Navigating the complexities of revenue recognition can feel like charting a course through uncharted waters. For businesses engaged in long-term contracts, understanding and applying the ASC 606 percentage of completion method is crucial for accurate financial reporting and informed decision-making. This method allows you to recognize revenue gradually as work progresses, providing a more realistic view of your financial performance. This guide breaks down the essentials of ASC 606 percentage of completion, offering practical steps, real-world examples, and expert insights to help you steer your business toward compliance and financial clarity. We'll cover everything from calculating the percentage of completion to addressing common challenges and leveraging technology for streamlined processes. Let's demystify ASC 606 percentage of completion together and equip your business with the knowledge and tools to thrive.

Key Takeaways

• Mastering the Percentage of Completion method is key for accurate financials: For long-term contracts, the PoC method provides a more realistic view of your revenue and project profitability. Understanding its nuances under ASC 606 is crucial for accurate reporting.
• Automation and integration simplify compliance: Leverage technology to automate revenue recognition calculations and integrate data across your systems. This streamlines reporting, reduces errors, and saves valuable time.
• Invest in training for long-term success: A well-trained team is essential for accurate PoC implementation and consistent ASC 606 compliance. Prioritize ongoing training and provide readily available resources to empower your team.

What is ASC 606? Revenue Recognition Explained

ASC 606 is a revenue recognition standard affecting any business exchanging goods or services with customers. It provides a consistent framework for recognizing revenue, increasing comparability across industries (learn about revenue recognition). The goal is to give investors and analysts more useful information about a company's financial performance (read more on ASC 606). Think of it as creating a universal financial language.

A key aspect of ASC 606 is determining when control of a product or service transfers to the customer. This "transfer of control" triggers revenue recognition. Depending on the contract, this can happen at a specific point or over a period of time (understanding revenue recognition for contractors).

ASC 606 uses a five-step model to determine how and when to recognize revenue:

1. Identify the contract with a customer.
2. Identify the performance obligations within the contract.
3. Determine the transaction price.
4. Allocate the transaction price to each performance obligation.
5. Recognize revenue as (or when) each performance obligation is satisfied (explore the 5-step model).

ASC 606 also requires transparency regarding different revenue streams. Companies must clearly link contract liabilities at the beginning of an accounting period to the revenue recognized at the end (learn about ASC 606 disclosures). This detail provides a more accurate view of a company's financial health. To see how HubiFi can simplify your ASC 606 compliance, schedule a demo.

What is the Percentage of Completion (PoC) Method?

The percentage of completion (PoC) method is an accounting approach used to recognize revenue and expenses for long-term contracts. Instead of waiting until a project is finished, the PoC method recognizes revenue gradually as work progresses. This provides a more realistic view of a company's financial performance, especially for projects spanning multiple reporting periods. Think of it as recognizing value as it's created, rather than all at once at the end. This better aligns revenue with the actual work performed.

Defining PoC Under ASC 606

ASC 606 provides a comprehensive framework for revenue recognition. For contracts where control of a good or service transfers to the customer over time, the standard generally requires using the percentage of completion method. This means if your company performs services or builds something over time, and the customer simultaneously receives and benefits from that work, ASC 606 likely requires PoC. This approach ensures that revenue is recognized in proportion to the work completed, giving a clearer picture of the project's profitability at any given point. For more information, check out this article on the impact of ASC 606.

Industries Using PoC

The percentage of completion method is particularly common in industries with long-term projects. Construction companies, for example, often use PoC to recognize revenue for large-scale projects. Similarly, software development firms frequently employ this method when creating complex software systems delivered in phases. This article on PoC in construction provides a good example of how this works. Other industries where PoC is common include engineering, infrastructure development, and any field involving long-term contracts with progressive deliverables. This resource on the percentage of completion method offers a helpful overview. Choosing the right revenue recognition method is crucial for accurate financial reporting and compliance. If you're unsure whether PoC is right for your business, consider scheduling a data consultation with HubiFi.

Calculate Percentage of Completion Under ASC 606

Understanding how to calculate the percentage of completion is crucial for accurate revenue recognition under ASC 606. There are several methods businesses can use, each with its own advantages and applications. Let's break down three common approaches: the cost-to-cost method, the efforts-expended method, and the units-of-delivery method. Choosing the right method depends on the nature of your contracts and your operational processes.

The Cost-to-Cost Method

The cost-to-cost method is a popular choice for recognizing revenue in long-term contracts, especially in industries like construction where projects often span multiple accounting periods. This method ties revenue recognition directly to the costs you incur. You're essentially looking at the ratio of costs incurred to date compared to the total estimated costs for the entire contract. For example, if you've incurred 30% of the total estimated costs, you would recognize 30% of the total estimated revenue. This approach provides a straightforward way to track progress and align revenue with the actual work completed. Remember, accurate cost estimation is key to using this method effectively. For more detailed information on applying the cost-to-cost method, explore resources like this guide from RightRev.

The Efforts-Expended Method

Sometimes, measuring progress solely based on costs isn't the best approach. The efforts-expended method offers an alternative, focusing on the proportion of resources used. This could be labor hours, materials consumed, or machine hours utilized, relative to the total estimated effort required for the project. This method is particularly useful when the output isn't easily quantifiable. Think of a complex software development project where defining "units" can be tricky. Tracking effort becomes a more reliable indicator of progress. Keep in mind, accurate effort estimation is just as important here as accurate cost estimation is for the cost-to-cost method. Platforms like Knowify offer helpful articles explaining the practical application of this method.

The Units-of-Delivery Method

The units-of-delivery method simplifies revenue recognition when contracts involve delivering identical products or services. Here, revenue is recognized based on the number of units delivered compared to the total units outlined in the contract. This straightforward approach works well for projects with clearly defined deliverables. Imagine a manufacturing contract for 1,000 widgets. If you've delivered 200 widgets, you recognize revenue for 20% of the contract. The key here is ensuring that each unit represents a consistent and measurable portion of the overall agreement. For further reading on this and other percentage of completion methods, refer to resources like RightRev.

Implement Percentage of Completion: A Step-by-Step Guide

This section provides a practical, step-by-step guide to implementing the Percentage of Completion (PoC) method under ASC 606. Following these steps will help ensure accurate revenue recognition and compliance.

Identify Performance Obligations

First, pinpoint the distinct goods or services promised to your customer in the contract. This involves carefully analyzing the contract terms to understand each deliverable that represents a separate performance obligation. For example, a construction contract might include separate obligations for the foundation, framing, and interior. Accurately identifying these obligations is crucial for proper revenue allocation and follows ASC 606 guidance. Remember, the timing of revenue recognition depends on when control of these goods or services transfers to the customer.

Determine and Allocate Transaction Price

Next, determine the overall transaction price—the amount you expect to receive for fulfilling the contract. If the price isn't fixed, consider factors like variable consideration and potential discounts. After establishing the total transaction price, allocate it proportionally to each performance obligation based on its standalone selling price. This ensures revenue is recognized in line with the value provided for each deliverable. This process follows the five-step model outlined in ASC 606, ensuring compliance and accurate financial reporting. For more insights on pricing strategies, explore resources like HubiFi's pricing page.

Measure Progress and Recognize Revenue

Finally, measure your progress toward completing each performance obligation. Your chosen method—cost-to-cost, efforts-expended, or units-of-delivery—should reliably reflect the work performed. As progress is made, recognize revenue based on the allocated transaction price for that specific performance obligation. For example, if you've completed 40% of a project phase with an allocated price of $100,000, you would recognize $40,000 in revenue. The Percentage of Completion method provides a more accurate financial picture than waiting until project completion. Consider the input method for constraining revenue for amounts less than probable, as outlined under ASC 606. For complex projects, explore automated solutions like those offered by HubiFi to streamline this process. Schedule a demo to see how HubiFi can help manage revenue recognition. For further reading on revenue recognition, visit the HubiFi blog.

Challenges of Applying Percentage of Completion Under ASC 606

While the percentage of completion method offers a more accurate view of revenue and performance, it also presents unique challenges. Successfully navigating these complexities is key to accurate financial reporting and informed decision-making. Let's break down some of the hurdles companies face:

Estimate Costs and Forecast Projects Accurately

The percentage of completion method hinges on accurate cost estimations and project forecasting. This requires a deep understanding of the project scope, potential risks, and resources required. Inaccurate estimates can lead to misstated revenue and require later adjustments, potentially impacting profitability and investor confidence. As Knowify points out, diligently tracking actual costs against your initial estimates is crucial for reliable percentage of completion calculations. This often necessitates robust project management software and meticulous record-keeping. Consider implementing a system that allows for real-time cost tracking and variance analysis to stay on top of potential discrepancies.

Handle Scope Changes and Contract Modifications

Change orders and contract modifications are a reality in many businesses. However, these changes can significantly impact percentage of completion calculations. Any adjustments to the project scope, timeline, or budget need to be promptly reflected in your revenue recognition process. Knowify also emphasizes the importance of handling change orders effectively, recommending that contractors adjust estimates and revise budgets as soon as they're approved. Failing to do so can result in inaccurate revenue reporting and potential compliance issues. Establish clear communication channels and procedures for managing change orders to ensure they are properly accounted for.

Identify and Separate Performance Obligations

ASC 606 requires identifying and separating distinct performance obligations within a contract. This can be tricky, especially for contracts with multiple deliverables or services. The IMA highlights this requirement as a significant shift under ASC 606. Companies must develop clear criteria for identifying these obligations and allocate the transaction price accordingly. This often requires careful contract analysis and a thorough understanding of the deliverables promised to the customer. Overlooking or misidentifying performance obligations can lead to incorrect revenue allocation and compliance problems. Work with your legal and accounting teams to develop a consistent approach to identifying and documenting performance obligations. This will help ensure compliance and reduce the risk of revenue recognition errors.

Best Practices for Percentage of Completion Compliance

Staying on top of ASC 606 compliance with the Percentage of Completion (PoC) method requires diligence and attention to detail. Here’s how to keep your revenue recognition accurate and compliant:

Update Estimates and Monitor Progress Regularly

Regularly updating your cost estimates is crucial for accurate PoC calculations. As your project progresses, things change. Unexpected expenses arise, material costs fluctuate, and labor needs shift. Consistently revisiting and refining your initial estimates ensures your revenue recognition reflects the current reality of your project. This also helps you catch potential issues early and adjust your strategy. As Procore highlights, consistent calculations and revised estimates are key for accurate accounting under the percentage of completion method. Don't wait until the end of the project to realize your initial projections were off. Regular monitoring, even weekly check-ins, can make a big difference.

Maintain Robust Documentation and Internal Controls

Solid documentation isn't just good practice—it's essential for ASC 606 compliance. Keep meticulous records of all costs, contracts, change orders, and any other factors influencing your PoC calculation. This detailed record-keeping simplifies audits and provides valuable insights into your project's financial health. Establish clear internal controls to manage and approve changes to contracts and budgets. This helps prevent errors and ensures consistent procedures. Remember, under ASC 606, you need a clear policy for handling amounts less than probable, including contract costs and uninstalled materials, as explained by BFBA, LLP. A well-defined process makes a significant difference in compliance.

Communicate Clearly Among Stakeholders

Open communication between your project team, accounting department, and clients is paramount. Everyone needs to be on the same page regarding project progress, budget adjustments, and any potential roadblocks. This transparency builds trust with your clients and keeps your internal teams aligned. When calculating the percentage of completion using the input method, remember to exclude costs that don't directly contribute to the transfer of goods or services, as Baker Tilly advises. Sharing this level of detail demonstrates your commitment to accurate and transparent accounting. Regular progress reports and meetings can facilitate this ongoing dialogue.

Common Misconceptions About ASC 606 and PoC

Debunking Myths and Clarifying Confusion

One of the biggest misunderstandings around ASC 606 is the idea that it eliminates the percentage of completion (PoC) method. This simply isn’t true. While ASC 606 introduces a new five-step framework for revenue recognition, PoC is still a valid method for long-term contracts where performance obligations are satisfied over time. Think of it as an evolution, not an extinction. The core principle of recognizing revenue as work progresses remains. ASC 606 simply provides a more structured approach. For more details, check out this article on how the percentage-of-completion method has evolved.

Another misconception is that ASC 606 only impacts revenue recognition. While revenue recognition is central, the standard has broader implications for financial reporting. It affects how contracts are structured, how performance obligations are identified, and how the transaction price is allocated. This more granular approach requires businesses to carefully analyze their contracts and understand the distinct goods or services they provide. This resource on the impact of ASC 606 details how balance sheets are affected.

Finally, there's a misconception that the cost-to-cost method is the only acceptable way to measure progress under ASC 606. While the cost-to-cost method is frequently used, especially in construction, it’s not the only option. Other input methods, such as efforts-expended and units-of-delivery, can be appropriate depending on the contract. The key is choosing a method that reliably measures progress toward satisfying the performance obligation. Learn more about how ASC 606 impacts the construction industry. Understanding the nuances of ASC 606 and how it interacts with the PoC method is crucial for accurate financial reporting and smart decisions. If you’d like expert guidance, schedule a HubiFi demo to see how our automated solutions can simplify your revenue recognition processes.

Technology's Role in ASC 606 Compliance

Staying compliant with ASC 606, especially when using the percentage-of-completion method, often requires significant resources. Technology can simplify the process and reduce the risk of errors. Let's explore how the right tools can make a difference.

Automate Revenue Recognition

Automation is key to efficient revenue recognition under ASC 606. Manually tracking costs, calculating percentages, and generating reports is time-consuming and prone to mistakes. Software designed for revenue recognition automates these tasks, freeing up your team to focus on strategic activities. For example, construction management software can streamline percentage-of-completion calculations by providing quick access to essential figures like cost-to-date, total estimated costs, and contract price, as explained in this Knowify article. This ensures your revenue recognition is both accurate and legally sound, a point emphasized by RightRev. Automating these processes helps you close your books faster and with greater confidence. Interested in seeing how HubiFi automates revenue recognition? Schedule a demo to learn more.

Integrate Data for Accurate Reporting

ASC 606 introduces specific requirements for long-term contracts, including dividing contracts into separate performance obligations, assigning transaction prices, and determining when the customer gains control, as outlined by the IMA. Managing this complexity across various systems can be a challenge. This is where data integration comes in. Integrating your CRM, ERP, and accounting software ensures data consistency and provides a single source of truth for all contract information. This streamlined approach simplifies reporting and allows for deeper analysis of project profitability. For instance, by integrating data from completed projects, you can perform lookback analyses to assess normalized earnings and revenue quality, a process discussed by KSM. HubiFi offers seamless integrations with popular business software, enabling accurate and efficient reporting under ASC 606. Learn more on our integrations page.

Key Metrics and Disclosures for PoC Implementation

Implementing the Percentage of Completion (PoC) method under ASC 606 requires careful tracking of key metrics and adherence to specific disclosure requirements. This not only ensures accurate financial reporting but also helps stakeholders understand your project's performance and financial health. Think of it as providing a clear window into your operations.

Track Essential Performance Indicators

Tracking the right performance indicators (KPIs) is crucial for successful PoC implementation. These metrics offer valuable insights into project profitability, cost management, and overall progress. Here are some essential KPIs to consider:

• Estimated Total Costs: Accurately estimating total project costs is the foundation of PoC. This involves considering all direct and indirect costs, including materials, labor, and overhead. As the project progresses, regularly compare actual costs against your initial estimates to identify any variances and adjust your projections. Reviewing past projects can help refine your estimating process for the future.

• Costs Incurred to Date: Keeping tabs on costs incurred to date provides a real-time snapshot of your project's financial status. This information is essential for calculating the percentage of completion and recognizing revenue accurately.

• Estimated Gross Profit: Monitoring estimated gross profit helps you assess the overall profitability of your project. By comparing estimated gross profit against actual costs incurred, you can identify potential issues early on and take corrective action.

• Percentage of Completion: This core metric, calculated using one of the methods discussed earlier (cost-to-cost, efforts-expended, or units-of-delivery), drives revenue recognition. Accurate calculation is paramount for compliance with ASC 606. As RightRev explains, the PoC method recognizes revenue as the customer receives the benefits of your work, aligning revenue with performance.

Meet ASC 606 Disclosure Standards

Transparency is a key principle of ASC 606. Meeting the required disclosure standards ensures that stakeholders have the information they need to understand your revenue recognition practices and the associated risks. Here are some crucial disclosure requirements:

• Contracts with Customers: Disclose the nature of your customer contracts, including key terms, payment schedules, and any significant financing components.

• Performance Obligations: Clearly identify the distinct goods or services promised to your customers (your performance obligations) within each contract. It's important to separate these obligations and assign a transaction price to each, as outlined by IMA.

• Transaction Price: Disclose the transaction price allocated to each performance obligation, including any variable consideration or significant financing components.

• Methods for Determining Progress: Explain the methods you use to measure progress toward completing performance obligations, such as the cost-to-cost method.

• Changes in Estimates: Disclose any significant changes in estimates of transaction price, costs to complete, or the extent of progress.

• Constraining Revenue Recognition: ASC 606 requires companies to establish a policy for constraining revenue when amounts are less than probable, as noted by BFBA, LLP. Disclose this policy and its impact on your financial statements. This often involves setting up a loss reserve or allowance. For more insights on streamlining these processes, explore HubiFi's automated solutions here.

Prepare for ASC 606 and PoC: Tools and Resources

Successfully implementing the percentage of completion method under ASC 606 requires the right tools and a well-trained team. This section explores both software solutions and training strategies to equip your business for success.

Find Software Solutions for Contractors

Staying compliant with ASC 606 and accurately applying the percentage of completion method can be complex. Software solutions can streamline the process, automate calculations, and reduce manual errors. Look for software that specifically addresses revenue recognition under ASC 606 and offers features tailored to the construction industry, like those available through HubiFi.

Choosing the right software significantly impacts your efficiency and accuracy. A robust solution should integrate with your existing accounting software, ERPs, and CRMs (learn about integrations), allowing for seamless data flow and real-time reporting. This eliminates manual data entry and reduces the risk of discrepancies. Features like automated revenue schedules, real-time project tracking, and customizable reporting dashboards can further simplify your revenue recognition process. As you evaluate different options, consider your specific needs and budget. Schedule a demo to see how a platform like HubiFi can simplify your revenue recognition. For more details, check out our pricing.

Remember, the percentage of completion method recognizes revenue as your customer receives the benefits of your work, reflecting the ongoing progress of the project (RightRev's explanation of POC in construction). Your software should accurately reflect this principle, calculating revenue based on the ratio of costs incurred to total estimated costs (the cost-to-cost input method, as discussed by KSM).

Develop Training and Implementation Strategies

Software alone isn't enough. Your team needs a thorough understanding of ASC 606 and how to apply the percentage of completion method correctly. Develop a comprehensive training program that covers the five-step model introduced by ASC 606, including the concept of "transfer of control" (Foundation Software's discussion of ASC 606's impact).

Your training should also address practical aspects, such as dividing contracts into separate performance obligations, assigning transaction prices, and determining when the customer gains control (IMA's explanation of revenue recognition). Hands-on workshops and case studies can help solidify these concepts. Ongoing support and refresher courses are essential to keep your team up-to-date. For more insights, explore the HubiFi blog. Investing in training ensures your team can accurately apply the percentage of completion method, contributing to smooth audits and informed decisions. Learn more about HubiFi.

Related Articles

• How ASC 606 Accounting Transforms Revenue Recognition
• How to Master Percentage of Completion Revenue Recognition
• ASC 606 Implementation: Steps, Challenges, and Solutions
• Understanding the Effective Date of ASC 606
• Understanding PoC Revenue Recognition: A Simple Guide

Frequently Asked Questions

Why is ASC 606 relevant to my business?

ASC 606 impacts any business that enters into contracts with customers to provide goods or services. It standardizes how revenue is recognized, making financial reporting more transparent and comparable across different companies and industries. Understanding ASC 606 is crucial for accurate financial reporting, informed decision-making, and maintaining compliance.

How do I know if I should use the Percentage of Completion method?

If your business has long-term contracts where control of a good or service transfers to the customer over time, the Percentage of Completion (PoC) method is likely required under ASC 606. This applies to situations where the customer simultaneously receives and benefits from the work as it's performed, such as in construction or long-term service agreements. If you're unsure, consulting with a financial professional is always a good idea.

What's the easiest way to calculate the percentage of completion?

While the specific calculations depend on the chosen method (cost-to-cost, efforts-expended, or units-of-delivery), the core principle is to measure progress towards completing the performance obligation. The cost-to-cost method, for example, uses the ratio of costs incurred to date compared to the total estimated costs. Software solutions can automate these calculations and simplify the process.

What are the biggest challenges with the Percentage of Completion method?

Accurate cost estimation and project forecasting are crucial for the PoC method. Inaccurate estimates can lead to revenue misstatements and compliance issues. Managing change orders and contract modifications also presents a challenge, as these changes need to be incorporated into the PoC calculations. Clearly identifying and separating performance obligations within a contract is another key area requiring careful attention.

How can technology help with ASC 606 and Percentage of Completion?

Technology plays a vital role in simplifying ASC 606 compliance, especially when using the PoC method. Software solutions can automate revenue recognition calculations, integrate data from various systems, and generate reports, reducing manual effort and the risk of errors. This allows businesses to focus on strategic activities and make informed decisions based on accurate, real-time data. Look for software that integrates with your existing systems and offers features tailored to your industry.