key term - ASC 606

Definition

ASC 606, or Accounting Standards Codification Topic 606, is the revenue recognition standard established by the Financial Accounting Standards Board (FASB) that outlines how companies should recognize revenue from contracts with customers. It aims to provide a more consistent framework for revenue recognition across various industries, improving comparability and transparency in financial reporting.

5 Must Know Facts For Your Next Test

1. ASC 606 introduces a five-step model for revenue recognition: identify the contract, identify performance obligations, determine the transaction price, allocate the transaction price, and recognize revenue when performance obligations are satisfied.
2. The standard emphasizes the importance of recognizing revenue based on the transfer of control of goods or services to customers rather than just completion of tasks.
3. ASC 606 requires entities to disclose more information about their contracts with customers, including significant judgments made in applying the standard and how those judgments affect revenue recognition.
4. One major change under ASC 606 is the requirement to combine contracts if they are negotiated as a package with a single commercial objective.
5. Companies must also reassess existing contracts for modifications and determine whether they result in a new performance obligation or change the transaction price.

Review Questions

• How does ASC 606 impact the way companies identify performance obligations within contracts?
  • ASC 606 significantly affects how companies identify performance obligations by requiring them to evaluate each promise in a contract separately. Each distinct good or service promised must be recognized as a separate performance obligation if it can be sold on its own and is not highly interdependent with other goods or services in the contract. This detailed approach helps ensure that revenue is recognized accurately based on what has been promised and delivered to customers.
• Discuss how contract modifications are handled under ASC 606 and their implications for revenue recognition.
  • Under ASC 606, contract modifications are assessed to determine if they create new performance obligations or alter existing ones. If the modification results in adding distinct goods or services, it may create a new performance obligation, while changes that do not add distinct elements require adjustments to the transaction price of existing obligations. This requires careful consideration of the modification's impact on revenue recognition and can lead to changes in financial reporting practices for companies.
• Evaluate the broader implications of implementing ASC 606 on financial reporting and analysis across industries.
  • The implementation of ASC 606 has widespread implications for financial reporting and analysis across various industries as it promotes consistency and transparency in how revenue is recognized. By aligning revenue recognition practices with a principle-based approach, stakeholders such as investors and analysts can better compare financial statements across different companies. Additionally, this standard challenges companies to enhance their internal controls and reporting processes, leading to improved financial decision-making and a deeper understanding of revenue streams.

Related terms

Revenue Recognition: The accounting principle that determines when revenue is recognized and reported in financial statements, typically when it is earned and realizable.

Performance Obligation:

A promise in a contract to transfer a distinct good or service to a customer, which must be fulfilled for revenue to be recognized under ASC 606.

Contract Modification: An alteration of the terms of a contract that can affect the recognition of revenue, requiring careful assessment under ASC 606 to determine the appropriate treatment.