Basic Project Scenario
SAP is introducing enhancements to SAP Business ByDesign to allow customers to comply with Accounting Standard IFRS 15/ASC 606 Revenue recognitions Requirements. The series of case documents introduces the key requirements of IFRS 15 /ASC 606 along with steps to be taken by the client to implement the new functionality.
The following topics will be outlined in this case document:
- Sales orders and performance obligations with projects
- Manual adjustment of standalone selling price
- When to realize and accrual methods
- Fixed price items / time and material Items
- Handling of Write-Offs (e.g. hrs not to be invoiced)
Note: SAP Business ByDesign cannot give legal advice nor can we assess the future best practices of how the professional services industry or customer projects taking IFRS 15/ASC 606 regulations into account are to be handled. The project related case documents reflect the typical project sales business process that customers currently follow in SAP Business ByDesign. It then outlines conceptually how the SAP Business ByDesign enhancements can support existing and future customers to comply to the standard in project sales scenarios.
Note: In this document, we will not cover SAP Business ByDesign generic capabilities how the customer projects are handled in detail. In general, with customer projects two related object types are used. The sales orders reflect the commercial terms, the invoicing schedules, the accrual methods, etc. of a project and the assigned project(s) represent the fulfillment part with resources, time confirmations, task structures. In this use case, IFRS 15/ASC 606 requirements are handled by sales orders. Therefore, the relationship and role of the fulfilling project is not highlighted.
Business scenario – introduction
Media Productions Limited has decided to build a new printing facility in the Mid Region. Media Productions has contracted with Printing Solution Corp to prepare the construction plans for the new printing facility. Printing Solution Corp offers a project covering:
- Concept definition and requirement clarification based on printing facility output criteria
- machine park layout
- go-live support
The two parties have agreed to the following price and invoicing terms:
- Concept Definition / Requirement Clarification
80 hrs at 150,00 USD/hrs = 12.000,00 USD (25 % discount on regular price 200,00 USD)
Fixed priced item with invoicing at milestone achievements of
- Pre-clarification 20%,
- Rough Concept 40%,
- Final Concept 40%.
- Provide detailed machine park layout
40 hrs at 400,00 USD/hrs = 16.000,00 USD (0% discount on regular price 400,00 USD),
fixed priced item with invoicing at delivery of machine facility layout document.
- Go-live support
100 hrs at 75,00 USD/hrs = 7.500,00 USD (25% discount on regular price 100,- USD),
time and material based item
Provide 24hrs/7 Days telephone expert support during defined go-live period of 3 months minimum 75 hrs , max 150 hrs, invoicing monthly based on time confirmations.
Printing Solutions Corp will need to assess the following five key concepts of IFRS 15/ASC 606 to ensure compliance:
- Identification of a contract
- Identification of performance obligations (POB)
- Determine the transaction price
- Allocate the transaction price to the performance obligations by usage of fair values as basis for revenue allocation
- Recognize revenue when or as entity satisfies performance obligations.
Below is the assessment Printing Solution Corp has made:
A single sales order with assigned customer project is created. It represents the revenue accounting contract. The concept, machine park layout and go-live support represent 3 performance obligations thus have to be represented by individual sales order items. The transaction prices are represented by the sales order list prices and granted discounts. As allocation basis, the SSPs can be derived from the regular list prices for the engineering consulting service regular rate and hot-line support for go-live regular rate. The standalone selling price (SSP) for the concept item needs to be calculated outside the system and manually adjusted in SAP Business ByDesign by the financial accountant responsible for the project. Finally following accrual methods have been assigned by Printing Solution Corp to the sales order items to clarify when and which portion can be realized:
- Concept: Manual Amounts, sales order Item type: Fixed Price
- Machine Park Layout: At completion, Sales order item type: Fixed Price
- Go-Live Support: At Invoice; Sales order Item type: Time & Material
Note: Customers can label performance obligations as well is the revenue accounting contract itself with meaningful text during sales order creation. This makes the identification of specific revenue accounting contracts or performance obligations easier in SAP Business ByDesign. By default, the labels are not populated.
Manual change of standalone selling price
Changing a standalone selling price is only possible in a work center that should be assigned to financial accountants. In SAP Business ByDesign the concerns of the sales representative and a financial accountant are separated. Activities like changing accrual methods, applying manual accruals or manually changed basis of accruals are enhanced by the capability to change the standalone selling price. The manually changed standalone selling price always precedes the derived value in the sales order.
According to price list derivation following standalone selling prices are submitted to the revenue accounting contract by the sales order.
In the image below the financial accountant has changed the standalone selling price for sales order item 27-10 Proj: Concept
It was based on the assessment and internal side calculation that different experts will need to be involved in the concept phase. It uses a times x cost rate x margin approach to determine a standalone selling price for the concept item.
Assigned accrual methods
The illustration below shows in a simplified model the accrual method assignments by sales order item and POB. The accrual method assignment determines when and which portion of revenue is to be realized.
Background: SAP Business ByDesign reuses its established set of accrual methods in the customer project scenario. The illustrations below show the supported combinations.
Remark: ‘Recognize at completed contract’ recognizes revenue and cost of goods sold if both conditions are fulfilled: the sales order item is finally invoiced and the assigned project task/phase is set to completed.
Note: Please read last paragraph about limitations in initial scope of IFRS 15/ASC 606 enhancements.
Time and material item:
Revenue accounting contract after inception
After the sales order and the associated revenue accounting contract has been created, the standalone selling price of item 27-10 having been manually changed, and the individual performance obligation of every sales order item has been determined, the revenue recognition contract reveals following status:
Simplified posting example
A simplified view of the assignments of the sales order item to project phase or project task is shown below. In this simplified example the project nearly mirrors the sales order.
Note: Simplification for better understandability:
In general, time confirmations, supplier invoices, travel and expense are recorded against the project tasks/phases. By standard means of SAP Business ByDesign the ‘not invoiced items’ are collected and thereafter mapped from project tasks to sales order items. In the upcoming description of a simplified business process example, time recordings and expenses are directly assigned to the sales order item for simplification reasons.
Overview of business process steps
- Step 1 / period 1: Pre-clarification and rough concept have been finished and invoiced
- Step 2 / period 1: Manual POC is set to 60% for concept
- Step 3 / period 1: Revenue recognition
- Step 4 / period 2: Detailed concept is finalized and invoiced
- Step 5 / period 2: 80% of effort for machine park layout done
- Step 6 / period 2: Manual POC is set to 100% for concept
- Step 7 / period 2: Revenue recognition
- Step 8 / period 3: Machine park layout handed over, 40% more time spent than planned
- Step 9 / period 3: Machine park layout is invoiced
- Step 10 / period 3: Revenue recognition
- Step 11 / period 10: Go-live support with 40 hrs incurred
- Step 12 / period 10: Invoice go-live support 40 hrs
- Step 13 / period 10: Revenue recognition
- Step 14 / period 11: Go-live support 85 hrs incurred – exceeding ordered quantity
- Step 15 / period 11: Go-live support final invoice 60 hrs / 15 hrs write-off
- Step 16 / period 11: Revenue recognition – final accrual
Step 1 / period 1: Pre-clarification and the rough concept have been finished and invoiced
Time recordings for the respective concept project tasks have been made. The financial accountant has been informed by the project lead that concept pre-clarification and rough concept have been completed and invoiced. Based on the agreements the recorded hours are invoiced.
The cumulated time confirmation adds up to 60 hrs for the concept related tasks. Deferred Sales, Deferred Discounts and Deferred Cost are affected by these transactions. The postings are shown below.
Time recording: The recorded hours x cost rate are calculated and deferred cost are posted to the sales order item
The simplified journal entries are shown below.
Invoice: The recorded 60 hrs are fully invoiced.
The related simplified journal entry is shown below.
Step 2 / period 1: Manual POC is set to 60% for concept
Based on the update the financial accountant received from the project lead as part of closing preparation activities he updates for period 1 and sales order item 27-10 Concept the Manual POC value to 60%.
Step 3 / period 1: Revenue recognition
The revenue recognition in period 1 is run. The revenue recognition status is shown below.
The manually set POC=60% for sales order item 27-10 Concept is used as progress for the performance obligation 583-10 ‘Concept’. The resulting postings are shown below.
How does the system realize cost of goods sold with manual POC accrual method?
- On sales order item, it is assumed that the price condition ‘cost estimate’ is maintained.
- The system calculates POC x ‘cost estimate’ and realizes this amount.
In this simplified example following cost estimates have been maintained and thus the COGS results as 10.000,00 USD x 60% = 6.000,00 USD COGS.
Step 4 / period 2: Detailed concept is finalized and invoiced
In period 2 additional 15 hrs based on time recording have been recorded against the concept related project tasks. The tasks have been set to completed. The project lead has issued the final invoice for concept with the remaining 20 hrs that were agreed as basis for the fixed price and informs the financial accountant that sales order item 27-10 is completed.
The resulting simplified journal entry is shown below.
The resulting simplified journal entry has following lines:
Step 5 / period 2: 80% of effort for Machine Park Layout done
After the detailed concept has been approved by the customer Media Productions Limited, the engineering consulting starts working on the machine layout and records their time against the project phase/task for machine layout. The project lead does not invoice the sales item 27-20 Detailed Machine Layout because the document has not been delivered to the customer Media Productions Limited yet. The 32 hrs time confirmations lead to following simplified postings.
The resulting simplified journal entries show:
Step 6 / period 2: Manual POC is set to 100% for concept
As part of closing preparation activities, the financial accountant updates in period 2 the manually set POC for sales order item 27-10 concept to 100%.
Step 7 / period 2 Revenue recognition
The revenue recognition in period 2 is run. The revenue recognition status is shown below.
The manually set POC=100% for sales order item 27-10 Concept is used as progress for the performance obligation 583-10 Concept. The remaining 40% of revenues and discounts are realized. The contract liability reduced. The remaining 40% are realized and deferred / accrued costs reset.
The accrual method for sales order item 27-20 Detailed Machine Layout shows a progress of 0% since the criteria for accrual method ‘Recognize at contract completed’ are not fulfilled.
The resulting postings are shown below.
Step 8 / period: 3 Machine Park Layout handed over, 40% more time spent than planned
The engineering consultant faced unexpected challenges. He completed the detailed machine layout document on time, but the time spent exceeded the planned hours by 40%. On top of the already recorded 32 hrs additional 24 hrs have been recorded in period 3 against the respective project phase/task.
The postings are shown below.
Step 9 / period 3: Machine Park Layout is invoiced
Immediately after the successful handover of the detailed machine layout to the customer the project lead sets the project phase to completed and issues a final invoice for sales order item 27-20 machine park layout.
The postings are shown below.
After the machine park layout document has been handed over to the customer, Media Productions Ltd starts building the new printing facility. The construction and delivery of the ordered machine parks spans periods 4-9. Activities at Printing Solutions Corp referring the project are on hold.
Step 10 / period 3: Revenue recognition
The revenue recognition run is performed. The basis for revenue recognition is shown below.
The criteria for item 27-20 Detailed Machine Layout are fulfilled and therefore the progress determined to be 100%. The Earned Values are calculated accordingly. The resulting postings are shown below.
Step 11 / period 10: Go-Live Support with 40 hrs started
The new facility has been built and the machines were delivered. As agreed the customer Media Productions Limited starts to utilize the Go-Live support to clarify details or small changes during the initial phase. In period 10 the support team of Printing Solution Corp records 40 hrs against the respective project task.
The simplified postings are shown below.
Step 12 / period 10: Invoice Go-Live Support
Invoice: In period 10 the project lead invoices all 40 hrs.
The resulting posting is shown below.
Step 13 / period 10: Revenue recognition
The revenue recognition basis is shown below.
40 hrs of the 100hrs ordered have been invoiced, thus the progress is calculated to be 40% . The allocated amount x progress shown for item 27-30 results in earned net revenue 3.667,71 USD. Since only 3.000,00 USD have been invoiced, this item adds a negative contract liability. Since the overall contract showed a contract liability, this transaction will reduce the overall contract liability.
The resulting postings are depicted here.
Note: The cost of goods sold realization calculation for time and material use cases in SAP Business ByDesign will be dealt with in a separate document.
Step 14 / period 11 Go-Live Support 85 hrs – exceeding ordered quantity
In period 11 additional 85 hrs have been recorded by the support team. The order quantity = 100 hrs has now in total 40 hrs + 85 hrs = 125 hrs exceeded by 25 hrs.
The Go-Live has been successfully completed and the project lead negotiates with the customer how to deal with the additional effort. It is agreed that 60 hrs are to be charged and 15 hrs are to be dealt with as write-off. The time confirmations lead to following simplified postings.
Step 15 / period 11 Go-Live support final invoice 60 hrs / 15 hrs write-off
In preparation to close the project the project lead completes the project phases/tasks. In addition, he reviews the ‘to be invoiced hrs and materials’ and splits the recorded 85 hrs into 60 hrs to be invoiced and 15 hrs as write-off. The final invoice is issued in period 11.
The final invoice creates following simplified posting:
Step 16 / period 11: Revenue recognition – final accrual
In period 11 the revenue recognition is executed. The revenue accounting contract represents now following basis for revenue recognition.
Now all POBs and underlying items are 100% fulfilled and finally invoiced.
The postings are shown below.
All remaining contract liabilities are now reset and all revenue and discounts fully recognized. In addition, all not yet realized deferred costs are recognized.
Profit and loss statement
Billable direct cost projects are not supported by the SAP Business ByDesign IFRS 15/ASC 606 enhancements. It is strongly recommended in a transition project to introduce regular project sales scenarios.
Multi-customer projects are not supported by the SAP Business ByDesign IFRS 15/ASC 606 enhancements.
Accrual Methods: For fixed price items in project sales, initially, accrual methods ‘Recognize using cost to cost POC’ and ‘Recognize using cost to cost project POC’ are not supported. It is recommended to use a manual POC. If new project related sales orders that are subject to be handled with IFRS 15/ASC 606 have these methods assigned, error messages will occur and ask for a correction of the accrual method assignment.