IT Value

Revenue Recognition Rules Hamper Biotech Firms

A new industry study argues that cumbersome accounting guidelines cause companies in that sector to restate more often.
Alan RappeportOctober 14, 2008

As the Financial Accounting Standards Board wrestles with ways to fix revenue recognition accounting, biotechnology firms say they are facing what one new study calls “unnecessary hurdles” caused by the outdated existing standard.

According to a the study — released by the Biotechnology Industry Organization (BIO) and conducted by the research and professional services firm Glass, Lewis, & Co. LLC — revenue recognition rules are leading biotech firms to restate more often and to delay more filings, compared to restatements and delays for most other industries. The rules complicate accounting in biotech because they tend to employ extensive collaborative arrangements with other companies for research and distribution.

“Lack of clarity in collaboration revenue recognition principles extended our IPO timeline by months — and resulted in financial reports that are unclear to investors,” said Paul Cleveland, CFO of Affymax, a biopharmaceutical company whose initial public offering was delayed while the company evaluated its revenue recognition for joint steering committees.

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The study finds that similar types of collaboration arrangements are accounted for in different ways, causing inconsistencies in the timing of when revenues are recognized on income statements. That is particularly problematic for firms such as Cubist Pharmaceuticals, which works with many overseas distributors.

“It’s very frustrating and doesn’t make a whole lot of sense,” Mary Stack, vice president of finance at Cubist, told CFO.com. “It makes it hard for investors to get an accurate picture of what’s occurring.”

The challenge for Cubist is that, with many of its international distributor contracts, the revenue consists several elements: upfront payments, when an agreement is signed; milestones, which can be for product development or sales; and actual product revenues or sales. Since these revenues become spread through the life of a contract, Stack says, they don’t reflect the company’s actual receipt of cash.

“This analysis affirms the need for the Securities and Exchange Commission and the Financial Services Accounting Board to clarify revenue recognition accounting principles,” said Alan Eisenberg, executive vice president for emerging companies and Business Development at BIO. “Collaborative arrangements are key financing mechanisms for small and medium-sized biotechnology companies.”

FASB announced last summer that it would publish a discussion paper later this year to cover key concepts regarding revenue recognition — notably, the possibility of boiling down the myriad industry-specific rules into a single general standard. That will likely have a four-to-six-month comment period before a more detailed exposure draft is issued in October 2009, with the final rule expected to be implemented by mid-2011. One challenge for FASB will be revising the rule such that it meshes with international accounting standards.