- FASB ASC 606 in the U.S. and IFRS 15 internationally are new accounting rules that primarily change the way companies account for SaaS-based revenue streams
- ASC 606 and IFRS 15 will not affect compensation plan design, but they will change the way that finance and accounting accrue commissions expenses
- Sales operations and other compensation plan designers should understand these basic accounting rule changes so they’ll understand the effect on commissions expenses
Let me start by pointing out that I’m not an accountant by trade nor am I a CPA, but I do believe it’s critical for sales operations leaders to understanding corporate accounting – most importantly, revenue and recognition rules, because both affect the way that sales results (revenue and bookings) are recognized. Some publicly traded companies will be required to comply with ASC 606 (IFRS 15 is the international equivalent) in 2017, and all will be required in 2018.
ASC 606 (IFRS 15) changes the way that companies recognize revenue and amortize corresponding expenses. For sales compensation purposes, it requires finance to amortize commission expense for individual sales reps over the length of contracts if the contracts have a term of longer than one year. ASC 606 does not change how commission expense for supervisors is recognized – this will continue to be recognized immediately. As an example, under the old standards, if a rep sold a three-year contract and was paid $100,000 in commission, the entire $100,000 expense would be recognized in the year in which the three-year deal was sold. ASC 606 (IFRS 15) now requires companies to capitalize the $100,000 and amortize it over the three-year period of the contract. Commission expenses for supervisors are recognized in the year in which they are incurred regardless of contract term, so there is no change.
ASC 606 (IFRS 15) will not change the structure of sales compensation plans. For recurring revenue contracts, it will also not affect revenue recognition. The real change happens on the expense recognition side. Sales operations has a vested interest in the way commissions are calculated, paid and recognized, so there are some ASC 606 (IFRS 15) consequences of which to be aware:
- Compensation managers must be able to differentiate between contracts of one year or less and those greater than a year.
- Compensation managers must be able to identify commission expense for front-line reps vs. supervisors, as these expenses can be amortized differently.
- Sales operations should ensure that the sales compensation management platform can capture the data in points one or two.
- Sales operations must guard against pressures to create or modify compensation plans or even product configurations to comply with the first two listed consequences. Compensation plans must be structured to motivate sales and drive the right behaviors. Solutions must be configured to meet the needs of buyers. So, oppose pressures to change compensation plans or product designs only to make commissions accounting easier.
- In year one and for potentially for several years after, sales expenses should decrease as commission expense is pushed into future years because of the new amortization rules. Understand how that could affect headcount plans. Be aware that it could be tempting to add additional heads in year one because of the commission savings, but as amortization schedules even out, those false savings will eventually disappear.
If you company continues to calculate commission in spreadsheets, ASC 606 (IFRS 15) is going to be a problem! Not only will your overtasked compensation manager (you know the “single point of failure” wizard who makes all the commission magic happen every month) need to continue to calculate commission every month, but that that person will also need to differentiate commission expense by contract term, individual contributor and manager. It seems like this should be simple, but once you add in channels, overlays and other roles, it will become unwieldly. ASC 606 (IFRS 15) is the compelling event you’ve been waiting for to modernize your sales compensation management (SCM) platform. For those already using an SCM platform, make sure it can handle the new requirements. Lastly, stay close to you finance counterparts on this one so that you are aligned on and understand the greater implications for the company.