August 26th, 2013 How Will Changes in the Way Companies Report Revenue Impact the Construction Industry? – by Jason DaPonte, CPA, CCIFP, CIT For the past few years, we have heard about the general convergence of U.S. GAAP with International Financial Reporting Standards. As many of these projects have already been finalized, proposed changes to the way companies report revenue are expected to be finalized in the fourth quarter of 2013. Although the impact on different types of construction companies will vary, the overall objective is to provide more useful and comparable information to users of the financial statements. What do these changes really mean to us and how soon do we need to implement them? The most significant change will require long-term contracts to be separated into a series of “performance obligations”. Simply put, can different stages or components of a project be separated into their own individual project or are they all dependent on each other for the final product to be functional and transferred to the owner? Here are a couple of simple examples: Example #1 – No separate performance obligation An entity enters into a contract to design and build a hospital. The entity is responsible for the overall management of the project and identifies various components of the project, including engineering, site clearance, foundation, procurement, construction of the structure, piping and wiring, installation of equipment, and finishing. The entity would account for the bundle of components as a single performance obligation because the components in the bundle are highly interrelated and all of the components combined are necessary for the entity to deliver a finished product which is the hospital. Revenue for the performance obligation would be recognized over time by selecting an appropriate measure of progress (i.e. comparing costs incurred to date to total estimated costs) toward complete satisfaction of the performance obligation. Example #2 – Separate performance obligation exists Assume the same information from example 1 except that half-way through the project, the customer decided they wanted to construct a separate facility to house administrative offices. Since the new facility will require its own components of construction, the individual facilities would be considered separate performance obligations and would be accounted for individually. Other changes include the following: Collectibility of Receivables (Bad Debt): Customer amounts deemed to be impaired, or uncollectible, must be reported as a separate expense line item on the statement of income and/or comprehensive income instead of being charged against contract revenue. Contract Modifications (Changes Orders): Accounting for change orders will depend on the type of modification (i.e. change in scope pending price change, change in price only, change in price and scope that constitutes a separate contract, etc.). Disclosures: Annual disclosures would be expanded to include certain information about a company’s contracts with customers, including the disclosure of revenue by primary categories (i.e. type of contract, region, type of customer, etc.). There are various other required disclosures, but we expect nonpublic companies to have the option not to disclose certain information. Effective Date: For nonpublic entities, the standard is required to be implemented for annual reporting periods beginning after December 15, 2017. Your company’s level of involvement in the project or contract will determine how significant these changes will impact you and the financial impact that these changes can have on your company. If your contracts are typically large scale projects with many changes and modifications, this may result in increased administrative costs to segregate and manage the various project components. What do we do now? While the proposed changes detail numerous changes for the construction industry, it appears that most of the changes just formalize how we currently account for contracts and will provide similar results. Although the new standard has yet to be finalized and the implementation deadline is still years away, there may be issues unique to your contracts that may need to change. To discuss these proposed changes and to develop a plan for your company, contact a member of Sansiveri’s Construction and Related Services team!