9 Best Practices for Implementing Revenue Recognition

Revenue recognition is a cornerstone of financial reporting in the construction industry, influencing a company's performance metrics and overall financial health. Implementing it accurately, and complying with accounting standards, is paramount for business success and regulatory compliance. However, due to the complex nature of construction projects, implementing revenue recognition can be a challenging task. In this blog, we will explore the best practices for implementing revenue recognition, safeguarding the integrity of financial statements and bolstering stakeholder trust.

1. Thoroughly Document Contracts and Agreements

Detailed and well-maintained contracts are essential for proper revenue recognition. Every agreement, whether with project owners, partners or subcontractors, should be thoroughly documented. This includes delineating the scope of services, payment terms and any contingencies or milestones tied to revenue recognition. This comprehensive documentation not only serves as a reference point for revenue recognition but also provides a clear record of the terms and conditions agreed upon by all parties involved. It acts as a safeguard in case of disputes or discrepancies, ensuring that revenue recognition is based on transparent and agreed-upon terms.

2. Stay Current with Accounting Standards and Regulations

The landscape of construction accounting standards is dynamic, with updates and revisions occurring periodically. It is crucial for contractors and their construction-focused CPAs to stay abreast of these changes, ensuring that revenue recognition practices align with the latest accounting principles, like ASC 606. This might involve attending seminars, webinars or workshops, and staying engaged with industry forums and publications. By staying current with accounting standards, businesses can adapt their revenue recognition policies to reflect the most up-to-date and accurate practices. This not only ensures compliance with regulatory requirements but also demonstrates a commitment to financial transparency and integrity.

3. Adopt the Percentage-of-Completion Method

In the construction industry, the Percentage-of-Completion (POC) method is frequently the most fitting for revenue recognition. This method entails recognizing revenue as work advances, based on the proportion of the project that has been completed. It provides a more accurate reflection of the project's financial performance in comparison to other methods.

4. Accurately Measure Progress

Accurately measuring the work in progress (WIP) of a construction project is pivotal for revenue recognition. This involves diligently assessing completed work, comparing it to the total project scope and employing reliable methods like surveys or certified third-party assessments. Utilizing construction accounting software  can facilitate precise progress tracking. Establishing a routine for project progress reporting is pivotal. This entails methodically documenting completed work, delineating remaining tasks and highlighting any delays or issues that might impact the project timeline. Regular reporting produces transparency and supports accurate revenue recognition.

5. Separate Identification of Variations and Change Orders

Variations and change orders are customary in construction projects and can exert a significant influence on revenue recognition. It is imperative to distinctly identify and document these changes, ensuring that they are valued appropriately and recognized in the financial statements. This begins with meticulous documentation of all alterations to the original scope of work, providing clear descriptions, reasons for changes and associated cost adjustments. Valuation and allocation of these changes require careful consideration, encompassing additional costs for labor, materials and equipment, as well as adjustments to project timelines. Timely recognition is crucial to prevent misrepresentation of project costs and revenue. Regular reconciliation and documentation of variations and change orders with overall project progress help maintain accuracy and reliability.

6. Maintain Clear Communication with Stakeholders

Transparency in financial reporting builds trust with stakeholders. Communicate revenue recognition policies and practices clearly in financial statements and disclosures. Additionally, maintain open lines of communication within the organization to ensure that all relevant parties are aware of and aligned with revenue recognition policies. Transparent communication of revenue recognition practices gives stakeholders confidence in the company's financial reporting. It demonstrates a commitment to ethical and accountable financial management, fostering trust and credibility.

7. Invest in Construction-Specific Software

Leverage construction project management software and accounting software, like Deltek ComputerEase, that is tailored to the industry. These tools can automate calculations, track revenue recognition milestones and generate accurate and compliant financial reports, and are often equipped with features designed specifically for revenue recognition in construction, streamlining the process and enhancing accuracy. By leveraging automation through construction-specific software, businesses can reduce the risk of errors associated with manual processes and ensure consistent application of revenue recognition policies.

8. Provide Training and Education

Continual training and education for contractors and their project management teams on revenue recognition principles are imperative. Offering ongoing training and education on revenue recognition principles, industry-specific nuances and changes in accounting standards empowers the team to make informed decisions and execute revenue recognition accurately. Continuous learning and development in revenue recognition practices equip the finance and accounting team with the knowledge and skills needed to navigate complex transactions and apply revenue recognition principles effectively.

9. Regularly Review and Update Revenue Recognition Policies

Construction projects evolve over time, and revenue recognition policies should evolve with them. Regularly reviewing and updating these policies ensures they remain aligned with the project's current status and any changes in accounting standards or regulations. This practice also helps identify and rectify any inconsistencies or inefficiencies in the revenue recognition process. By keeping policies up-to-date, construction companies can maintain accuracy and transparency in their financial reporting, ultimately leading to more successful and profitable projects.

Implementing revenue recognition best practices is not only a regulatory requirement but also a strategic imperative. It ensures that a company's financial statements accurately reflect its financial performance, instilling confidence in investors, creditors and other stakeholders. By following these best practices, businesses can navigate the complexities of revenue recognition with integrity and precision, setting the stage for sustainable growth and success.