Industry-Specific Issues

Common ASC 606 Issues: Retail Entities

Implementing ASC 606 requires a substantial amount of time and expertise, with specific challenges rising in each industry. Gain a deeper understanding of the key issues that the retail and consumer products industry faces in the transition to ASC 606.

Dec 18, 2017
Apr 18, 2024

Within the retail and consumer products industry, the common practice of using sales incentives and loyalty programs, warranties, and licensing and franchise arrangements should be analyzed for potential impact on the timing and extent of revenue to be recognized. The AICPA and the major accounting firms have assembled industry task forces to research the industry-specific accounting issues with ASC 606, and we will draw from the guides they have published to give you an idea of some of the issues you should expect. For more information on any of these issues, see:

We will also provide references to other RevenueHub articles for more detailed explanations of ASC 606 topics. See our RevenueHub article, The Five-Step Method, for more general information.

The following are the issues that companies in the retail industry commonly face:

1. Rights of return (variable consideration)

According to the PwC industry guidance, although rights of return are common in the retail and consumer industry (e.g., stock rotation and returns upon termination of contract), the new revenue recognition standard will likely not have a significant impact on this element of most retail entities’ accounting. Under ASC 606, entities must estimate the impact of potential returns using either a probability-weighted approach or the most-likely outcome. The amount an entity expects to be returned will be initially reflected through the creation of a return's liability type account. The entity will also record (1) an asset for the goods expected to be received from the customer, and (2) a corresponding adjustment to the cost of sales account as the refund liability is settled. Entities should use the variable consideration guidance to determine the extent of revenue to be recognized.

Although this variable consideration can be allocated on an individual-contract level, it may also be allocated using the portfolio method (i.e., allocating based on groups of similar contracts). Historical data is needed to reasonably and reliably estimate the amount of refund liability to be recognized under the portfolio approach. For more information on the portfolio approach, please see our article, Contract v. Portfolio Method.

Related RevenueHub Articles:

2. Customer options for goods or services (including loyalty programs)

If the option to receive additional goods or services constitutes a material right, then the entity should record the option as a separate performance obligation within the contract. In accordance with the PwC industry guidance regarding loyalty programs, the customer is paying for future goods and services that will be received in exchange for earned reward credits. Consistent with the five-step recognition model of ASC 606, the entity must develop a standalone selling price for the loyalty program, then allocate a portion of the overall contract transaction price to the loyalty program based on the relative standalone selling price. The entity recognizes revenue when the option is exercised or expires.

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3. Reseller and distributor arrangements

Under ASC 606, control is the key element in determining when to recognize revenue in reseller and distributor arrangements. To determine when control is transferred, the entity must first evaluate whether the contract is a consignment arrangement. In a consignment arrangement, the reseller functions as an intermediary, so control is not effectively transferred until the product is sold to the end customer. If the contract is not deemed to be a consignment arrangement, the reseller is considered the end customer, and control is transferred upon delivery. Further, the extent of revenue to be recognized is contingent upon the amount the entity reasonably estimates entitlement to, considering the constraint on variable consideration. Therefore, an entity may be able to recognize revenue earlier if it is probable that at least part of the amount to be recognized will not be subject to a significant reversal.

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Bel (SEC Correspondence May 2020): Consignment Contracts

Bel manufactures products that “power, protect, and connect electronic circuits” and sells to a variety of consumers. In a comment letter issued to them in May of 2020, the SEC requested that Bel explain their reasoning behind designating some of their contracts with customers as “consignment” contracts using ASC 606-10-55-79 and 80. To Bel, these contracts originally seemed to be on consignment, just because they would ship goods to “customer-designated hubs” where the customer would acquire their purchase at a later time. In response to the letter, Bel noted they had mislabeled these contracts and used three indicators of consignment arrangements in ASC 606-10-55-80 in their evaluation. Since the indicators in total demonstrate that those transactions would not be labelled as consignment, the control of the goods effectively transfer as specified in the contract’s shipping terms, meaning, Bel can recognize their revenue before the customer even picks up the items.

4. Licenses and franchise arrangements

Licenses and franchise arrangements are typical in the retail and consumer industry because most products have a licensed image or name—for instance, a license or franchise agreement exists when a retailer has contracted to use another entity’s brand or logo either on or as a part of its products. License arrangements are transfers of rights either at a point in time (obligation to provide a future right) or over a period time (access to an entity’s intellectual property). PwC industry guidance indicates that the entity must determine whether the license provides a right to access or a right to use an entity’s intellectual property (IP).

With a right to access, the IP is subject to change by the licensor. That is, the licensor’s activities can change the form or functionality of the IP, or the licensee’s ability to derive benefit from the IP is impacted by those same activities. So, at the initial transfer, the licensee neither obtains substantially all the benefits that will ultimately be available nor directs the use of said benefits. Thus, with licenses that provide a right to access IP, revenue is recognized over time. In contrast, with a right to use, the IP received by the customer at the initial transfer is not subject to change by the licensor throughout the licensing agreement. With a right to use, revenue is recognized upfront upon delivery.

In ASC 606-10-55-59, the Codification distinguishes between the two types of IP: functional intellectual property (e.g., completed media content, drug formulas or compounds, software, etc.) and symbolic intellectual property (e.g., franchise rights, brands, logos, etc.). In general, retail-company contracts will concern symbolic IP. Symbolic IP does not have significant standalone value, so it therefore provides a right to access rather than a right to use. For a more in-depth explanation on the nuances of both functional and symbolic IP, please see our article, Licenses for Intellectual Property.

The entity must also analyze the arrangement for the possibility of a variable consideration component (especially regarding royalty revenues) to determine the overall transaction price, as well as to distinguish between the distinct performance obligations within the contract. For more information on variable consideration in this context, please see our article, Sales- and Usage-Based Royalties.

W.R. Grace and Company (SEC Correspondence Aug. 2018): Functional or Symbolic Licenses

W.R. Grace and Company is a chemical and material manufacturing company. A letter from the SEC, asks W. R. Grace if their “licenses are functional or symbolic” and to explain their reasoning based on ASC 606-10-55-59 (2018 Letter). Grace explains that the technology licenses are functional because “the license enables the licensee to design or have designed, construct or have constructed, and maintain the polypropylene manufacturing reactor unit; make licensed polypropylene resins up to a certain capacity; and use and sell the licensed polypropylene resins manufactured in the newly constructed polypropylene manufacturing reactor unit.” Because of these reasons, Grace has enough evidence to support that this technology “has significant standalone functionality” and as such is functional intellectual property. (ASC 606-10-55-59).

5. Amounts collected on behalf of third parties

In many retail and consumer transactions, the entity acts as an agent to a third-party, like the U.S. Federal and State Governments, by collecting and subsequently remitting amounts from the customers, such as sales taxes. However, some arrangements involve more than two parties (in addition to a governmental entity), so the entity must assess whether its role is that of the principal or that of an agent in the context of each contract.

Under ASC 606, revenue is recognized on a gross basis if the entity is acting as the principal, and on a net basis if the entity is acting as an agent. The key distinction between the role of the principal and that of the agent under this standard is control. If the entity obtains control of the goods or services prior to transferring them to the customer, then it is the principal. If the entity’s performance objective is the arranging, but not controlling, of a third party to provide the goods or services, then it is an agent. PwC industry guidance offers several indicators that the entity is likely an agent, including:

  • The other party has primary responsibility for fulfillment of the contract
  • The entity does not have inventory risk
  • The entity does not have discretion in establishing prices
  • The entity does not have customer credit risk
  • The entity’s consideration is in the form of a commission

Also under ASC 606, sales and excise taxes—and any other amounts collected on behalf of third parties—are not included in the transaction price. (The former standard’s policy election option has been eliminated.) However, the name of the tax is not always indicative of whether the entity is the principal or agent for the tax. PwC suggests that management carefully evaluate the characteristics of both the tax and the associated laws in determining whether the tax should be included in the transaction price.

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It is likely that many other issues and questions will arise within the retail and consumer industry as entities transition to the new revenue recognition standard—ASC 606. This article serves as a base reference point for your research into some of the focal issues anticipated by industry experts. Similar industry-specific issues discussions and resources are available on the RevenueHub site for all major industries as identified by the AICPA. Click on the following link for a list of these articles: Industry-Specific Issues.