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Gross Margin Management

Sell-Through Revenue Recognition

Challenges of revenue recognition

Generally, manufacturers recognize revenue either when products are delivered to distributors (sell-in) or when distributors resell products to end-users (sell-through). It is becoming more common for channel-centric companies to recognize revenue on a sell-through basis, because revenue is not considered earned as long as the distributor retains the right to return the goods, or the sale price is not “fixed and determinable.” 

The rules of sell-through revenue recognition come into play when there are rights of return, stock rotation rights or when back-end rebates or co-op / MDF payments reduce revenue. Complexities also arise when products and services are bundled together under a single SKU or invoice. See below for relevant rules from the AICPA, FASB, PCAOB and SEC. These revenue recognition rules and guidelines all demand increasing diligence from accounting staff to ensure compliance and be audit-ready.

Manual processes present challenges

Unfortunately, the majority of existing ERP and accounting software packages don’t accommodate the complex revenue management and compliance needs for sell-through revenue recognition. This forces companies to manage revenue recognition activities outside their standard financial systems by using complicated spreadsheets and manual processes. Since these approaches are error prone and not scalable, setting up effective controls for risk mitigation end up being an even bigger challenge. 

Did you know?

Revenue is not considered earned as long as the distributor retains the right to return the goods, or the sale price is not “fixed and determinable.”

ENABLING SELL-THROUGH REVENUE RECOGNITION

  • Meet SEC and FASB guidelines on sell-through revenue recognition
  • Supports First-In-First-Out (FIFO), price book or reported cost valuation methods
  • Generates general ledger (G/L) entries for recognized and deferred revenue
  • "What if" strategic planning scenarios
  • Supports Chart of Accounts, Accounting Period Options, Trial/Hard Close, Sell-in/Sell-Through Conversion and more

Single automated system with audit trails

Entomo addresses the problems of revenue recognition by eliminating complex spreadsheets and ad hoc databases, and replacing them with a single integrated system. Entomo makes it easy to manage complex channel revenue models that are challenging for traditional accounting systems, especially when it comes to managing deferred revenue.

All revenue-related information are aggregated, interlinked and stored in a single system with built-in audit trails and automatically enforced controls. Audit and analytics processes are quick, easy and always based on automatically processed high-quality data. Importantly, Entomo provides automated functionality to meet stringent SEC and FASB guidelines on sell-through revenue recognition out-of-the-box. This substantially simplifies a companies’ ability to meet Sarbanes-Oxley (SOX) and mitigate compliance risks.

 

Entomo’s SmartHub® provides an end-to-end channel revenue management system:

  • Multi-Source Transaction Collection, Cleansing and Normalization
    Sales-in, POS, inventory, claims, returns, and more are automatically collected, cleansed and normalized by the channel data management module.

  • Channel Data Reconciliation and Adjustments
    Automated reconciliation, by part and by partner, and analysis of reported channel data including sales-in, sales-out (based on POS), returns, inventory, in-transit and uncredited RMAs is completed. Inventory is automatically tracked as it transitions from sell-in to sell-through. Discrepancies, if any, can be adjusted by authorized administrators. Any overrides can be annotated with comments, while maintaining a full audit trail.

  • Net Revenue Valuation
    Determining product and transaction valuation for sell-through revenues is a key issue for revenue accounting departments. Entomo supports numerous valuation methods, including First-In-First-Out (FIFO), price book or reported cost. Industry best practices suggest the FIFO method, net of any back-end credits, though your situation may vary.

  • Automated Generation of Journal (G/L) Entries
    Based on configured rules, SmartHub automatically generates journal general ledger (G/L) entries for recognized and deferred revenue. G/L entries reflect the company’s Chart of Accounts and address any number of relevant accounts such as Revenue, COGS, Deferred Revenue, Deferred COGS, Deferred Margin, Inventory, A/R, etc. The generated entries can be fed directly back to the company’s accounting system to complete the revenue cycle.

  • Revenue Analytics, Forecasting, and Strategic Planning
    SmartHub includes the ability to extrapolate revenue trends and build “what-if” scenarios to support strategic planning. For example, journal entries for sell-through can be generated on both a “reported sell-through” and “adjusted sell-through” basis. [Adjusted sell-through is the recommended basis to use for actual revenue recognition]. Similarly, commissions can be forecasted on the expense side of the ledger. This allows companies to evaluate the impact of changes in future revenue streams on the P&L and gain a better understanding of how today’s decisions will impact future financials.

  • Audit and Contract Compliance
    Automating revenue management using SmartHub ensures compliance with revenue recognition rules such as SOP 97-2, 98-9, 81-1, SAB 101, 104, and other regulatory mandates. Furthermore, SmartHub controls user access, based on roles and privileges, and provides automated audit trails. Entomo provides a solid foundation for enforcing robust internal controls over revenue processes, as required by SOX 404.

As part of implementing the revenue management module, Entomo’s Customer Success teams can provide best practice guidance for executing a sell-through revenue recognition strategy. This includes timing and methodology for conversion from sell-in to sell-through revenue recognition.

 

Selected rules of revenue recognition

  1. SFAS 48: applicable when distributors have rights of return
  2. EITF 01-09: applicable with stock rotation rights or when back-end rebates or co-op or MDF payments reduce revenue
  3. EITF 00-21: applicable when products and services are bundled together under a single SKU or invoice
  4. Vendor Specific Objective Evidence (VSOE): applicable when products and services are bundled together under a single SKU or invoice
  5. Other revenue-recognition rules and guidelines include SOP 81-1, SOP 97-2, SOP 98-9, and SAB 101.
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