With the growth of digital marketing, cooperative advertising arrangements are becoming increasingly common. Because many of these arrangements result from consideration paid to a customer, entities have questioned how the distinct good or service guidance in ASC 606 should apply to digital marketing services. This article reviews the distinct good or service guidance and provides questions that can help entities decide whether a digital marketing service is distinct in the context of a cooperative advertising arrangement in which consideration is paid to a customer.
Cooperative advertising arrangements in which consideration is paid to a customer may take many forms. For example, a manufacturing entity may reimburse an online retailer (i.e., the customer) for costs incurred by the retailer to sponsor the manufacturer’s products on Amazon. Alternatively, a manufacturing entity may share in the costs incurred by the retailer’s marketing division in creating banner advertisements for the retailer’s website.
In such arrangements, the entity must determine whether consideration payable to a customer results in a distinct good or service, because the classification affects the amount of revenue the entity can recognize. For example, if a digital marketing service is distinct, payment is accounted for in the same way as other purchases from suppliers (e.g., an expense). If the service is not distinct, the payment is a reduction of the transaction price. However, there are two exceptions to these general rules: (1) if payment exceeds fair value, the excess is a reduction of revenue; and (2) if the fair value of the good or service cannot be estimated, the entire amount is a reduction of revenue. For more information on this subject, refer to the RevenueHub article Consideration Payable to a Customer.
For a digital marketing service to be distinct when provided by the customer to the seller, the service must meet the two criteria found in Accounting Standards Codification (ASC) 606-10-25-19:
- The marketing service provides a benefit to the seller either on its own or together with other resources that the seller has readily available.
- The customer’s promise to provide digital marketing services is separately identifiable from other promises the customer may make to the seller in the contract.
There is no implementation guidance in ASC 606 that applies directly to digital marketing; however, KPMG offers the following insight related to traditional advertising services:
[I]f a retailer provided advertising in an in-store circular (i.e. not circulated outside of the store), the advertising services generally would not be distinct…because the products would not be displayed in a circular unless the products are also sold by the retailer. However, there may be situations in which the advertising is widely distributed outside of the retailer’s location (e.g. an advertisement in a newspaper, television or radio) and therefore might be a distinct service provided by the retailer.
This insight illustrates how the distinct good or service guidance applies to advertising by pointing out the importance of the advertisement’s reach. The questions in the following section incorporate this observation and apply the distinct good or service guidance to digital marketing.
Distinct or Not Distinct?
The questions stated below serve as a guide in determining whether digital marketing, when paid for by reimbursing a customer, qualifies as a distinct service. For our purposes, assume that a manufacturer is reimbursing an e-retailer customer for digital marketing related to one of the manufacturer’s products. These questions should not be taken as determinative, and an entity should consider all the facts and circumstances of its cooperative advertising arrangement when applying the distinct good or service guidance.
- Is the advertising internal or external to the e-retailer’s website? Internal advertising—such as a banner advertisement that is only displayed on the e-retailer’s site—is likely not distinct because a potential buyer would have to navigate to the e-retailer’s site to see that advertisement. Therefore, any benefit to the manufacturer is dependent on the e-retailer’s efforts in maintaining its site. In contrast, external advertising of the manufacture’s product, such as a social media advertisement, is more likely to be a distinct marketing service because the manufacturer gains significant benefit independent of the e-retailer (i.e., the advertisement is widely viewed by potential customers without them accessing the e-retailer’s site).
- Would the e-retailer be willing to purchase the manufacturer’s product without the cooperative advertising agreement? If not, the service is likely not distinct because the product and advertising are being sold as a bundle. For example, if a manufacturer does not wish to share in the e-retailer’s online marketing costs, but the e-retailer refuses to purchase the manufacturer’s product unless the manufacturer agrees to the cost-sharing terms, the e-retailer’s promise to purchase the manufacturer’s product is not separately identifiable from the e-retailer’s promise to provide marketing services. This may be because online marketing is vital to the e-retailer’s success, and the cost-sharing agreement is the only way the e-retailer can financially sustain its operations.
- Is payment to the e-retailer designated for a specific advertising service or is it a general reimbursement? A distinct service must be identifiable; therefore, if the manufacturer regularly reimburses a fixed amount for general advertising, the service is likely not distinct. If the manufacturer reimburses for each digital marketing service, the services are more likely to be distinct.
- Can the manufacturer purchase comparable advertising through a third-party? If so, the service is more likely to be distinct. For example, assume the e-retailer purchases Google SEO services to promote the manufacturer’s product. The manufacturer could also purchase Google SEO services to promote its own product, which suggests that this service is more likely to be distinct.
Although these questions do not provide a definitive answer to whether a digital marketing service is distinct, they do provide evidence that can aid entities in reaching a conclusion.
In the new standard, the FASB wished to prevent entities from grossing up revenue by including amounts in revenue for which a customer expects to be reimbursed. Therefore, the standard requires entities to reduce revenue by any consideration payable to a customer unless the consideration is for a distinct good or service. If the consideration exceeds fair value, the excess is a reduction of revenue; if the fair value of the service cannot be estimated, the entire amount is a reduction of revenue. When the service provided by the customer includes digital marketing in a cooperative advertising arrangement, significant judgment is required to determine whether the service is distinct. Entities should consider all aspects of the digital marketing service to ensure that it is both capable of being distinct and separately identifiable. Furthermore, if the service is distinct, entities should evaluate whether the amount being paid accurately reflects the fair value of the service.
- Deloitte, “A Roadmap to Applying the New Revenue Recognition Standard.” Section 6.5.2 “Applying the Guidance to Consideration Payable to a Customer.” July 2019.
- PwC, “Revenue from contracts with customers.” Section 4.6 “Consideration Payable to a Customer.” September 2018.
- KPMG, Handbook: “Revenue recognition.” Section 5.7 “Consideration payable to a customer.” November 2018