1
How the New Revenue Standards Affect the Film Industry
By
Alexis DeFreese
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
2
Under current standards the film industry has a different way of recognizing revenue than
any other industry. In fact almost every industry under the current standards has a different way
of recognizing revenue. To help unify the industries and make recognizing revenue more
uniform FASB has updated its standards. On May 28, 2014 FASB and IASB worked together to
finalize changes in the revenue recognition. Since these changes are extensive and change almost
the entire previous revenue standard, these changes will officially begin for public companies for
fiscal years starting on December 15, 2016 to give companies time to switch over. Private
companies are given until December 15, 2017. The new standard can be broken down into five
steps: identify contract with customer, identify obligations in the contract, determine transaction
price, allocate transaction price, and recognize revenue when the service is preformed or good is
delivered.1
Both FASB and IASB were not satisfied with their current standards for revenue
recognition. FASB’s GAAP had standards that were too broad so when it came to individual
industries they had to come up with industry-specific standards. This means that they had a
couple of universal concepts, but most industries treated revenue recognition differently from
one another. On the other hand IASB’s IFRS were too limited. They had two standards which
encompassed most of the revenue recognition, IAS 18 and IAS 11. These standards are difficult
to apply to complex transactions. With the new revenue recognition standard both FASB and
IASB wanted to clarify revenue recognition principles by “removing inconsistencies and
weaknesses in revenue requirements, providing a more robust framework for addressing revenue
issues, improving comparability of revenue recognition practices across entities, industries,
jurisdictions, and capital markets, providing more useful information to users of financial
statements through improved disclosure requirements, and simplifying the preparation of
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
3
financial statements by reducing the number of requirements to which an entity must refer.”3
They wanted this new standard to both be broad and specific, so every industry could follow it.
The film industry, along with every other industry, is going to have to change to the new
standards, but before we can understand the changes the film industry must go through, we first
have to look at the new standards. Let’s start with identify contract with customer, the first step
in the five step model. The new standard states that five criteria must be met before a contract
can be formed they are: parties must approve and commit to the contract, parties must know their
rights, parties must know the payment terms, it must have commercial substance, and it has to be
probable that the entity will collect payment and the customer will get the good or service
promised. If all five conditions are met then you have a contract.3 (Please note that nothing is
said about a contract having to be formal or in writing to count as a contract.) If they are not
meet then there is not contract and no possibility of recognizing the revenue from the contract.
Second to identify performance obligations in the contract there are a couple of things to
know, first we should define what a performance obligation is. FASB standard 606 defines a
performance obligation as a “promise in a contract with a customer to transfer a good or service
to the customer.” If the contract is for more than one good or service you will treat each
promised good or service as a performance obligation if it is distinct or a series of distinct goods
or services. A performance obligation can be distinct if the customer can benefit from the good
or service. If it is not distinct the good or service should be bundled with other goods and
services until they, as a group, become distinct.3 You must first find out if the performance
obligation is distinct or not to see if the revenue can be recognized by itself, or if you would have
to combine it with other performance obligation and recognized the revenue together.
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
4
The third step is to determine the transaction price. This is the amount an entity expects
to be compensated for transferring the promised goods or services to the customer. The entity
must consider five things. One is variable consideration, which should be in the transaction price
as an estimate of what the entity expects to receive. The second is a constraint on the estimate of
variable consideration which an entity should include. The entity should include some or all of
an estimate of variable consideration only if it is probable that a significant reversal in the
amount of cumulative revenue recognized will not occur. The third is the existence of a
significant financial component which should adjust any amount of consideration based on the
time value of money if this has a significant affect. When evaluating whether or not a contract
has a significant financing component the entity should determine if the entity expects that the
period between payment by the customer and transfer of the goods or services will by one year
or less. If it is within this time period then there is no need for the adjustment. Fourth are
noncash considerations which should be measured at its fair value if it can be reasonably
estimated. If it can’t be reasonably estimated it should be measured indirectly by referencing the
standalone selling price. The last condition is any obligation payable to the customer. If an entity
pays consideration to a customer in the form of cash items, such as a coupon or credit, the
customer could apply against amounts owed to the entity then the entity should account for the
payment as a reduction of the transaction price or as payment for a good or service. All five of
these things should go into determining the transaction price.3 This will eventually determine
how much revenue the entity will get.
Fourth, allocating the transaction price is for contracts with more than one performance
obligation. To allocate the transaction price the entity should allocate the price between the
different performance obligations based on the standalone prices. This means for each of the
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
5
performance obligations the entity must find the price of each good and service and assign it to
each of the good or service. If the standalone price is not available then the entity should use an
estimate. The amounts allocated should be recognized as revenue, or as a reduction of revenue,
in the period in which the transaction price changes.3
To recognize revenue when the entity satisfies a performance obligation is the last step in
the five step model. An entity satisfies a performance obligation by transferring a promised good
or service to a customer, i.e. the customer obtains ownership of the good or service. There are
two ways to do this; the first way is satisfy the performance obligation over time. This requires
that the customer can receive and consume the benefit at the same time, the entity’s performance
creates or enhances a customer’s asset, or the entity’s performance does not create an asset with
an alternative use to the entity, and the entity has the right to payment for performance
completed to date. The second way, if the performance obligation is not satisfied over time, it is
satisfied at a point in time. To determine the point in time there are five indicators; the entity has
the right to payment of the asset immediately, the customer has legal ownership of the asset, the
entity has transferred physical ownership of the asset to the customer, the customer has a
significant risk and/or reward of ownership of the asset, and the customer has accepted the asset.
If the entity satisfies the performance obligation over time then they should recognize revenue
over time, if circumstances change over time they should update its measure of progress to show
the performance completed to date. If the entity uses a point in time then the revenue that they
have earned at that point in time is the revenue they recognize.3
Now we have gone over all of the steps there are some additional subjects the new
standard addresses. The two more considerations are costs to obtain or fulfill a contract with a
customer and disclosures of contracts. We’ll start with the additional costs. This standard talks
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
6
about incremental costs and other costs. Incremental cost would not exist without the contract, so
they are cost of the contract itself. If the entity is expecting to recover these incremental costs
then expense it when incurred if the amortization period is one year or less. If an asset from the
incremental costs meet these three criteria: relate directly to a contract, create or improve
resources of the entity that will be used to satisfy a performance obligation, and if it is expected
to be recovered, then you recognize the asset.3
The last thing the standards change is disclosures about contracts. An entity must disclose
their contracts with customers. This includes revenue and impairments recognized
disaggregation of revenue, and information about contract balances and performance obligations.
Another thing entities must recognize is significant judgments and changes in judgments. This
includes determining the timing of satisfaction of performance obligations, determining the
transaction price and amounts allocated to performance obligations, and assets recognized from
the costs to obtain or fulfill a contract.3 All of these things must now be included in the
disclosure notes of the financial statements.
Now let’s take a look how the film industry has been recognizing revenue. If it is
licensing or selling the arrangements of a film the following criteria must be met; significant
evidence of the sale of the licensing arrangement with a customer must exist, the film must be
complete and in agreement with the terms of the arrangement, the film has been delivered or
available for immediate delivery to customer, the license period has begun and the customer can
exploit, show, or sell the film, the arrangement fee is fixed and determinable, and collection is
reasonably assured. If not all of the criteria are met, then the entity must defer revenue until the
criteria are met.2
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
7
There are also some specifics cases when the six criteria might not be enough to cover the
situation. All of the specifics still must meet the six criteria as well as their own guidelines. The
first example is when a licensing arrangement is covered for a single film. In this instance if the
entity gets a flat fee and it is considered fixed and determinable then the entity should recognize
the entire amount of the license fee as revenue. If the entity arrangement fee is based on a
percentage or share of a customer’s revenue from the exhibition or other exploitation of a film
they should recognize the revenue as the customer exhibits or exploits the film. If the licensing
arrangements provide for variable fees the amount of the nonrefundable minimum guarantee is
considered fixed and determinable, then the entity should recognize the minimum guarantee as
revenue. If the nonrefundable minimum guarantee is applied against variable fees from a group
of films then the amount of minimum guarantee applicable to each film can’t be determined. The
entity should recognize revenue as the customer shows or exploits the film. If some of the
nonrefundable minimum guarantee remains after the license period then the entity should
recognize the remaining guarantee as revenue by allocating it to the individual films based on the
relative performance.2
The costs of producing a film and bringing that film to market consist of film costs,
participation costs, exploitation costs, and manufacturing costs. An entity should amortize film
costs and accrue participation costs using the individual-film-forecast-computation method,
which amortizes or accrues the costs at a ratio that is actual revenue compared to estimated
remaining unrecognized revenue as of the beginning of the current fiscal year. An entity should
begin amortizing the capitalized film costs and accruing participation costs when a film is
released and begins to recognize revenue. If there are circumstances that indicates that an entity
should judge whether or not the fair value of the film is less than its unamortized film costs, then
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
8
the entity should determine the fair value and write off the amount of unamortized capitalized
costs that exceeds the films fair value. The entity should never restore any amounts written off in
the previous fiscal years.2
The film industry is going to have to change from the current standards to the new
standards. This might be a big change now, but switching to the new standards will help simplify
revenue recognition in the future. The new standards emphasize whether to consider a license as
distinct from any other performance obligations. The license is distinct if a customer can benefit
from it and the license is separable from other obligations. If it is not distinct then revenue is
recorded based upon the transfer of the combined performance obligation. Entities must
determine if the performance obligation is distinct or not before deciding if it is a point in time or
an overtime performance obligation. If there are multiple performance obligations in the new
contract you must separate the ones that are distinct. It is distinct if the customer can benefit from
it. In the current standards you just had to identify the “deliverables” and account based on the
standalone price. The two standards are also different when it comes to what to allocate. Under
the new standards you should allocate based on the standalone price to each of their respective
performance obligations, while under the old standards the entity would allocate the separate
units of account based on relative selling price. This means that some of the performance
obligations might need to be accounted for differently than what they are now. Allocating the
transaction price is also a little different in the new standards. In the current standards you would
defer revenue that is contingent of future “deliverables,” this means you would not allocate the
revenue to free or discounted products or services that are provided in a contract. Under the new
standard the transaction price for the entire arrangement will be allocated based upon relative
standalone price. Under the current standards variable consideration is only recognized if the
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
9
amount is fixed, determinable, and collection is reasonably assured. While under the new
standards it should be estimated and included in the transaction price if it is probable and a
significant reversal in cumulative amount of revenue recognized will not occur if estimates of
variable consideration change.5 The new standards also eliminate all of the specific guidelines
that the current standard sets into place.
These new standards are supposed to help create a universal way to account for revenue
recognition across all industries. The film industry has a lot of specific standards about revenue
recognition. Although, there are a lot of changes that the film industry is going to have to do over
the next year or two, the new standards make it easier to understand how to recognize revenue,
and make it consistent with other industries. With revenue recognition becoming universal, the
people who rely most on them will be able to look across industries and compare them. Before
this was impossible because with old standards revenue recognition differed from industry to
industry, but now it will be consistent and comparable.
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)
10
Bibliography
1) 2014, July. Financial Reporting Brief: Roadmap to Understanding the New Revenue
Recognition Standards (n.d.): n. pag. FRC Brief Revenue Recognition. Financial
Reporting Center AICPA, July 2014. Web. 18 Oct. 2014.
<http://www.aicpa.org/InterestAreas/FRC/AccountingFinancialReporting/RevenueRe
cognition/DownloadableDocuments/FRC_Brief_Revenue_Recognition.pdf>
2) "Restraint of Trade. State Antitrust Legislation. Statute Prohibiting Ownership of
Theatres by Producers or Distributors." Harvard Law Review 52.1 (1938): 171-72.
Revenue from Contracts with Customers. FASB, May 2014. Web. 18 Oct. 2014.
<http://www.fasb.org/resources/ccurl/85/115/SOP%2000-2.pdf>
3) Booth, Emily L. (n.d.): n. pag. Revenue from Contracts with Customers. FASB, May
2014. Web. 18 Oct. 2014. <https://asc.fasb.org/imageRoot/00/51801400.pdf>.
4) Swartz, Bud, Brandon Heiman, Denise Crayne, Bob Barrett, and Sam Tomlinson.
Revenue from Contracts with Customers. London: IASCF, 2010. Revenue from
Contracts with Customers. PWC, June 2014. Web. 18 Oct. 2014.
<http://www.pwc.com/en_US/us/cfodirect/assets/pdf/in-depth/2014-01-revenuerecognition-em-supplement.pdf>
1 From the AICPA new standards (source 1)
2 From FASB Standard 606 change (source 2)
3 From FASB Standard 606 change (source 3)
4 From the PWC film industry (source 4)