Question

Answer the following questions

1) How does ASC 606 — Revenue From Contracts With Customers(new standard for revenue recognition) impact on debt to equity ratio and current ratio. Please explain in detail.

2)Provide why the following statement is false.Provide proper explanation

"Comparability across companies will be enhanced since ASC 606 provides clear rules, by industry, for when and how to recognise revenue"

Answer 1

Answer 1:

ASC 606 - Revenue From Contracts With Customers deals with revenue recognition from contracts which does have a significant impact on certain entries in the balance sheet and the income statement from assets to net income.

A few of the basic entries that are impacted by the new standard are:

• Loss of Revenue - During recognition;
• Changes in Retained Earnings;
• Amounts to be recognized as due to the customers;

Any change in the amounts of revenue recognition and the amount due to the customers, there will be changes in the current assets and the net income recognized in the financial statements - which directly will impact the current ratios and other equity side balance sheet items.

Also, any changes in the revenue recognition will have an impact on the retained earnings as well which will lead to an impact on the equity component of the debt-equity ratio. Thus, leading to a different debt-equity ratio because of the application of the new standard.

Answer 2:

The statement is false because the new standard provides for industry-specific rules and the procedure to recognize the revenue. This is no way to ensure that there will be standardization of reporting among the companies, even in the same industry. Companies will still opt for different reporting and disclosures but the same will be in accordance with the new standard enacted.

Comparability of financial statements of companies is dependent on the reporting frameworks provided by other standards, undoubtedly, revenue recognition will give some stability to that but not up to a significant extent.