From the IFRS Institute - May 31, 2018
Although the new revenue standard is now effective and calendar year-end companies have elected their transition method and determined their transition adjustments, many still face significant challenges during this year of adoption. Further, some companies applied a ‘band-aid’ approach to cross the finish line and still have to implement a sustainable ongoing solution, while also addressing the broader business implications of IFRS 15. KPMG discusses four areas IFRS 15 adopters may need to focus their remaining implementation efforts in 2018.
1. Robust disclosures
IFRS 151 requires recurring disclosures beyond those previously required. These disclosures are expected to provide better comparability to users for companies in the same industry – e.g. disaggregation of revenue and transaction price allocated to remaining performance obligations (the ‘backlog’ disclosure). Conversely, those disclosures may highlight application differences among peers and raise questions from the investor community and regulators.
Differences expected within industries
Due to the level of judgment involved in applying aspects of the standard, we expect to see differences among companies in the same industry, for example when identifying performance obligations, determining the transaction price, assessing whether a principal or an agent relationship with customers exists, or identifying capitalizable costs. In many cases, those differences will arise because of differences in the specific facts and circumstances of a company’s contractual arrangement with a customer.
Nevertheless, companies should be prepared to tell a consistent story about judgments made and assumptions used that led to their application of IFRS 15.
GAAP differences and regulatory expectations
The revenue standards issued by the FASB2 and IASB were originally substantially aligned, but inconsistencies may also arise between IFRS and US GAAP preparers. IFRS preparers listed in the United States should monitor disclosures of their peers applying US GAAP, because the SEC may focus on companies that are outliers in their industry. For details of recent SEC comment trends as they relate to the US standard, read KPMG’s article The SEC comments on ASC 606 early adopters.
IFRS 15 also requires transition-specific disclosures that may need to be presented in the first 2018 interim financial statements to preserve their understandability. Companies that elected the modified retrospective method to transition to IFRS 15 did not restate comparatives but instead recorded the cumulative effect of retrospectively applying the standard as an adjustment to their January 1, 2018 retained earnings.
To make up for the absence of revisions to their comparatives, these companies may dual report their revenues under the old and new revenue guidance during the year of adoption by presenting which financial statements line items are affected by the change. Companies should consider their regulator’s expectations related to IFRS 15 disclosures. For example, the European Securities and Markets Authority (ESMA) issued a public statement on the implementation of IFRS 15 and highlighted that companies need to provide disclosures related to the initial application of IFRS 15 as compared to legacy GAAP in their 2018 financial statements.
Because approximately 90 percent of US companies elected the modified retrospective method to transition to the new revenue standard, we expect that the majority of IFRS preparers will be dual reporting their revenues under the old and new revenue standard during the year of adoption. These companies will deal with another level of complexity as they have to explain their 2018 results under both methods in parallel, while having no past IFRS 15 data to comment on trends in their earnings releases.
Key performance indicators
Companies will also need to monitor their KPIs, because those used to measure the company’s performance under legacy IFRS may no longer convey the same information under IFRS 15.
2. Materiality thresholds
Unlike their peers applying US GAAP, IFRS preparers do not have the option to ignore promises that are immaterial within the context of the contract. IFRS preparers therefore need to document materiality judgments at the financial statements level, which may require a larger population of data to be analyzed.
While we do not expect many accounting differences to arise from this, dual preparers may need to reconcile their documentation of materiality judgments. Additionally, companies applying the modified retrospective method will need to evaluate new transactions under legacy IFRS and IFRS 15 during the year of adoption.
With these challenges in mind, companies should initiate a conversation with their auditors and establish materiality thresholds for ongoing interim and year-end reporting, and set up the processes and controls necessary to monitor those assessments.
3. Fully implemented systems and sustainable processes
Some companies started their implementation efforts early and were working on a system-based solution for several years. Even so, some systems were not ready to process transactions under IFRS 15 at the date of adoption. Some of the reasons cited include last minute systems modifications because of updates to technical accounting interpretations and a vast range of transactions that systems were simply not ready to handle.
Other companies started late and didn’t have sufficient time to fully implement their system-based solution.
Regardless of the reason, those impacted by incomplete system solutions had to calculate their transition adjustments manually and, once the system goes live, will need to reconcile those manual adjustments to system-generated results. Furthermore, while companies had several years to manually calculate the transition adjustments, a manual solution may not be sustainable for ongoing reporting purposes.
Companies should prioritize their system implementation efforts not only to avoid tracking manual adjustments outside of the system, but also to be able to timely evaluate new transactions under IFRS 15.
4. Effective internal controls
Companies focused on one-time controls that were put in place to transition to IFRS 15. Now it’s time to focus on controls over ongoing reporting.
Ongoing controls may need to be modified and new controls added as a result of the adoption of IFRS 15. This may be true for the new data capture, processing and monitoring of information needed to comply with the expanded disclosure requirements – even if there are no significant changes to a company’s revenue recognition itself. Changes to processes and systems may generate additional risks and require the establishment of new controls that were not tested under legacy IFRS. For example, new reports or system functionalities may have been designed to gather data to support new estimates, track multiple performance obligations or prepare disclosures. Companies will need to establish controls to ensure that these new processes, systems or system functions, and reports provide complete and accurate information.
Companies that elected the modified retrospective method will need to maintain two sets of controls during the year of adoption to allow for the accounting for transactions under legacy IFRS and IFRS 15.
In addition, employees performing controls need to understand their purpose and the related potential process flaws, to ensure correct execution. Companies should ensure that they have considered training needs, capacity, and the skill set of employees who will be responsible for performing controls.
IFRS 15 is live but implementation efforts continue
While calendar year-end IFRS preparers officially transitioned to IFRS 15 on January 1, 2018, the first wave of interim reporting will truly reflect where companies stand with their adoption. Many may still be in the homestretch, as the adoption of IFRS 15 brings challenges that reach beyond technical accounting interpretations. Addressing them timely is critical to a sustainable and successful implementation.
1 IFRS 15, Revenue from Contracts with Customers
2 ASC 606, Revenue from Contracts with Customers