In December 2020, the American Institute of Certified Public Accountants (AICPA) held its annual conference in Washington D.C. to discuss current Securities and Exchange Commission (SEC) and Public Company Accounting Oversight Board (PCAOB) developments. These developments affect matters such as accounting, auditing, and financial reporting. Several aspects of ASC 606—Revenue from Contracts with Customers were discussed at this conference. Jillian Pearce and Geoff Griffin both discussed principal versus agent considerations, while Kevin Cherrstrom spoke about the identification of performance obligations. Pearce, Griffin, and Cherrstrom are all professional accounting fellows for the Office of the Chief Accountant (OCA). This article summarizes the key aspects of each of these speeches.
Jillian Pearce: Principal-Agent Guidance
Jillian Pearce spoke about a principal-agent fact pattern faced by a commodity producer and reseller. In this situation, the registrant sourced its product from multiple facilities, including a related party. The registrant had a contractual right to market and sell 100 percent of the commodity produced by the related party and took possession and legal title to the product before transporting it to the customer, both indicators that the registrant had control of the product. The registrant could also direct the product to any of its customers, a further indicator that control of the product was transferred to the registrant before the customer. However, the registrant claimed that an insurance policy alleviated any inventory risk. The registrant also noted that upon receipt of payment from the end customer, it remitted the payment to the related party facility, but kept a fixed percentage as a commission. Lack of inventory risk and receipt of only a commission were seen as indicators that control had not passed to the registrant.
The registrant argued that no single indicator was indicative of control in ASC 606, and concluded that it should report revenue as an agent (e.g., net instead of gross). As Mr. Pearce explained, the registrant determined that it was the agent because it did not receive substantially all the benefits from the sale of the commodity. However, the OCA staff disagreed and concluded that the registrant was the principal in the transaction. This was because the registrant did have the right to direct the use of and to receive substantially all of the remaining benefits of the product, even though the commission was a fixed percentage of the selling price.
Geoff Griffin: Principal-Agent Guidance
Geoff Griffin also shared an example in which significant judgment was required to determine whether an entity was a principal or agent:
"In this fact pattern, the registrant operated a platform that facilitated an advertiser’s purchase of advertising space from a publisher. The registrant identified a specific advertiser’s digital advertisement (“ad”) before bidding on potential advertising space in an auction process. Upon winning an auction, the registrant obtained an exclusive right to the potential advertising space and immediately pre-loaded the identified advertiser’s ad to the publisher’s site. If a valid user reaches the stage in the publisher’s app where the potential advertising space is to be displayed, the pre-loaded ad is displayed in the advertising space on the publisher’s site and a revenue transaction occurs." (Griffin)
In this case, the registrant argued that it did not receive control of the advertising space before transferring it to the customer. Specifically, the registrant argued that it did not have the ability to direct the use of the advertising space to an ad other than the predetermined ad on which the bidding had taken place, particularly within the seconds between winning the auction and the time the ad was displayed. Further, the registrant was not responsible for fulfilling the advertising service provided by the platform, nor did the registrant carry any inventory risk. In this case, the registrant did have pricing discretion because it set the price paid by the advertiser and the publisher had no discretion in setting this price. Despite this pricing discretion (another indicator that control of the advertising space may have been transferred to the registrant before the customer), the registrant concluded that it was acting as the agent and not the principal because it was under no obligation to deliver the advertising space and the customer had no recourse against the registrant if the publishing platform failed to display the ad properly.
OCA did not object to the registrant’s conclusion that it was the agent in this transaction, even though the registrant obtained momentary title to the advertising space before transferring the space to the customer.
Kevin Cherrstrom: Identification of Performance Obligations
Kevin Cherrstrom discussed an example in which a data analytics platform provider had to determine whether a software license was distinct from promised updates to the software. He noted that software licenses can often be distinct from the related updates or services, and this conclusion could result in a very different pattern of revenue recognition. “Revenue from software and services that are one combined performance obligation would be recognized over time, while revenue from a software license that is distinct would be recognized when control of the software license transfers to the customer.”
With the data analytics platform in this scenario, customers rely on the software to aggregate their data and analyze it in real time. The software platform updates the data using both internal and external data sources that change in real-time and often require software updates to access the data. Furthermore, as the customer updates its own internal IT environment, the data analytics software must be updated or reconfigured to work with that environment. The registrant monitors the software for any necessary updates throughout the contract term.
Cherrstrom explained: “The frequency of the critical software updates varies depending on each customer’s unique IT environment, ranging from critical updates provided on a daily basis for customers with more dynamic IT systems, to critical updates every few months for customers with static IT environments. Regardless of the frequency of each customer’s critical updates, if they were not provided to the customer, the software would not be able to access and analyze the customer’s data” (Cherrstrom).
In this scenario, the license to access the data analytics platform would be worthless to a customer without the promised updates necessitated by changes in the customer’s IT structure or in third-party data providers. Given the highly interdependent nature of the software license and the promised updates, the registrant concluded that the software license was highly interdependent and interrelated with the software updates. As such, the license and the updates were treated as a single performance obligation. The OCA staff did not object to this treatment. To read more about software licenses and services, read Common ASC 606 Issues: Software Entities and Distinct Goods and Services in ASC 606.
The speeches from Jillian Pearce, Geoff Griffin, and Kevin Cherrstrom at the recent AICPA conference show that implementation of ASC 606—Revenue from Contracts with Customers is still a hot topic. Guidance regarding principal versus agent considerations and identification of performance obligations continues to require significant judgment. To learn more about these topics, read Principal versus Agent Considerations and Identifying Promised Goods & Services.
“Cherrstrom, Kevin.” U.S. Securities and Exchange Commission. “Remarks before the 2020 AICPA Conference on Current SEC and PCAOB Developments.” December 7, 2020.
Deloitte Accounting Research Tool. Heads Up. Volume 27, Issue 28. “Highlights of the 2020 AICPA Conference on Current SEC and PCAOB Developments—Hot Topics in a COVID-19 Environment.” December 13, 2020.
“Griffin, Geoff.”U.S. Securities and Exchange Commission. “Remarks before the 2020 AICPA Conference on Current SEC and PCAOB Developments.” December 7, 2020.
“Pearce, Jillian.”U.S. Securities and Exchange Commission. “Remarks before the 2020 AICPA Conference on Current SEC and PCAOB Developments.” December 7, 2020.