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Revenue Recognition Standard: Implementation Trends for Contractors

The new revenue recognition guidance (also known as Topic 606), requires that revenue be recognized in accordance with a five-step process:

  1. Identify the contract with a customer
  2. Identify the performance obligations in the contract
  3. Determine the transaction price
  4. Allocate the transaction price to the performance obligations
  5. Recognize when (or as) each performance obligation is satisfied

As a refresher, publicly-held entities were required to implement the new guidance for years beginning after December 15, 2017 (calendar year 2018), and privately-held companies were given one additional year for implementation (to start in calendar year 2019).

In the past, we’ve discussed some key points for contractors to consider with respect to the new revenue recognition guidance, however, through discussions with our clients and other stakeholders, and in reviewing the quarterly filings by publicly-held contractors that are implementing the standard in the current year, we’ve noticed some trends that you should also be aware of.

Trends for Contractors Implementing Topic 606

  • The impact of adoption has not had a material impact on how many contractors recognize revenue.
  • The most common changes that result from implementation are:
    • Services that previously were recognized separately (such as design and construction) are now frequently combined as one performance obligation, based on the view that the risk of performing one requirement is inseparable from the risk of performing the other (i.e.: construction services are highly dependent on the design).
    • Contractors who had previously recognized revenue based on units produced or other output methods, or that had utilized labor hours or other measures of progress in their input method, have determined that these methods are not appropriate under the new guidance. Instead, utilizing cost-to-cost percentage of completion is the appropriate method when the contract terms effectively provide the customer with control of the work-in-process.
    • Incremental costs to obtain a contract, such as commission expense and mobilization costs, that were previously expensed as incurred, are now amortized over the life of the contract.
    • Retainage receivable is now classified as a component of contract assets (formerly called “costs in excess of billings on uncompleted contracts”), rather than presented as a component of contracts receivable.
  • Most contractors are using the modified retrospective method, which allows contractors to record the cumulative effect of the new standard to retained earnings at initial adoption (rather than adjusting the prior year financial statement balances).

Privately-held contractors are at various points in thinking about – or actually implementing – Topic 606.  However, for calendar year-end contractors who elect to apply the modified retrospective approach, contracts in process at December 31, 2018, will need to be re-measured under the new guidance for the 2019 calendar year financial statements.

The implementation of the revenue recognition guidance will affect all contractors differently. We recommend that every contractor inventory their contracts with attention to duration, services provided, and variable consideration among other provisions, in order to assess how significant the impact of the new guidance will be. If you’d like to discuss specific considerations for your company, please contact us.

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