Innovative usage of Accounting Rule for GAAP compliance of the Revenue Recognition process

Transcription

1 8-NOV-2014 Innovative usage of Accounting Rule for GAAP compliance of the Revenue Recognition process Arumugaraja Arunachalam Principal Consultant-ERP

2 Agenda Introduction U.S. GAAP Codification of Accounting Standards Invoicing Rule and Accounting Rule functionality Case Study Revenue Recognition Challenge Solution Implemented Summary Q & A 2

3 U.S. GAAP Codification of Accounting Standards Topic 600: Revenue says Revenues are recognized when i. Realized or Realizable and ii. Earned i. Revenues are realized when products are exchanged for cash or claims to cash. Revenues are realizable when related assets received are readily convertible to cash or claims to cash. ii. Revenues are earned when the products are delivered or services are performed. 3

4 Invoicing Rule functionality Invoicing Rules allow you to determine when you should recognize the Receivable amount for invoices in advance or in arrears. In this session we would consider Invoicing Rule in advance as default. Invoicing Rule is used in conjunction with Accounting Rule. 4

5 Accounting Rule functionality Accounting Rules allow you to define when you should recognize the Revenue for your invoices. Accounting rules determine the number of periods and percentage of total revenue to record in each accounting period. Accounting Rule is attached to the Item. Invoices for the sale of the Item entered either manually or through Auto-Invoice from source systems would use the Accounting Rule. 5

6 Case Study Consider an organization XYZ corporation which sells computer programs online. Sale Orders are captured in Order Management system and Invoices are created in Receivables through Auto-Invoice. Case 1: When XYZ sells a software product then the Revenue from the sale of the Product can be recognized in XYZ book when the buyer purchases the product and the Product is delivered. XYZ raises the Invoices for the Sale and the Accounting Entry in its book is as below: Account Amount Period DR Receivables Account Transaction Amount Transaction Period CR Revenue Account Transaction Amount Transaction Period 6

7 Case 2: XYZ sells a software subscription service where in the purchaser buys an annual subscription service and uses the service over the subscription term of the item. As per US GAAP standard, annual subscription revenue has to be recognized over the subscription term that is the twelve month period. Subscription Service is defined as an Item. 7

8 Case 2: (contd) XYZ follows a Following Period Convention meaning the revenue recognition starts from the month following this recognized in the first period. 8

9 Case 2: (contd) XYZ raises the Invoices for the Sale and the Accounting Entry in its book is as below: Account Amount Period DR Receivables Account Transaction Amount Transaction Period CR Unearned Revenue Account Transaction Amount Transaction Period On running the Revenue Recognition program, the below Accounting Entries are created over the subscription term. DR CR Account Amount Period Amortized Revenue Amount Revenue Recognized Period (over (derived from the Accounting the Accounting Rule schedule Unearned Revenue Account Rule schedule percentage) periods) Earned Revenue Account Amortized Revenue Amount (derived from the Accounting Rule schedule percentage) Revenue Recognized Period (over the Accounting Rule schedule periods) 9

10 Case 3: XYZ Corporation introduced an unique subscription service. This subscription service has a fixed start date and fixed end date. Irrespective of the date of Purchase, the subscription service is valid only up to the fixed end date. Business idea is to introduce an upgraded service each year and encourage the customers to migrate to new service. Discounts are provided to the customers to compensate for the diminishing validity of the service. 10

11 Case 3: (contd) Subscription Service titled ABC-14 starts from 1-Jan-14 and ends on 31-Dec-14. Example 1: When a customer buys the ABC-14 service on 1-Jan-14, it is valid for 12 months up to 31-Dec-14. Example 2: When a second customer buys the ABC-14 service on 1- Mar-14, it is valid only for 10 months up to 31-Dec-14. Example 3: When a third customer buys the ABC-14 service on 1-Oct- 14, it is valid only for 3 months up to 31-Dec

12 Case 3: (contd) Revenue Recognition Challenge: How to recognize the Revenue for such a finite end dated Subscription Service? Could we use the Variable Accounting Rule? If we apply Variable Accounting Rule, it would uniformly recognize the Revenue across the periods instead of the Business Requirement to follow the Following Period Convention. How to simultaneously address both the US GAAP and Business requirements? 12

13 Case 3: (contd) Solution Implemented: 1. DFF was created at Item level to capture the finite end date of the subscription service. 2. Variable Accounting Rule was defined and assigned to the ABC-14 service item. 3. Fixed Schedule Rules of periods 1 to 13 are defined in the system. 4. Invoices from Order Management system interfaces into the RA Interface table. 13

14 Case 3: (contd) Solution Implemented: 5. A simple custom program was created which replaces the Variable Accounting Rule with corresponding Fixed Accounting Rule by the following logic. Start Date is the Invoice GL Date. End Date is subscription service item finite end date. Duration is calculated as End Date Start Date. Decimals are rolled upwards. Program identifies the corresponding Fixed Schedule Rules by matching the duration calculated with the number of schedule periods 1. This custom program is executed on the interface records before running the Auto-Invoice program. 14

15 Case 3: (contd) Solution Implemented: Example 1: Duration calculated is 12. Program replaces the Variable Schedule Rule with Fixed Schedule Rule which has 13 periods. Example 2: Duration calculated is 10. Program replaces the Variable Schedule Rule with Fixed Schedule Rule which has 11 periods. Example 3: Duration calculated is 3. Program replaces the Variable Schedule Rule with Fixed Schedule Rule which has 4 periods. 15

16 Case 3: (contd) When XYZ raises the Invoices for the Sale, the Accounting Entry in its book is as below: Account Amount Period DR Receivables Account Transaction Amount Transaction Period CR Unearned Revenue Account Transaction Amount Transaction Period On running the Revenue Recognition program, the below Accounting Entries are created over the subscription term. DR CR Account Amount Period Amortized Revenue Amount Revenue Recognized Period (over (derived from the Accounting the Accounting Rule schedule Unearned Revenue Account Rule schedule percentage) periods) Earned Revenue Account Amortized Revenue Amount (derived from the Accounting Rule schedule percentage) Revenue Recognized Period (over the Accounting Rule schedule periods) 16

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18 Arumugaraja Arunachalam