When Accounting Standard Codification 606 (ASC 606) was first announced in 2014, public companies that sell goods or services on a subscription basis and report to U.S. GAAP and IFRS standards had more than 40 months to switch over their revenue recognition processes. That window is closing as the new standards come into force at the end of December 2017. The main change is that companies providing services or goods by subscription, such as B2B software providers and B2C entertainment networks, can only recognize revenue once the customer assumes ownership of each element of goods or services.
By now, most companies have plans in place for the revenue reporting requirements that are the core of ASC 606. But there are plenty of other aspects of ASC 606 that need to be addressed—not least of these being the incremental cost of obtaining revenue. For many companies, the most important part of that cost is sales commissions.
How ASC 606 affects sales commissions
Costs that are incurred regardless of whether or not a new customer contract is won—such as basic salaries of sales people—can be recognized as an expense in the period in which they were incurred. But incremental costs, such as sales commissions, need to be capitalized and managed in a variety of ways, depending on what was sold. Sales commissions for the services element of a contract can be recognized as an expense in the period when the customer signs off on their delivery. However, sales commissions for services paid for by subscription need to be capitalized and amortized over the anticipated life of a customer contract, unless that contract is less than 12 months in length. What’s more, sales commissions paid for contract renewals or upgrades need to be capitalized and then amortized starting in the period when the contract was renewed, whereas commissions paid to sales managers based on team achievement (rather than linked to any single contract) can typically be expensed in the period they are incurred.
What this means for sales compensation and finance
Sales compensation teams may already be paying commissions for subscription-based services in a variety of ways; examples include upfront payments based on anticipated contract duration, monthly payments throughout the life of the contract, or a hybrid of the two. ASC 606 adds further complexities in that sales commissions for each element of a contract need to be treated differently, and the way they are reported differs by sales role (e.g., Sales VP vs. Account Executive).
As a result, sales compensation and finance teams need a complete line of sight between sales events (such as the booking and sign-off of each element of a contract and subsequent commission payments) and accounting events (such as when the resulting revenue can be recognized and how various sales commissions should be treated and reported). Using spreadsheets or legacy incentive compensation management solutions to provide that line of sight would be difficult enough in a small organization, particularly as the crediting complexity compounds. But once you factor in hundreds or thousands of sales personnel and a myriad of disparate contracts with varying inception dates, spreadsheets and legacy solutions can fail miserably.
Anaplan connects sales, sales compensation, and finance
Anaplan’s incentive compensation management solution satisfies the combined needs of finance, sales, and sales compensation teams with complete transparency into the detail of individual contracts that drive both revenue recognition and commission accruals. With easy-to-use connectors to replenish data from core CRM systems and output reports to payroll and accounting systems, it provides a robust solution that ensures accuracy and drives productivity.
In the next article in this series, we will look deeper into how Anaplan unifies sales and finance. Meanwhile, read our blog from May 2016 to learn more about how the changing revenue recognition standard may affect your business.