Broker-dealers: Prepare for the
new revenue recognition standard
Last May, the FASB and IASB
issued a converged standard on
revenue recognition (Accounting
Standards Codification [ASC]
Topics 606 and 610; International
Financial Reporting Standard
[IFRS] 15). The new rules replace
most existing guidance under
U.S. GAAP and IFRS. Under
U.S. GAAP, the new standards
are effective as of 2017 for public
entities with a calendar year-end,
and in 2018 for private businesses.
In April 2015, the FASB and IASB
both officially proposed a oneyear delay in the effective date for
companies to adopt the new revenue
recognition standard.
What’s new
The standard introduces a single, five-step model (see
page 3) that significantly alters how revenue is reported
by various industries. The impact will vary, however,
by business sector and company. Broker-dealers
have diverse structures and sizes and are engaged in a
wide array of activities that range from underwriting
securities to asset custody. The new accounting
standard is unlikely to be transformative for most firms,
but there will be substantial changes in some areas.
Given the complex accounting that is required for
many industry services, broker-dealers should begin
to analyze their operations carefully now to determine
necessary changes — in spite of the proposed deferrals
by the FASB and IASB in the effective date.
Broker-dealers: Prepare for the new revenue recognition standard
6 reasons why firms should start planning for the
new standard now
1. An impact on operations, not just reporting
The new guidance will affect more than just financial
statements: The impact will extend to employee
compensation, tax strategy and other areas that are
central to a firm’s success. Broker-dealers need to
assess the overall effect of the new standard on their
operations and business processes. Consideration
should also be given to documentation and systems
needed to support accounting and reporting under
the new standards. A cross-functional team from
accounting, IT, legal and other functions may help to
speed implementation. Broker-dealers also need to
decide how to communicate the impact of the new
guidance to stakeholders.
2. Immediate reporting decisions
Although the effective date for the new standard is a
few years away and, under U.S. GAAP, early adoption
is prohibited for public entities, companies should
start considering the transition process. One allowable
transition approach is to make a cumulative entry as
of the beginning of the first year of implementation.
While seemingly an attractive option, it does not
provide comparative income statements for the year
of adoption and prior periods, which will require
extensive disclosure and that broker-dealers essentially
provide information as if the standard was applied
retrospectively. The other approach is to retrospectively
restate the prior periods so that comparative
information is provided for the year of adoption. It’s
important to remember that if broker-dealers elect the
full retrospective method, all periods presented in the
financial statements will have to be shown using the
new standard — which means broker-dealers may need
to have systems in place to start collecting relevant data
as early as 2015 under the original effective date of the
new standard (when comparative financial statements
are required or desired).
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Visit our Revenue Recognition Resource Center at grantthornton.com.
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3. Impact on customers, underwriting and
investment research
The new standard will not only affect broker-dealers’
own financial reporting; it will also affect their clients,
and how broker-dealers monitor and analyze financial
information. Broker-dealers will have to assess the
impact of the new guidance on the reported revenue
streams of their clients. The rules may also be a
factor in deciding which clients, counterparties and
entities broker-dealers research and which business
opportunities broker-dealers pursue.
4. New disclosures required
The standard calls for numerous additional
disclosures, some of which may require new systems
and processes to gather the information. Brokerdealers must allocate funds and implement processes
as needed to ensure that these data sets are collected.
The planning for complying with the guidance should
begin now, even if the standard is not effective for a
couple of years.
5. New internal controls required
The adoption of new revenue processes for commission
income, underwriting fees, asset management fees and
other revenue streams may necessitate a reassessment
of related controls. Specifically, identifying and
making the systems and process changes to capture the
information necessary to apply the new standard and
to generate the appropriate financial reporting. The
increased use of estimates in recognizing revenue under
the new standard may necessitate new processes and
controls, particularly in the area of estimating variable
amounts that will be included in transaction prices.
6. Continuing new guidance
Right now there is limited guidance for brokerdealers on how to apply the new standard, but help
is on the way. The AICPA has 16 industry groups
working on sector-specific guidance, including
the Brokers and Dealers in Securities Revenue
Recognition Task Force. The work of the Joint
Transition Resource Group for Revenue Recognition
of the FASB/IASB should also be monitored for
possible guidance. In June 2014, Grant Thornton LLP
released a summary discussion of the new standard
and its impact, with more guidance forthcoming.1
Broker-dealers: Prepare for the new revenue recognition standard
An overview of the new standard
Scope
The general principle is that all revenue-generating
customer contracts fall within the scope of ASC
Topic 606, except for certain contracts such as (a)
lease contracts, (b) insurance contracts, (c) various
contractual rights or obligations related to financial
instruments, (d) guarantees other than warranties, and
(e) certain nonmonetary exchanges for which other
applicable guidance exists in the ASC related to the
accounting for these type of contracts. Generally, for
broker-dealers, revenue-generating activities would
result in customer contracts that fall within the scope
of ASC 606 and IFRS 15:
• Executing trades of securities for customers
• Distributions of mutual fund shares
The five-step model
Based on this core principle, the new guidance adopts
a single, standard approach to recognizing revenue.
The following provides additional detail into each of
the five steps.
The 5-step model for the new revenue
recognition standard (Accounting Standards
Update 2014-09, IFRS 15)
Step 1
Identify a contract with a customer
Step 2
Identify performance obligations
Step 3
Determine the transaction price
Step 4
Allocate the transaction price to the
performance obligations
Step 5
Recognize revenue when/as performance
obligations are satisfied
• Investment banking advisory services
• Underwriting of investment securities
• Wealth management services
• Custody and administrative services
The accounting for financial instruments is outside
the scope of the standard. Thus accounting for a
broker-dealer’s proprietary trading operations, as
well as interest and dividend income on financial
instruments owned or related to repurchase
agreements and securities lending activities, are not
affected by the new standard.
Core principle
The standard states that an “entity shall recognize
revenue to depict the transfer of promised goods
or services to customers in an amount that reflects
the consideration to which the entity expects to be
entitled in exchange for those goods or services.” A
customer is a “party that has contracted with an entity
to obtain goods or services that are an output of the
entity’s ordinary activities.”
Step 1: Identify a contract with a customer
A contract is an agreement between two or more parties
that creates enforceable rights and obligations. It is what
a vendor delivers and what the customer expects to
receive, whether that’s goods or services. Contracts can
be written, oral or implied by business practices.
Contracts exist in a legal context that vary among
jurisdictions. Moreover, broker-dealers regardless of
size offer a host of services and products to a variety
of customers. Broker-dealers will need to apply
significant judgment in applying the standard.
A contract is in the scope of the standard if all of the
following are true:
• The contract has commercial substance.
• The parties to the contract have approved the
contract and are committed to perform their
respective obligations.
• The entity can identify each party’s rights
regarding the goods or services to be transferred.
• The entity can identify the payment terms for the
goods or services to be transferred.
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Broker-dealers: Prepare for the new revenue recognition standard
In cases where one or more of the criteria is not met,
a liability will be recognized for any consideration
received, and the liability is reversed and recognized as
revenue when either of two conditions is met:
Step 4: Allocate the transaction price
Each obligation should be evaluated based on
its relative standalone selling price, which is best
determined by an observable price. If there is no
observable price, the standalone selling price can be
estimated by the following approaches:
• Performance is complete (all of the performance
obligations in the arrangement have been satisfied),
and all of the consideration has been collected and
• Adjusted market assessment
is nonrefundable.
• Expected cost plus margin
• When the contract is terminated and the
• Residual (limited use)
consideration received is nonrefundable.
Step 2: Identify performance obligations
These are promises within a contract to transfer either
a good or service, or a bundle of goods or services. The
promised item must be distinct (i.e., the customer can
benefit from the good or service on its own or with
readily available resources, and it is separable from the
other goods or services in the contract). In identifying
performance obligations, an entity must determine
whether they are satisfied over time or at a point in time.
Step 3: Determine the transaction price
This is the consideration an entity expects to receive in
exchange for transferring promised goods or services
to a customer. Noncash consideration and any
consideration due to the customer should be included
in this calculation. Key factors to consider are:
• The presence of variable consideration, including
such factors as performance bonuses and penalties.
Variable consideration is recognized only if it
is probable that there will not be a significant
reversal — a determination that requires careful
consideration. In situations where all or part of the
compensation is variable, a vendor would estimate
the transaction price by either (a) expected value,
which is the sum of the probability-weighted
amounts or (b) the most likely amount.
• The time value of money (TVM) is considered
if the contract contains a significant financing
component. TVM may be ignored if the customer
payment is expected within one year of the
transfer of goods or services.
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Step 5: Recognize revenue when/as performance
obligations are satisfied
Revenue is recognized upon the satisfaction of a
performance obligation (i.e., when the promised
goods or services are transferred). The transfer occurs
when the customer obtains control, defined as the
ability of the customer to direct the use of, and obtain
substantially all the remaining benefits from, an asset.
Transfers can be accomplished over time or at a point
in time. They should first be evaluated over time,
based on meeting any of the following criteria:
• The customer simultaneously receives and consumes benefits as the entity performs (e.g.,
there might be a daily or weekly service).
• The customer controls the asset as it is created
(e.g., a construction contract).
• The vendor does not create an asset with an
alternative use, and there is an enforceable right to
payment for performance completed to date.
Revenue may be recognized over time by using either:
• Output methods (direct measurements of
customer value: milestones reached, units
produced/delivered, time elapsed)
• Input methods (vendor efforts: costs incurred,
labor hours expended, time elapsed)
Broker-dealers: Prepare for the new revenue recognition standard
Contract costs
Revenue streams
ASC 340-40 — Other Assets and Deferred Costs:
Contracts with Customers — which was added to the
codification in the new revenue recognition guidance,
will be used to account for contract costs, including
fulfillment and other costs of obtaining a contract.
There are several issues, or types of revenue,
to be examined:
The changes from existing GAAP could be significant.
Most entities currently expense contract acquisition
and fulfillment costs as incurred. Under the new
standard, entities will be required to capitalize the
incremental costs incurred (i.e., costs that would not
have been incurred absent obtaining the contract).
Costs incurred to fulfill a contract should be
recognized as an asset only if the costs:
• Relate directly to a contract that the entity can
specifically identify
• Generate or enhance resources of the firm used in
satisfying performance obligations in the future
• Are expected to be recovered
Parties to the contract
An important issue in the five-step process is determining
the roles of the different parties to the contract.
Determining which entity is the customer is important
throughout the revenue recognition process. For
example, broker-dealers commonly provide services
to funds comprising investors. Who is the customer,
the fund or investor? No one factor decides but, if
investors deal directly with the broker-dealer and
there are only a few investors in the fund, that presents
a strong case for the investor being the customer.
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• Commission income
• Fee income
• Investment banking revenue
• Other revenues
• Principal transactions
• Trading commissions
• Interest and dividend income
Entities should monitor the work of the task force, as
well as that of the transition resource group of the FASB/
IASB, for developments and support. The following
discussion offers a few examples of the various revenue
recognition issues that broker-dealers face.
Principal transactions
Because financial instruments are outside of the scope
of the new standard, its impact on the accounting for
a broker-dealer’s proprietary trading operations and
any lending activities should be limited.
Commissions and fees
Commissions and fees represent compensation to the
broker-dealer for purchases and sales of securities
performed on behalf of customers.
This stream reveals that the timing of revenue
recognition for transactions that appear simple
and straightforward is more complex upon closer
examination. The commission earned for the purchase
or sale of securities is usually a clear-cut transaction
with rare failures. From one standpoint, the asset
being transferred is the trade execution service, thus
revenue should be recognized, as it is currently, on the
trade date. But it can also be argued that the brokerdealer hasn’t fulfilled its performance obligation until
the securities are delivered. With that perspective,
revenue should be recognized on the settlement date.
If such a change were implemented, it would require a
significant modification of current broker systems.
Broker-dealers: Prepare for the new revenue recognition standard
Investment banking revenue
This category includes underwriting, distribution,
advisory services, capital structuring, M&A,
structuring fees, and commitment fees.
Generally, advisory/M&A fees would be recognized
when the performance obligation is satisfied, when the
transaction occurs or upon completion of a milestone.
Underwriting of securities typically begins when the
lead manager(s) enters into a contract with the issuer
of securities; the contract typically states the public
offering price, underwriting spread, net proceeds to
the issuer and settlement date. Separately, the lead
manager creates a syndicate with other investment
banks to distribute them to investors.
The transaction price (i.e., the underwriting
spread) includes:
• A fee to the lead manager(s) for structuring the
offering, preparing documentation, etc.
• A selling concession to compensate each
underwriter for selling shares
• Underwriting fees to compensate each underwriter
for committing capital to the offering
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Each member of the syndicate is rewarded in
accordance with its role. Typically, an underwriting
arrangement includes a single performance obligation,
so an allocation of the transaction price is not
necessary. Generally, the spread is known on the
day the contract is signed, so there is no variable
consideration. The performance obligations are
satisfied on the trade date, so fees are recognized as
revenue on that day.
Underwriting expense
An entity may provide the service itself (as the principal)
or it may arrange for another party to do so (as an
agent). The principal will recognize the gross amount
of the expected revenue; the agent recognizes the net
amount it is entitled for its services. The key factor in
making the determination is whether the entity controls
the good or service before it is transferred.
Underwriting expenses provide a useful example.
Under current broker-dealer industry guidance in
FASB ASC 940-605, underwriting expenses are
generally presented net of related underwriting
revenues. That will continue to be true if the brokerdealer is acting as agent; when acting as a principal,
however, it will require gross presentation of
underwriting revenue.
Broker-dealers: Prepare for the new revenue recognition standard
Interest and dividend income
This revenue stream includes:
Disclosures
Contacts
Among the new disclosures required are:
• Contractual interest received and paid on the
trading and investment portfolio
• Disaggregated detail regarding the nature, timing,
uncertainty, and amount of revenue and cash flows
Mark Ramler
Audit Partner
Financial Services
T +1 212 624 5206
E [email protected]
• Dividends received on trading assets and trading
liabilities, excluding derivatives
• Opening and closing balances of contract assets
and liabilities
• Payment in kind for dividends, interest, changes in
fair value, etc.
• Description of significant changes in contract
assets and liabilities
Interest and dividend income on financial instruments
owned, as well as that derived from repurchase
agreements and securities lending, are outside the
scope of the standard. Thus substantial changes in this
area are not anticipated.
These disclosures are more extensive than current
requirements, and systems and processes may need to
be upgraded to capture and summarize the required
additional information.
Fee income — mutual fund distribution fees
Currently, mutual fund distributors capitalize
incremental direct costs from selling fund shares,
including commissions paid to subdistributors. The
above accounting treatment remains unchanged under
the new guidance.
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The revenue recognition standard may have more
of an effect on your business than you think. Our
best advice: Spend time now to identify the potential
impact and cost of the new standard; discuss it with
stakeholders and make sure the right infrastructure is
in place for adoption.
Prashant Nisar
Audit Senior Manager
Financial Services
T +1 212 624 5245
E [email protected]
Jack Katz
National Managing Partner
Financial Services
Global Leader
T +1 212 542 9660
E [email protected]
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