Amendments to the Financial Reporting Standard 102 for software companies

On 27 March 2024, the Financial Reporting Council issued a suite of changes to UK GAAP, including a new model for revenue recognition, aligned to IFRS 15 Revenue from Contracts with Customers, but with some simplifications.

Whilst the effective date of 1 January 2026 may seem far, an FRS 102 preparer will need to make consequential changes to its financial reporting and internal control processes, IT systems, and disclosures related to revenue. Having assisted many companies in transitioning to IFRS 15, we have first-hand experience of the significant challenges and the impact for software companies. Some of the key issues are highlighted below. 

• Does the Company bundle Software as a service (“SaaS”) / software licence with implementation services or post-contract customer support (PCS), etc?

A ‘performance obligation’ is the unit of account for revenue recognition. Determining if each item in a bundle is a separate performance obligation requires judgement. Application of the new criteria to determine each performance obligation may result in a different profile of revenue to that under the current standard.

• Does the Company provide a software licence and / or SaaS?
  

It is important to make the distinction between a licence of software and a SaaS arrangement as the timing of revenue recognition may differ.

• Does the Company sell software licences, SaaS and related services on a standalone basis?

If a contract has multiple performance obligations, consideration should be allocated to each performance obligation, typically based on their respective standalone selling prices. If goods and services are not sold on a standalone basis, standalone selling prices may not be readily available. In such cases, they would need to be estimated, which can be challenging.

• Does the Company receive advance or deferred consideration?

If the timing of providing goods and services differs with that of the receipt of consideration from a customer, it could give rise to interest expense or interest income, resulting in a change in revenue. 

• Does the Company act as a reseller, intermediary, or bundle third-party goods (e.g. hardware) and services (e.g. cloud services)?  

Determining whether revenue should be recognised gross or net depends on whether the Company acts as a principal or agent. This assessment often requires a detailed review of the arrangement and the application of judgement. 

• Does the Company pay commissions linked to customer contracts?

The new requirements provide companies with an accounting policy choice to capitalise incremental costs to obtain customer contracts. Determining whether costs are incremental could be a complex assessment.  

• Does the Company incur set-up, data migration, conversion, or configuration costs before providing a hosting or a managed service?

Under the new requirements, these costs would need to be evaluated against the capitalisation criteria of costs of fulfilling a contract. If the criteria are met, they should be capitalised and amortised over a reasonable period. 

These changes will also have broader business implications, and companies should consider the following:

• Will there be a need to update systems, chart of accounts, models, processes and controls?
• Should commercial, sales and finance teams undergo training to understand the impact on their respective roles?
• Is it advisable to amend contracts to proactively manage potential future accounting impacts?
• Will there be a change in KPIs and what are these used for – managing the business, covenants, remuneration? How will the change be assessed, communicated and managed?

Applying the revenue accounting changes can be complex, so investing time early is key to a successful, low-stress adoption of the new standard and establishing efficient processes.

If you have not already, we recommend that you perform an initial impact assessment to better understand how the proposed changes will affect your business. 

Our team can help support your business through the transition, including through:

• Training/workshops – in-person or virtual classroom training/workshops tailored for finance teams to bring you up to speed on the new requirements and how they apply to your business.
• Impact assessment – We can support with evaluating the potential impacts of the five-step model on your current revenue streams.
• Accounting policies and papers – We can prepare/review your revenue accounting papers/policies and support with the key accounting judgements. Revenue contract reviews may be required.
• Preparation of models to apply the new accounting to your contracts.
• Assessing the impact on your systems, processes, and controls.
• Disclosure requirements – We can identify the disclosure impacts for your business and assist with updating the existing disclosures to comply with the proposed changes.
• Audit readiness – help you navigate the first year of audit (which may also include restated comparatives!).