accounting & REPORTING
revenue and interest expense, this also results in an artificial
increase to Earnings Before Interest, Taxes, Depreciation,
and Amortization (EBITDA).
The revised exposure draft does provide guidance around
how the time value of money concept should be applied;
however, as written, it is possible that two prudent business
professionals presented with the same set of facts could
reach differing conclusions.
The revised exposure draft also contains a safe harbor exemption from the time value of money concept for contracts
expected to be completed and paid for within one year.
While the concepts presented in this section of the revised
exposure draft can lead to accounting inconsistent with the
economics of the transaction, a complete repeal is not likely
when considering the implication on other industries.
Accordingly, in CFMA’s response letter, we advocated for
broadening the safe harbor exemption to extend to the
entity’s normal operating cycle. By default, this broadening
of the exemption would exclude most typical construction
contracts – including those that extend beyond one year.
We also advocated for a clarification of the proposed rules
in asking the Boards to make it clear that the time value of
money should be applied to the overall net contract position,
since at any point in time a single contract can have such
assets and liabilities on the balance sheet as a contract liability, A/R, retention receivable, A/P, and retention payable (to
subcontractors) and uninstalled materials.
Trying to measure each or any of these components on its
own could lead to a tremendous administrative exercise for
arguably little benefit. Alternatively, by netting these various positions, it is anticipated that many would fall below a
materiality threshold for further consideration.
Onerous Performance Obligations
Most will recall that an onerous performance obligation is
synonymous with a loss contract. The revised exposure
draft requires that onerous performance obligations on contracts with an expected duration of greater than one year
be accrued when identified, much like what exists in today’s
However, because the revised exposure draft expressly ad-
dresses contracts greater than one year in expected duration,
many would argue that it expressly precludes the same treat-
ment for a contract with an expected duration of less than one
year. This would mean that contracts with an initial expected
duration of 11 months would not accrue losses if and when
they are identified.
Because this differs from current practice and leads to what
is believed to be weaker accounting, CFMA advocated for
an application of these rules to all contracts regardless of
Interrelationship of Certain Provisions
The revised exposure draft contains a two-tiered approach
to revenue recognition, whereby a more inclusive contract
price is first established and then, as previously indicated in
the section on contract modifications, is constrained or limited to the amount that it is reasonably assured to be received.
In most situations, the distinction between the more inclusive
contract price and the more restrictive “reasonably assured”
revenue to recognize will not be meaningful. However, in
some situations it could result in a very meaningful difference.
Consider the situation where a contract has gone awry and
is now projecting a loss, which in turn triggers a claim. The
more inclusive contract price could arguably include the
claim revenue (even if it isn’t currently recognized under the
reasonably assured constraint).
The onerous performance obligation test is applied against
the more inclusive contract price concept, so in this situation, the loss recognition on the contract could be deferred
pending resolution of the claim. Assuming the claim amount
is the amount needed to bring the contract back to break-even, this has the same accounting effect as permitting the
claim revenue to be recognized.
So, even though the Boards introduced the reasonably
assured constraint to help eliminate the risk of overstatement
of recognized revenues, they “left the back door open” in
situations like the one described above. Similarly, the interrelationship between the time value of money and the onerous
performance obligations concepts, under certain unique
circumstances, could result in an accounting treatment that
differs from the economics of the contract.
Timing of Project Completion
Recently, the Boards have been conducting outreach efforts
to gather additional feedback to supplement comment letters,