirements throughout implementation and post implementation until a sustainable steady state can be reached. With the scarcity of talent in the marketplace and the need to incorporate other regulatory changes coming in the short-term (such as the new lease accounting standard taking effect in 2019), effective resource planning and management are paramount to success. The ASC 606 clock is ticking It may be time for brute force 03

4 What to know and do Figure 2: Implementing an interim manual revenue solution that supports a future state automated system Demographic and social change Shift in global economic power Rapid urbanisation Rapid urbanisation Climate change and resource scarcity Technological Evaluate your accounting assessment and understand your data Build a model based on a fit/gap analysis against existing data, process and system capabilities and implement a properly tested and controlled brute force solution and business process Communicate and involve relevant stakeholders, particularly the auditor, throughout the process Execute your manual processes Plan for longer term automation solutions that will address GAAP changes Design for future sustainability Steps can be taken to structure the program such that the company is progressing to a more permanent automated solution even while implementing a partially manual approach. In other words, take on a brute force approach while thinking through a plan that addresses compliance in a more sustainable manner. The potential synergies between an interim manual solution and automated revenue management system include identifying and prioritizing processing capabilities, transaction scoping, and assessing existing data (Figure 2). Make the most of the time that is left Those companies facing a 2018 compliance date should not delay any further. Companies facing a 2019 compliance date may still have time to pursue automated revenue management solutions if they begin assessment now. For many reasons, getting outside specialist help can increase the likelihood of building a compliant solution in the short-term and a sustainable one over time. This is a transformational level of change that involves changes to processes, controls, systems, and data. And it s a change that requires (1) technology and industry expertise and (2) an accounting mindset a combination that can be hard to source internally. Finally, experienced resources can help in the avoidance of missteps, because there is little time to remedy for those. The ASC 606 clock is ticking It may be time for brute force 04

5 Brute force approach in action Case study Issue Following an impact assessment, the company decided not to pursue an automated revenue management system for the initial adoption due to concerns that the solution could not be implemented, along with all the supporting business process changes needed, by January 1, Although they had started the revenue recognition adoption project well in advance of the deadline, they quickly discovered a number of underlying issues that would need to be resolved in order to realize the benefits of an automated solution. These included nonstandardized processes, systems, and business practices across the company; large contracts with significant contract modifications, variable consideration, and extended warranties; and extensive use of manual, complex models for current revenue recognition. The existing data gaps and issues with data quality and format, as well as complex business requirements, made implementing an automated revenue management system by the deadline a substantial challenge. Action The company concluded on developing and implementing an interim, manual solution using a combination of current reporting from its existing financial reporting tools and tailored spreadsheets. To balance functionality while reducing risks inherent in a manual approach, a thoroughly vetted set of requirements were agreed on upfront. The team then developed interim processes to address inconsistent data formats across the company. For the implementation to be successful, it s important that broader stakeholders understand the impacts of the new standard and support the implementation plan and related costs. To achieve this, the following were critical areas: Focus on planning, including the development of a comprehensive project plan to identify dependencies, potential resource constraints and key milestones, to set up the project for success Development of robust use cases and requirements to make sure manual solutions are designed not only to handle the basic scenarios, but also common complexities that are likely to arise Involvement of resources with diverse skillsets working in an agile manner to develop solutions to address identified gaps Early and frequent involvement of the other stakeholders, including other functional groups (e.g. tax, IT, reporting, etc.) and the external auditor to identify additional requirements and gain consensus on approaches selected. The interim solution will address the accounting for contracts under ASC 606, and also better positions the company to achieve their future state objective of implementing an automated revenue management system and supporting processes. This is achieved by starting the process of identifying and prioritizing processing capabilities, transaction scoping, and assessing existing data. Impact The interim manual solution lays the foundations for a fully automated system, and will provide timely compliance with ASC 606. The company is addressing the significant data gaps that were identified through this process to improve their revenue management and prepare them for implementing an automated solution. Stakeholders across the organization have a better understanding of their role in revenue management and some functions were able to build their own operational requirements into the model. The ASC 606 clock is ticking It may be time for brute force 05

6 ASC 606 in brief New revenue recognition accounting standard The new ASC 606 standard will significantly affect the current revenue recognition practices of many companies, especially those that follow industry-specific guidance under US GAAP. Depending on an entity s existing business model and revenue recognition practices, the new standard will have a significant impact on the amount and timing of revenue recognition, which in turn could affect key performance measures and ratios, and thereby ultimately affect contract negotiations, business activities, and budgets. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The revenue recognition standard explains that, in order to achieve that core principle, an entity should follow a five-step process as set forth below: Identify the contract with a customer Identify the performance obligations in the contract Determine the transaction price Allocate the transaction price Recognize revenue when or as the entity satisfies a performance obligation. For more information on how PwC can help your organization understand ASC 606 requirements, please contact: Stig Haavardtun Partner, Capital Markets & Accounting Advisory Services +1 (408) stig.haavardtun@pwc.com Peter Schraeder Partner, Advanced Risk and Compliance Analytics Solutions +1 (415) peter.p.schraeder@pwc.com Shane Foley Principal, Advanced Risk and Compliance Analytics Solutions +1 (646) shane.p.foley@pwc.com Balaji Ganesan Principal, Risk Assurance +1 (408) balaji.ganesan@pwc.com Stephen Sullivan Principal, Enterprise Systems Solutions +1 (617) stephen.sullivan@pwc.com 2017 PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates and may sometimes refer to the PwC network. Each member firm is a separate legal entity. See for further details