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Unfortunately for businesses and legal teams, not all contracts are created equally. Each individual agreement has unique conditions that must be met, obligations that must be satisfied, and transaction prices that need to be exchanged. So, it can be challenging to oversee every single contract and transaction.
Fortunately, there’s no need to manage contracts manually. Contract management software (CMS) can be valuable for businesses looking to increase revenue recognition and eliminate unknown costs.
What is Revenue Recognition?
Revenue recognition is an accounting principle that provides guidelines and conditions for when and how revenue will be recognized. In accrual accounting, revenue is “recognized” or “realized” when goods or services are exchanged. But in cash accounting, revenue is recognized when cash is received, regardless of whether or when goods or services were exchanged.
5-Step Process in Revenue Recognition
The Financial Account Standards Board (FASB), along with the International Accounting Standards Board (IASB), created a converged standard guideline outlining the revenue recognition process for contracts with customers. The revised guidelines helped simplify the process while making it more robust and consistent.
Here are the five steps involved in revenue recognition.
Step 1: Identify the contract(s) with a customer
There has to be an agreement between the two parties so that an exchange can happen. The contract should detail the commitments, rights, payment, and how goods and services will be exchanged for both sides.
Step 2: Identify a unique performance obligation
A performance obligation is a promise or action that must be fulfilled to transfer a good or service to the customer. It must be well-defined and distinct enough from other promises or obligations.
Step 3: Determine the transaction price
The transaction price is what the entity is entitled to receive due to transferring the goods or services to the customer. Both parties need to agree to the transaction price before signing the contract.
Step 4: Designate the transaction price to each performance obligation
Some contracts have multiple performance obligations. In these cases, the entity should allocate the price to each obligation they see fit.
To do so correctly, the entity must determine a standalone selling price at the contract inception. If it cannot do so, the entity can figure out an estimate.
Step 5: Recognize revenue when a performance obligation is satisfied by transferring of good or service
In this step, the entity starts recognizing revenue after completing a performance obligation, usually by transferring a good or service. The exchange is official or successful once the customer has control of the good or service.
According to the FASB standards, control can be determined in several ways:
- The entity has proof of payment for the asset.
- The customer has legal title to the asset.
- The entity has transferred physical possession of the asset.
- The customer has the significant risks and rewards of ownership of the asset.
- The customer has accepted the asset.
Primary Benefits of Contract Management Software for Revenue Recognition
There are many reasons to use a CMS system. Here are some of the primary benefits of using CMS for revenue recognition.
Automation
One of the key benefits of contract management software is that it allows businesses to automate the revenue recognition process. Companies have to monitor and keep track of all contract agreements made with the customer from agreement to recognition. This involves satisfying performance obligations, setting the transaction price, ensuring that the customer has control of the goods or services, etc. For businesses with multiple contracts with customers, manually managing all those contracts and contract-related activities can be tedious and challenging.
Organization and storage
Intuitive CMS automatically tracks the status of contracts for you so that both parties stay on top of their agreements and obligations. The software stores all your contracts in one place to secure and organize them. As a result, you’ll find any agreements with customers quickly so you can meet your deadlines and promises. In addition, it holds each party accountable – ensuring that both sides hold up their end of the deal.
Easy-to-create reports
Contract review software like DocJuris creates audits and reports from your contracts. It will scan your documents for key terms and concepts so you can find and understand the information quickly. Automation also helps to ensure that contracts are executed consistently and accurately. This reduces the risk of errors and ensures that all revenue is appropriately recognized.
Cost reduction
Another benefit of contract management software is that it can help businesses identify and eliminate unknown costs. By providing a clear view of all contract-related expenses, companies can easily see where they are incurring unexpected costs and take steps to address the issue. This can include renegotiating terms with vendors, implementing cost-saving measures, or even canceling contracts that are no longer beneficial to the business.
Easy redlines
With contract lifecycle management software, businesses can easily and quickly edit documents with dynamic playbooks. Playbooks eliminate the need for manual redlining, which saves time and resources. No matter how you address issues in a contract, contract management software provides tools to automate and revise the terms and conditions efficiently.
Conclusion
At DocJuris, our contract management software does more than author contracts and speed up negotiations. The software is especially valuable in the post-signature and revenue recognition stage. Its central repository and automation features make it effortless to view all your contracts and their status so you can effectively fulfill any performance obligations and start recognizing your revenue.
Want to see how it works? Book a demo to learn more about DocJuris and how it can increase revenue recognition for your organization.
