Once all of the steps are completed in the framework of the FASB Accounting Standard concerning the Revenue from Contracts with Customers, then businesses can completely recognize the revenue. This final step recognizes revenue when or as the performance obligations are completed.
Obligations are the agreed upon services or goods that are being transferred from one entity to another. As the transfer of control is being realized, each performance obligation must be assessed to determine a specific time frame of transfer. If the obligation was satisfied over a period of time, then at least one of the following must be present:
- The customer simultaneously received and utilized the remunerations provided by the entity. An example would be obligations fulfilled within the service industry.
- The entity’s performance created an asset that the customer controls as the asset is being created. One example would be the fulfillment of construction on a road, as the customer would control the asset as it is being created.
- The entity’s behavior does not create an asset with an alternative use to the entity and the entity has enforceable rights of payment for the performance completed to date.
Examples of the last criteria include: consulting contracts which occur over a period of time, custom manufacturing contracts for equipment unique in that there is no alternative use or ability to sell/salvage outside of the contract, construction contracts that have payments along the way of being fulfilled. Within the construction example, the timing of payments does not commensurate with the completion of the project, and therefore not considered a right of payment for performance completed to date, thus revenue would not be recognized until an appropriate point in time.
If the obligation is not meant to be satisfied over a period of time, then revenue will be recognized at a point in time. There is not a method to determining this, but rather criteria such as whether the entity has right of payment and the customer has legal title to the goods, whether the customer has received physical custody, whether the customer has risks and rewards of ownership and more. Additionally, ongoing warranties, rights of return and service obligations must be considered that could prevent an entity from recognizing full revenue or a portion of revenue until after the transfer of goods.
Regardless of the time frame in which the entity is meant to be recognized, the entity needs to periodically update its evaluation of revenue recognition over the performance period to monitor any changes in circumstances.
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Over the past months, we have written about the five-step framework that has been set in place to help entities fulfill the Revenue from Contracts with Customers. Links to the other steps can be found here in succession: Step One, Step Two, Step Three and Step Four.
If you have any questions or concerns about the implementation of these steps or how your business or contract is affected, please feel free to contact us online or by phone at 865-212-4867.