Marvelous Marketers: Romm Norom - Description And Facts Of C

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Marvelous Marketers (MM) is a marketing company providing services such as TV commercial production, app development, and Facebook page creation. The company recognizes revenue in accordance with ASC 606, Revenue From Contracts With Customers. The case focuses on the contractual and accounting issues related to revenue recognition, specifically the risks of material misstatement (RoMMs) associated with contract modifications, performance obligations, transaction price allocation, and the proper recognition of revenue.

The case details various potential RoMMs, including improper identification and accounting of contract modifications, failure to distinguish promised goods or services, premature revenue recognition on consignment sales, incorrect allocation of transaction price, and misrecording of variable considerations or licensing arrangements. The audit must consider these risks to ensure the accuracy and completeness of MM’s revenue recognition procedures.

MM employs internal controls such as review of contract assets, policies on pricing and accounting, approval of journal entries, and evaluations of contracts and performance obligations. The controls aim to mitigate risks by ensuring proper recording, approval, and review of revenue-related transactions and estimates. However, areas such as contract analysis and revenue recognition assessments still pose risks if controls are not effectively implemented.

The audit activities involve identifying specific RoMMs relevant to MM’s revenue streams, tailoring these risks to the contractual facts, and designing substantive procedures accordingly. These procedures include substantive analytical procedures, detailed testing of contract terms, verification of proper application of revenue recognition criteria, and evaluation of estimates related to transaction price and performance obligations. Ensuring proper documentation and consistency in applying these procedures is key to reducing the likelihood of material misstatements.

Paper For Above instruction

The audit of Marvelous Marketers (MM) presents a complex landscape of risks related to revenue recognition under ASC 606. The primary purpose of this paper is to identify significant risks of material misstatement (RoMMs), analyze how these risks relate to specific contractual and accounting behaviors, and propose controls and substantive procedures to mitigate them. This comprehensive approach ensures the integrity and accuracy of MM’s financial statements are maintained, aligning with professional auditing standards.

Understanding the contractual environment between MM and its clients, such as Stone, provides the foundation for risk assessment. Contract modifications pose a considerable RoMM because verbal agreements and unidentifiable terms increase the likelihood of improper revenue recognition. Without clear documentation, MM may fail to recognize or account for modifications accurately, leading to overstatement or understatement of revenues (AICPA, 2017). The risk intensifies if the modifications materially affect the transaction price, performance obligations, or rights and obligations of the parties involved.

Another significant RoMM stems from the failure to properly identify promised goods or services or from linking promises that are not distinct, which can cause revenue to be recognized prematurely or in the wrong period. ASC 606 stipulates that revenue recognition should occur when control transfers to the customer, which depends on a clear understanding of performance obligations (FASB, 2014). In cases where promises lack clarity or are bundled improperly, MM risks recognizing revenue before fulfilling all contractual criteria, thereby violating recognition principles and possibly inflating income.

Consignment sales present particular risks because revenue may be recognized before control has transferred to the customer. If MM recognizes revenue upon shipment or consignment without definitive transfer of control as per contract terms, it risks breaching the recognition criteria outlined in ASC 606 (KPMG, 2019). This involves an inappropriately early recognition of revenue, which can significantly distort financial health and performance metrics.

The accurate allocation of the transaction price to multiple performance obligations is another critical RoMM. When the transaction price includes variable consideration such as royalties or performance bonuses, the risk is that MM may record an incorrect amount, especially if estimates are not supported by historical data or contractual terms (Deloitte, 2020). Incorrect allocation can lead to revenue being recognized in the wrong period or at an incorrect amount, misrepresenting the company’s profitability and financial position.

Furthermore, the treatment of licensing arrangements and service-type warranties involves unique recognition issues. When such arrangements are incorrectly recorded or bundled, MM exposes itself to risks of revenue misstatement, especially if these are not identified as separate performance obligations as required under ASC 606 (PwC, 2021). The improper recognition of these components may lead to an overstatement of either revenue or deferred income.

To address these RoMMs, MM has implemented internal controls such as review of contract assets, policies on pricing, and approval processes for journal entries and revenue recognition. The control REV-7, which involves reviewing and approving the accounting for each contract, specifically targets the risk of incorrect application of revenue standards. This control examines contractual terms, performance obligations, and transaction prices, thereby helping to ensure compliance with accounting standards and reducing the likelihood of misstatements.

Despite the controls, inherent audit risks persist due to the complexity of contractual arrangements and estimation processes. As a result, substantive procedures are critical in providing audit evidence. These procedures include detailed testing of the contractual terms to verify that they support revenue recognition, recalculating allocations of transaction prices, and testing the cut-off procedures for recognizing revenue (AICPA, 2017). For instance, testing the timing of revenue recognition for consignment sales ensures that control transfer aligns with revenue recognition criteria, mitigating the risk of early revenue recognition.

Analytical procedures, such as trend analysis of revenue by product line and customer, can detect unusual fluctuations indicating misstatement. Additionally, detailed sampling of contracts with variable consideration ensures that estimates are supported by documentation, and any uncertainties are appropriately constrained (KPMG, 2019). The process of reevaluating estimates each period, including changes in variable consideration and performance obligation fulfillment, also helps to reduce estimation risk.

To further mitigate the RoMMs, MM can strengthen internal controls by establishing automated alerts for contract modifications, ensuring explicit documentation, and conducting regular reconciliation of revenue transactions with contract records. Proper segregation of duties in revenue recognition processes, detailed review and approval of estimates, and periodic testing of controls can reduce control risk, complementing substantive procedures.

In conclusion, a structured approach to risk identification, control implementation, and detailed substantive testing is essential for auditors evaluating MM’s revenue recognition. By focusing on the specific contractual and accounting complexities outlined, auditors can effectively mitigate the risks of material misstatement, ensuring that MM’s financial statements accurately and reliably reflect its revenue position.

References

• American Institute of Certified Public Accountants (AICPA). (2017). Auditing Revenue. CPA Canada Handbook - Assurance.
• FASB (Financial Accounting Standards Board). (2014). ASC 606: Revenue from Contracts with Customers.
• Deloitte. (2020). Revenue Recognition: Navigating the Complexities. Deloitte Insights.
• KPMG. (2019). Revenue Recognition and Internal Controls. KPMG Global Reports.
• PricewaterhouseCoopers (PwC). (2021). Recognizing Revenue: Applying ASC 606 to Licensing and Warranties. PwC Publications.
• Arens, A., Elder, R., & Beasley, M. (2017). Auditing and Assurance Services: An Integrated Approach. Pearson.
• Committee of Sponsoring Organizations of the Treadway Commission (COSO). (2013). Internal Control-Integrated Framework.
• IFRS Foundation. (2014). IFRS 15: Revenue from Contracts with Customers.
• Williams, J., & Schilder, C. (2018). Auditing for Revenue Recognition Risks. Journal of Accountancy.
• Glover, S., & Prawitt, D. (2020). Internal Controls and Audit Evidence. Auditing: A Journal of Practice & Theory.