Mar 28, 2017

GST in ERP: Preparation

If your company is running on ERP, a smooth transition to GST will be the most important challenge that you could face in the coming quarter. With GST expected to roll-out as on 1st July 2017, the date act as a rigid constraint that you have to adhere to.

It is important to plan for the transition. The first step is to understand the implication of ERP and enumerate the key aspects that you should consider.

Here are a few of them.

1. Are you on the latest version? Every ERP Vendor has upgraded their applications to become compatible with GST. So the first step is to review with your ERP Vendor and ensure that you are on the correct version that is adaptable to GST. The information below may be dated. Please check up with the Product Vendor for the latest information.

2. Impact on Registration (Master Update 15 digit GST Registration Number), Returns (Monthly, Quarterly, Annual), Granularity (more details about type of invoices, HSN Codes), Payments, Refunds, Integration with GST Network (GSTN)

3. Impact on Transaction: How to handle Available Stock, Available input credit, Open Transactions like POs, SOs etc, How to handle partial receipts and partial shipments, how to handle Sales Agreements, purchase agreements, long term contracts, Blanket Purchase Orders, Blanket Sales Orders etc

4. Impact on Pricing

5. Impact on Special Transaction Cases: Sales Returns where Shipment made before GST and stocks returned after GST, Goods In Transit etc

6. How to prepare for the transition
  • Impact analysis
  • Version readiness
  • Report readiness
  • Data readiness (ensure correct and complete master data)
  • Transactions assessment and fitment to GST
7. 10 Changes required in ERP
  1. Ensure that the transactions process comply with GST. Some process might need detailed review. These include Interstate Stock Transfer, Outsourcing / Subcontracting etc. In addition, month end process will need to be reviewed to ensure accurate calculation and returns submission
  2. Ensure that Chart of accounts are updated with the required account codes and setups
  3. Ensure that RICE / CEMLI (Reports, Interfaces, Conversions and Extensions / Configuration, Extension, Modification, Localization, and Integration) components are properly updated
  4. Ensure that master data (Organization, Item, Vendor, Customer, Price List) etc are correctly and completely updated
  5. Reduce the number of Open Transactions / Documents (Open PO, Open SO, WIP etc) by closing / Cancelling them
  6. Complete partial transactions like Partial receipt (Receive in full or cancel) and Partial Shipments (Ship fully or cancel), Partial Production Orders (Complete the same, no WIP)
  7. Revalue Stocks if required
  8. Migrate existing tax credit from VAT and CENVAT and transfer them to correct accounts as per GST Law.
  9. Test the standard reports available in your ERP application
  10. Integrate with the GSTN

Feb 26, 2017

ERP For SMEs in India: A Presentation

Here is a presentation that I made to IMCI Bangalore on 'ERP for SMEs in India: Critical Success Factors, Risks, Challenges and Benefits'. This presentation will autorun with Slides Changing every 10 seconds.

Feb 12, 2017

Mr.ERP Consultant, are you Tiger Woods or PV Sindhu?



As all of us know, Tiger Woods plays golf

Some of you may not know Sindhu. She is the Indian badminton player who won the silver medal in the women's singles in the just concluded Rio Olympics.

With regard to the criteria for winning, these two games are philosophically different. In golf, you win by holding the ball in your  possession for as long as possible. In badminton, on the other hand, your success depends on how quickly you can transfer the shuttle to the opponent's court.

In golf, you keep the ball, you win. In badminton, you release the shuttle, you win.

Based on their approach to resolving issues, I categorize ERP consultants into two groups, Golfer and Badminton Player aka Woods and Sindhu

Woods keep the issues with himself. Most of the time, these issues are beyond his control, but he does not do a clean transfer of the issue to the relevant team that can get the issue resolved..

A typical conversation between me and Woods will go as follows.

Me: That issue, which had been open for the last three months, has it been resolved and closed?

Woods: No Ram, it is still pending. 

Me: Why this delay? What is the problem?

Woods: I do not have the required resources. In addition, I need infrastructure to test the solution.

Me: Have you asked the resourcing team for resources?

Woods: There is no use informing the resourcing team. They can't (won't) do anything. They do not help projects. 

Me: How are you planning for resources?

Woods:I am trying to talk to different project managers to get the resources.

Me: Why don't you escalate the issue? 

Woods: Ram, shall I tell you something? This is a bureaucracy, this Organization. Here you do not get any help, only mails get exchanged. You only have to manage to resolve your issues. Same is the problem with Infrastructure. The infra team cannot or do not help.

Me: Have you informed Infra team?

Woods: I sent a couple of mails. No response. Now I am trying to get the infra.

Me: Why have you not informed me yet?

Woods (looking peeved): Ram, this is not fair. I have been marking you in all the mails.

While Woods is the owner of the issue, he is holding on to challenges over which he has no control. 

He neither transfers, informs, escalates nor seek help.

Upshot? The issue (the golf ball) is stuck with him.

Sindhu thrives on transfer. She will only work on the items over which she has control. She will transfer all the obstacles to relevant teams and then follow up. She will use all means of communication, both formal and informal. She will not only transfer obstacles, but will receive formal acknowledgement that the other team has received the issue and are looking into. She will seek clarification from customer, escalate internally,  seek help and do everything till the obstacles are removed and the issue comes back under her control where she can take action. Her communication is action oriented, issue specific, explains the urgency of the information and sets the right context.
 
Sindhu, almost never, has anything pending with her that she is not working on.

Now you tell me....

Who can close issues faster? Woods or Sindhu?
Who gets better customer satisfaction ratings? Woods or Sindhu?
Who keeps complaining? Woods or Sindhu
Who is a problem solver? Woods or Sindhu?

What kind of consultant are you? Woods or Sindhu?
You tell me.....

Jun 21, 2016

IFRS15 / ASC606: Revenue Recognition Standards: Challenges and Opportunities

What is IFRS15 / ASC606?
The .converged standards for revenue recognition released jointly by FASB and IFRS brings about significant changes to the way Organizations recognize revenue from contracts. These changes aim to standardize the revenue recognition processes across industries and jurisdictions and will impact most of  the industries in about 85% of the countries worldwide which follow either US GAAP and IFRS 
reporting standards. 

The core principle of the new standard is that "an entity should recognize revenue in an amount that reflects the consideration that the entity expects to be entitled to in exchange for goods or services." There are five steps to revenue recognition under the standards

1.  Identify the contract(s) with the customer
2. Identify the performance obligations in the contract
3. Determine the transaction price
4. Allocate the transaction price to the performance obligations
5. Recognize revenue when each performance obligation is satisfied.

The new standards are a departure from the existing standards in four ways.

1. Unit of accounting for contracts is Performance Obligation and not Deferred Revenue. Each PO creates a Liability in the books of accounts as soon as either party 'performs'. PO liability is expressed in monetary terms as against deferred revenue which is non-monetary liability
2. Revenue schedules have been replaced by performance obligations.
3. Revenue and billing follow separate accounting paths. A receivable is generated when nothing other than passage of time exists between satisfaction of PO and the consideration due to the entity.
4. The first four steps in the five step process above must be completed at inception of the contract and should be reviewed on a regular basis.

Challenges to business
The new standards pose significant challenges to the business in terms of adoption and maintenance. 

Some of the challenges are:

1. Restatement of the prior years financial statements: The new standards require the retrospective adjustments of the the financial statements. One of the adoption approaches is the Full Retrospective Method, where Organizations need to restate their revenue, based on the new standards, for the two fiscal years preceding the date of inception. This means that they should restate their financial reports for Fiscal Year 2016-17 and 2017-18 and go live on the new standards from FY 2018-19. Since this restatement will have revenue implications, the Organizations will need to disclose the changes in advance to the investors. 
2. All the existing open contracts will need to be revisited and modified to adopt to the new standards. This will be challenging for some companies that have long-term contracts spanning a number of previous years. 
3. The new standards expects the Organization to make a significant number of judgements while deciding on various aspects related to the contracts. It is expected that they make these judgement based on auditable and transparent processes and information.  Organizations will need to make significant investments in implementing appropriate analytic solutions that can provide supporting data for their decisions.
4. The revenue information for contracts could be lying in multiple applications. It will need  technical effort to bring them on to a single location for analysis purposes. 
5. Since about 25 key process of the business is impacted by the new changes, Organization will face challenges related to process change and stabilization
6. There will be challenges related to talent acquisition, training and retention of the talent (especially IT and Accounting Talent).
6. Even during post adoption steady state phase, the contracts will have to be reviewed and modified based on updated information. This will call for further IT and Finance Support.

Opportunities
For the customer these changes provide an opportunity to revisit their current business processes and put in place systems and processes that will improve the business effectiveness.

Product vendors could look for significant jump in demand for their solutions as customers look for COTS products that can handle the challenges.

For implementations consultants this is a big opportunity to review and re-engineer an Organization's current business processes to support the new standards.  

Business requirements
Any solution to support the new standards should have the following minimum features.

1. Rule based, Automatic generation of contracts from elements lying in disparate applications
2. Rule based, automatic identification of performance obligations
3. Ability to seamlessly integrate (360 degrees) with multiple applications
4. Audit trail, approval processes and processes for review and oversight of contracts
5. Role based access control
6. Ability to calculate standalone selling price from existing sales transactions
7. Ability to manually upload standalone selling price or estimated selling price when historical information is not available
8. Ability to modify the interfaced information to support additional analytical requirements
9. Rule based, automatic allocation of transaction prices
10. Automatic / manual recording of satisfactions of performance obligations
11. Rule based, automatic revenue recognition and its accounting reflection 
12. Ability to iterate the process above by modifying the rules till Organization is satisfied with the outcome. Ability to freeze the approved solution.
13. Ease of generating analytical and operational reports for process review, audit and decision support requirements.

Conclusion:
The new converged revenue recognition standards (IFRS15 / ASC 606) while challenging to the Organization, also creates opportunity to revisit the existing processes and implement process changes to improve business effectiveness. While the adoption date is fiscal year starting 1 January 2018, Organizations will have to start planning and preparing for the changes from about now. This will give them time to put in place proper systems and processes to prepare for the transition to new standards. In addition, an early start will also help Organizations to execute the talent acquisition and retention strategies required to handle the new standards.

Organization will require IT support to adopt to the new standards. Many vendors are coming out with COTS products that will handle the requirements. I have noted down bare minimum feature list that any such product should contain. Customer can evaluate the products based on the feature list discussed here.

Jun 8, 2016

Three types of Cost Adjustments in OPM Financials...

There are three types of cost adjustments possible in OPM (Oracle Process Manufacturing) Financials. These are:
  1. Average Cost Adjustment
  2. Value Adjustment
  3. Unit Cost Adjustment
Average Cost Adjustment is like a logical inventory transaction. In this you enter the unit cost of the item to be adjusted as well as the quantity of items. This adjustment will work like any regular material transaction as far as cost is concerned. 

OPM Actual Cost Process Engine uses the following formula to calculate the cost of the item in case of an Average Cost Adjustment.


The following two examples will illustrate the concept of Average Cost Adjustment.

Example 1: (Transactions in the current period)
Prior Period Quantity = 1000
Prior Period Cost        = 12
Current Period Receipt Quantity = 500
Current Period Receipt Unit Cost = 10
Current Period Cost Adjustment Quantity = 200
Current Period Adjusted Cost / Unit = 3 (Increase)
Current Period PMAC Cost = ([1000 X 12] + [500 X 10] + [200 X 3]) / (1000 + 500 + 200) = 13.53

Example 2: (No transactions in the current period)
Prior Period Quantity = 300
Prior Period Cost = 3
Current Period Adjustment Quantity = 50
Current Period Adjustment Unit Cost = 0.75
Current Period PMAC Cost = ([300 X 3] + [50 X .75]) / (300 + 50) = 2.68

Value Adjustment is used in cases where you want to adjust the value of the entire inventory at a particular amount. In this case you do not enter any quantity in the transaction since the entire inventory is adjusted. 

OPM Actual Cost Process Engine uses the following formula to calculate the cost of the item in case of an Value Adjustment.

 
The following two examples will illustrate the concept of Value Adjustment.

Example 1: (Transactions in the current period)
Prior Period Quantity = 1000
Prior Period Cost        = 12
Current Period Receipt Quantity = 500
Current Period Receipt Unit Cost = 10
Value Adjustment = 7000
Current Period PMAC Cost = ([1000 X 12] + [500 X 10] + 7000) / (1000 + 500) =16

Example 2: (No transactions in the current period)
Prior Period Quantity = 300
Prior Period Cost = 3
Value Adjustment = 100
Current Period PMAC Cost = ([300 X 3] + 100) / (300) =3.33

In case of Unit Cost Adjustments, the system uses a two step process to calculate the unit cost of the item. 

In step 1, the system calculates the unit cost of item without considering the Unit Cost Adjustments. In the step 2, the cost calculated in step 1 is added to the unit cost adjustment to calculate the final cost of the item. The formula to calculate the item cost is shown in the diagram below.



The following example will illustrate the concept of Unit Cost Adjustment.

Example 1: (Transactions in the current period)
Prior Period Quantity = 1000
Prior Period Cost        = 14
Current Period Receipt Quantity = 500
Current Period Receipt Unit Cost = 11
Current period adjustment quantity = 300
Current period adjustment cost = 4 (Increase)
Value Adjustment = -7000 (Decrease)
Unit Cost Adjustment = 2.5
Step 1: Current Period PMAC Cost (Without Unit Cost Adjustment) = ([1000 X 14] + [500 X 11] + [300 X 4] - 7000) / (1000 + 500 + 300) = 7.61
Step 2: Current Period PMAC Cost (With Unit Cost Adjustment) = 7.61 + 2.5 = 10.11

May 30, 2016

Framework for Inventory to GL Reconciliation in Oracle Apps

Mr.Amar Sharma, CFO of Prime Agro Foods Limited (PAF) was a worried man.

PAF had implemented Oracle Applications in his company recently. Production Go Live was done with a lot of fanfare but post go live, the implementation was beset with a lot of problems. Most of the issues could be tracked to errors in the intake of opening balances and sub-optimal user training. 

Post Implementation, PAF requested my services for stabilizing their ERP Implementation. In my first meeting with Mr.Sharma, I asked him what is one area that I should focus on.

"One of my key requirements from ERP was that I should get the correct profitability figures from the system. This means that I will need the Product Group wise revenue and breakup of costs  component wise. ", he told me.

While I understood his expectations, I asked him to clarify what he meant by the term 'Breakup of Costs Component Wise'.

"The Cost of Good Sold will contain the following components. One is the cost of materials consumed. This is the cost of the materials consumed in the production process. Two, is the direct overheads. This is also known as Factory Overheads. This includes cost of machine usage, cost of direct labour used in the production process etc. Component three is the cost of indirect overheads, which include rent on premises, cost of cleaning and sanitation of premises, cost of electricity, water etc that is used in the factory. The cost of goods sold is the sum of the three components above, vis. COGS = Cost of Materials Sold + Direct Overheads + Indirect Overheads"

"What is the current status? Are you getting these information?" I asked Mr.Sharma

"No, currently I am neither getting the correct consumption figures nor is my inventory balances tallying with the GL Inventory Value. This means that I neither have a realistic number about my inventory nor do I get a correct figure of my consumption. I am not able to give a profitability number to my management, my MD is very irritated with me and the whole ERP Implementation."

I nodded my understanding. Sadly, this was the case in many of the implementations that I had opportunity to work on an advisory capacity. These two aspects, Inventory Reconciliation and Consumption Valuation are inter-related. Once you get one part right, the other part will automatically fall in place. 
Inventory to GL reconciliation is one of the most difficult challenges facing the ERP Implementation Consultant (during the implementation phase) and the Inventory Accountant post go live. There are three reasons why Inventory to GL Reconciliation is challenging.
One, the 'perpetual accounting method' that ERP use to account for Inventory Transactions. Traditionally inventory is accounted through a method called 'Periodic Accounting'. In this method, Purchase Account is debited at the time of purchase of an item. At the end of the month, the closing physical inventory is taken. The cost of materials sold is calculated by the formula, Cost of Materials Sold = Opening Inventory + Purchases - Closing Inventory. 
Why do the Organizations use 'Period Inventory Accounting'? This method is used because, the inventory transactions are large in number and are more frequent and is done a the store by a store clerk who is not an expert in accounting. Period Inventory accounting lets Organizations segregate inventory transactions from inventory accounting.
ERP Applications use 'Perpetual Inventory Accounting'. In this method, the inventory transactions and inventory accounting are tightly coupled. In this method, for every inventory transactions, Inventory GL Account is debited or credited (Debit for inventory receipt and credit for inventory issue). The only P&L impact is when the material is issued. For each material issue and expense account is debited and the inventory account (a balance sheet account) is credited.
Ideally this is the better approach, but it is fraught with many challenges. Configuration could be wrong-Some inventory transactions could be going to a different account than anticipated, unaccounted transactions, transaction errors, timing differences.. All could lead to reconciliation mismatches.
Two, lack of conceptual clarity (by the user) of the costing method and reconciliation concepts. The second reason is essentially a lack of understanding of 'What information to look for' and 'Where to look for it'. Material costing / valuation is concept oriented. Each costing method works in a different way and provide different output. For example, FIFO, FEFO, WAC, PMAC, Lot Costing and Standard Costing all work differently and provide different valuations for the same inventory. (If you do not know what each of them are, read (THIS). So a consultant, not only should know the costing method used, but also should know why that particular method is used in the first place.
When it comes to reconciliation concepts, there is internal reconciliation (within the sub-ledger) and then there is external (GL) reconciliation.
Three, large number of transactions. This is self-explanatory. Due to huge number of inventory transactions, identification of reconciliation issues is very challenging. One needs a structured approach to process the reconciliation and identify and resolve reconciliation issues.

"Sadly the problem that you are facing is not new. This is the case in many ERP Implementations that I have reviewed. It has come to a stage where I can review any implementation and ask a question, how are you reconciling inventory with GL and be responded with blank stares". I told Mr.Sharma

"So what is the solution to the issue? Are we to live with this mess for the rest of my tenure here? If this goes on, I can be sure that it is going to be a short one", mused Mr.Sharma bitterly.

"Don't you worry, you are in expert hands", I tried to pacify him, "I will help you resolve the issue. In my line of work, you can't become an expert without handling such challenges"

"How will you do it?", Mr.Sharma looked up, perhaps the first time, with hope in his eyes.

"First of all, I have to explain to you some concepts", I replied, "There are four data points to be considered while trying to reconcile Inventory to GL. Two of them are in GL and two of them are in Sub-ledger. The four data points are:
  1. GL YTD Balances for Inventory group of accounts
  2. GL Period balances for the Inventory group of accounts. 
  3. Inventory Period End Balances in Inventory Sub-ledger
  4. Inventory Transactions in Inventory Sub-ledger.
All of the four data points are linked together by the cost of inventory.

The four data points are shown in the diagram below.

Inventory closing balances should tally with GL YTD Balances and Inventory Transactions should tally with GL Period Balances", I concluded

"I am impressed", said Mr.Sharma. Coming from a CFO, it is a huge compliment. They are not normally given to expressing their emotions. Normally they are dour and acerbic and morose. (I am joking Mr.CFO, I am sure that there are pleasant CFOs out there, like Unicorns or something)

"Thank you Mr.Sharma", I replied graciously. "Coming to the reconciliation process, and here I am using reports in Oracle EBS as a reference, there are four reconciliation points that you have to consider. One could call them the 'Four Pillars of Reconciliation'. While one of them is the internal reconciliation (Within the sub-ledger), the remaining three are a part of external reconciliation (Sub-ledger to GL). These are:

1. Net Value of Inventory Transactions for the period = Inventory Valuation Report for the current period - Inventory Valuation Report for the previous period. (Internal Reconciliation)

2. Net Value Inventory Transactions for the period = GL Period Balances in Inventory Account for that period (GL Reconciliation 1)

3.  Closing Value of Inventory as per Inventory Valuation Report = GL Inventory YTD Balance in Inventory Account (GL Reconciliation 2)

4. COGS Value from OM Subledger = PTD Value of Material Consumption Account + PTD Value of Direct Overheads + PTD Value of Indirect Overheads (GL Reconciliation 3)

The above processes are shown in the diagram below.



"I see that in GL Reconciliation 3 above, you have an item called 'PTD Value of Material Consumption Account'. That should be my material consumption, correct?", asked Mr.Sharma

"Consumption is value of materials consumed in the process. Ideally it should be the PTD Value of Material Consumption Account as shown in point four above. However, in case you also have 'Miscellaneous Inventory Issue' transactions, you have to add value of those transactions to the above to get the consumption numbers.", I replied

"The formula is: Consumption for the Period = PTD Value of Material Consumption Account + PTD Value of Miscellaneous Issue Account", I continued


"You mentioned earlier about a structured approach to inventory reconciliation? What do you mean by that?", queried Mr.Sharma.

"Yes, I did mention 'structured approach'. In my opinion, there are various aspects to this. The approach starts at the time of solution design itself. User should have a clear view of various inventory transactions - Miscellaneous receipt, miscellaneous issue, PO receipt, Sales Issue, PO Returns, PO Corrections, Sales Returns, Physical Inventory Adjustment, Cycle Count Adjustments, Issue to Production, Production Yield, Material Transfer (to name a few) - how they should be accounted and how they are accounted. In addition user should be aware of additional cost generating transactions (without any material transactions) including cost adjustments, cost allocations and cost revaluations and how these impact Inventory Accounting. All these impacts should be tested thoroughly and documented clearly.

The next aspect is to build in adequate controls in the system so that Inventory account are not impacted by manual intervention. Most ERPs provide a whole host of system features to prevent manual interventions to the 'Control Accounts'. These controls should be tested, documented and implemented. In addition, the access to material transactions should be limited to Store Keepers and Store Managers. There are additional control features that the user can implement regarding the system configuration accounts.

Another aspect to the structured approach is to start reconciling from top down. This is something that I have found useful. Normally you should start reconciling at the global level and down through the individual warehouse level an through the transaction sources level. It is very easy to get overwhelmed by the volume of transactions and the hugeness of the effort required to reconcile the same.", I concluded.

"Wow ! that is a lot of information for me to handle", said Mr.Sharma. "I am very happy that you are here to support us. We SMEs do not have the capability to review the caliber of the consultants. We are fortunate that we found you. I am sure that with your expertise, we will be able to stabilize our ERP System much more quickly than normal". 

"Thank you sir. I will try my best. May I say that I may be a bit expensive, but I am the best insurance you have against delay in stabilization of your application and the delay in getting ROI on your ERP Investment.", I concluded.

Post Script: You can also read THIS POST

About me: I am a senior ERP Consultant / Expert / Advisor. I can be contacted at vkrama01@gmail.com or Twitter @vkrama01

May 6, 2016

Revenue Recognition for Multiple Element Arrangements....

Revenue recognition for Multiple Element Arrangements, also known as Bundled Sales or contracts, is a hot issue for CFOs these days. At the heart of the issue is how you standardize the revenue recognition across multiple contracts.

Let us take an example. Assume that you, ABC Incorporated,  are signing contracts with two different customers for selling Hardware, Software License,  Implementation Consulting Services and PCS . The total contract value is the same in both cases, $10 Million. However the breakup of charges for each element vary across the customers.

The price breakup in the contracts is as follows:

 
Your normal practice is to recognize revenue for Hardware and Software at the contract value as soon as you bill the customer. So you recognize $8.5 Million on signing contract with Customer A and $6 Million on signing contract with Customer B.

Now the following questions arise? What is the correct value? How can you standardize the revenue from the same element across contract? How do you standardize the revenue recognition process across different customers in the same Company? If you are the body that sets accounting standards, your challenge will be how to standardize the revenue recognition process across the industries with similar business processes so that investors can make an informed choice?

This is where the new accounting standard come in. They aim to establish standardization in revenue recognition by prescribing the process by which an Organization can calculate Fair Market Value (FMV) of each element in the contract. FMV is calculated based on the data from standalone sales pooles. Once FMV is calculated, the next step is to use the calculated FMV to create revenue adjustments for each Multiple Element Arrangement (MEA, loosely can be called a 'Contract')

Here is a high level  flow diagram of the entire process.

 
Once the transactions from standalone systems are integrated into your revenue management system (I am assuming you have one, at least a manual system) the first step is to identify the FMV of each of the elements in a Contract. Once you know the FMV, it is easy to standardize the revenue recognition.

That is where the evolving revenue recognition standards being discussed by various accounting standard bodies, like IFRS, FASB and AICPA comes into picture. These bodies have come out with extensive criteria on how to identify FMV.

The widely discussed FMV method is VSOE, expanded as Vendor Specific Objective Evidence. In this method of calculating FMV, the Organization looks at Standalone sales of each element in the contract and try to identify a narrow band within which the FMV Calculation Criteria (Discount %, Unit Price etc) falls and fix the VSOE as a value anywhere within the band, of course, ensuring consistency of the criteria across contracts and across periods.

What if sufficient standalone sales are not available? What if it is a new product being brought into market for the first time by the Organization? In this case the standards are flexible. If similar products / services are being sold in the market by one or more competitors, the Organization could use that value as the FMV for their product / service. This approach of calculating FMV is called TPE, expanded as Third Party Evidence. If your product is totally new to the market and both VSOE and TPE do not exist, then you can fix your own FMV, after following a rigorous approval process. This approach is called ESP, expanded as Estimated Selling Price. Both TPE and ESP are estimations. Caveats while using estimated FMV? One, you should have  back up calculations to support your estimations and two, you should quickly move to VSOE as soon as you build up enough standalone sales pools history for your product / service.

The priority of using FMV in the case is VSOE, followed by TPE, finally followed by ESP.

'Sales Pool Stratification' is a very important aspect to consider while identifying the Fair Market Value. You may have different FMV for Quantity (you may be giving quantity discount), different FMV based on Sales Value (different discounts if the contract value is less than 1 Million, between 1 Million to 5 Million, 5 Million to 50 Million etc) or different FMV for the type of customers like Commercial, Individual, Educational Institutions, Government etc or different FMVs for different Geographies.

So you fix (the technical word is 'Establish') the Fair Market Value for each combination of Element - Currency - Sales pool strata

Having fixed your FMV, you now move on to the second step, that of identifying the MEA where this FMV may be applicable. If you are running on ERP, each element in the above contract will be entered in different applications including your billing system, contract management system, order entry systems  etc. You have to use common criteria like Sales Agreement Number or Customer Purchase Order Number to group all these disparate transactions into individual MEAs. Each MEA may contain different elements with their own 'Performance Obligations'.

The third step is to create revenue adjustments to these contracts so that the the revenue recognition can be as per the new norms. Why revenue adjustments? When you entered your transactions in the billing system, you would already have accounted for the revenue as per your normal process. Now that the individual transactions are grouped into MEA, you have to create revenue adjustments like 'Carve-out' or 'Carve-in' to allocate the revenue across different elements in the contract as per the new norms.

Fourth step is Revenue Recognition. This is where the system recognizes the revenue for each element in the contract and generates accounting events / accounting entries to create the appropriate revenue adjustments. As a part of this revenue recognition, it is also required to do COGS recognition so that the COGS match with the revenue.

The fifth and final step is to post the accounting entries to GL and report your financial numbers to the investing community.

Organizational Challenges
Some of the challenges that the organization will face are:

1. Mismatch between Revenue and Billing leading to inadequate representation of period activities. The new standards has an effect of deferring current period revenue to future periods and this could create mismatch between business activity (winning new contract) and the appropriate revenue recognition. To that extent you may have to understate your revenue. On the other hand, since the deferred revenue from the contracts in the past periods is recognized in the current period, Organization could show revenue even without any business activity in the current period. So both understatement and overstatement of revenue is possible.

2. Mismatch between cash flow and revenue. Logic is the same as above.

3. Manual calculation of VSOE is next to impossible. With huge number of standalone sales pools, with contract spread across different geographies, with contracts containing different types of discounts etc, manual calculation and recalculation of FMV is challenging.

4. Grouping transactions lying in different subsystems to MEAs with multiple performance obligations is a difficult task if handled manually. Challenge start with identifying the applicable transactions. Remember these transactions will be grouped into MEA and hence should not be used in VSOE calculations !. Separating standalone transactions in source systems into those that can be used to create FMV and those that will be grouped into MEA is a huge challenge to do manually.

5. Creating Manual Adjustments for Carve-out and Carve-in for each MEA can be challenging.

6. Finally simulating the entire cycle above multiple times till you reach an acceptable VSOE, Revenue Recognition and Financial Numbers is impossible to do manually and if done manually can be error-prone and lead to adverse audit comments.

Features to look for in a Revenue Compliance Application
The upshot of all these challenges is that you will require systems capable of handling all the above challenges. What could be the top ten features any revenue compliance and management system should have?

1. The system should be integration friendly. Since the revenue management system has to integrate with third party billing, contract management and order management system it should have simple, user friendly inbound integration interface. Best will be to have an easy Excel integration.

2. System should be capable of separating standalone sales and contracts.

3. Automatic calculation and recalculation of VSOE for each element-currency-Sales pool strata combination using data from stand alone sales pools

4. Audit facility. Ability to track manual interventions

5. Facility to establish, approve, cancel approval and re-establish VSOE

6. Ability to handle different types of FMV including TPE and ESP

7. Ability to automatically identify MEA and Performance Obligations.

8. Ability to approve and create automatic and manual revenue adjustments to MEA

9. Outbound Integration with GL Applications. Either automatic integration with internal GL System or flexibility to deliver Output datafile in different formats like .CSV, .TXT, .XLSX, .DAT etc.

10. Finally, extensive reporting capabilities including in-built reconciliation reports between Billing Data, Revenue Adjustment Data and Accounting Data. Additionally, the system should also allow user to create Ad-hoc reports on the fly.

Conclusion
The new revenue compliance and recognition standards which are expected to be effective from 1st January, 2018, introduces a number of challenges for the CFO in identifying and using Fair Market Values for contract revenue recognition. The objective of this article  is to provide an overview of the upcoming changes (they have been in use from 1997, in that sense they are not 'upcoming') and their implications to an organization from the financial reporting perspective. There are systems out there which can help the CFO to automate the revenue compliance and accounting process. I conclude this article by identifying some of the features that should be considered while procuring a revenue management system to support your revenue compliance requirements

Update:
In May 2014, FASB and IFRS has made a number of modifications to the revenue recognition standards. They have come up with a converged standard FASB through ASC 606 and IASB through IFRS15. Some of the key aspects of the above note has been discarded. For example, VSOE no longer exist. MEAs in above have been replaced with 'Contracts' and the definition of 'Contracts' have been enlarged to incorporate more elements, both explicit and implicit. Revenue recognition accounting has undergone significant changes. Revenue Carve Out accounting is no longer applicable for example. This has been replaced by 'Contract Assets' and 'Contract Liabilities'. Organizations are supposed to identify the 'Transaction Price' at the inception of contract and are supposed to report any changes in the transaction price during every quarterly reporting. These are some of the changes. I will post an updated post sometime later.

About me: I am an ERP professional who has done some work on the new Revenue Compliance process and challenges. If you need more information, you can contact me in twitter @vkrama01 or by email vkrama01@gmail.com. Since you are reading this post in LinkedIn, why don't you message me here itself?

May 5, 2016

VAT Claim Processing in Oracle Applications 12.2.4

I am giving below a few setups and processes to Claim VAT in Oracle 12.2.4 India Localization. Key setup missing is configuring VAT Regime. I am assuming that the same is already configured.
  • Create a new item
  • Assign it to an Organization
  • In India Local Inventory, attach the item to VAT Regime. Navigation: VAT/Excise Item Classification >>(B) New
  • Select Operating Unit, Item / Template assignment as 'Item Attributes' and click (B) New
  • Select the regime name from List of Values
  • Select Organization from List of Values
  • Enter Item Name. Enter the attributes. 
    • Applicable   - Yes
    • Recoverable - Yes
    • Item Class    - Raw Materials
  • In case you have created a new sub-inventory attach the sub-inventory Location. Navigation: India Local Inventory >> India Localization >> Sub-inventory Location
  • In the Organization Field, query for your Organization
  • Location will default
  • In the Child Block, enter sub-inventory name. Save and Exit.
  • Create a PO with values as follows: Quantity: 100  Cost: 100, CST: 10%, Recoverable VAT Tax: 12% (Of course CST and VAT cannot be in the same PO, but this is only a test scenario to test some concepts. Instead of CST you can choose any non-recoverable tax. Remember VAT Tax has to be recoverable for the purpose of this test.)
  • The Ship To Organization should be same as the one to which the item is assigned and where you have configured Sub-inventory Location
  • Create a GRN in India Local Purchasing. 
  • Save and exit. If you have created the GRN from India Local Purchasing Receipts form, when you save and exit, the system will run the India Receiving Transaction Processor (IRTP). This process will create the India Local Accounting Entries for taxes in the GRN.
  • In our test case, IRTP will create the following accounting entries. These entries are created directly in 'GL_Interface' table. The source will be 'Purchasing India'. 
  • You have to run the 'Journal Import' process to transfer the journals to General Ledger. 
  • The Accounting Entry created is:
      • Receiving Inspection Account          Dr    1000 (for non-recoverable taxes)
      • VAT Interim Recovery                      Dr     1200
      • AP Accrual Account                         Cr      2200
  • Next step is to claim VAT
  • Navigate to India Local Purchasing: India Local Purchasing >> India Localization >> Receipts >> Receipts (Localized)
  • Query the receipt number. Click 'Find'
  • The Receipt opens. Click on 'Claim VAT'. In the 'Claim' Block in the middle, enter 'Procesing Action' as 'Claim',. enter Supplier Invoice Number, Invoice Date and click on 'Populate Defaults'. Vendor Name and Site Name will default
  • Click 'Save' icon. This will start the process 'India VAT Claim Processor'.
  • Once this process is completed, an accounting entry will be created in GL_Interface table with source 'VAT India'. Import the journal to GL
  • Following Accounting Entry is created:
      • VAT Recovery Account                    Dr      1200
      • VAT Interim Recovery Account       Cr       1200
  • Note: VAT Recovery and VAT Interim Recovery Accounts are configured when you define the VAT Regime in Oracle India Localization.

Apr 26, 2016

Lot Costing: Costing Solution for Commodity Industries...

Caveat: This is an imaginary situation designed to explain a concept. I have used Agro Products as an example since I have expertise in that industry. I have used Oracle Product since I have implemented multiple costing solutions in that product. Almost all the commodity based industries, including Oils and Fats, Jewellery etc face similar costing challenges. The situation mentioned in this post is based on many a average ERP implementation that I have seen in my career (Other than those implemented by me, of course. :). If you see similarities between your case and the case of PAF, especially relating to Post Implementation Challenges, probably you should give me a call ASAP.

With that out of my chest, let us jump right in into the blog post. 

Mr.Amar Sharma, COO of M/s Prime Agro Foods (an imaginary company) specializing in the manufacturing and selling of Spices and Agri Products, was a worried man. 

About a year and half ago, his company had implemented Oracle Applications ERP with much fanfare. The enthusiasm soon fizzled out as the quality of implementation was average and  the implementation discipline was not adhered to in many cases, resulting in some major disturbance to the business post ERP Implementation. The challenges were the same as you see in many projects. Inadequate training, lack of user involvement and ownership, Data Conversion gone wrong and rectified....etc. I got into the project 4 months after it had gone live. I remember that there were a lot of challenges at that time. We, me and the PAF IT Team,  patiently identified and filled the gaps in the implementation with active support from the Product Vendor. Now, after about a year since my entry, the application had stabilized and Mr.Mehta, the owner of PAF, had started demanding that the senior management provide management reports from ERP itself. In fact he has gone to the extent of informing the managers that they should 'Log In' to the application during the meeting and run the reports from ERP and discuss the same during the management review meetings. 

(Mr.Mehta had given one month for his managers to get the relevant reports developed. It was a struggle since none of the management report requirements had been discussed during the implementation and with the owner's demand, there was a mad rush to identify, develop, test and move the reports to production. I had played a key part in this endeavor since I had deep expertise in the entire application landscape of PAF.

PAF is a company categorized as 'SMB' (Small and Medium Businesses) with a revenue turnover of about 300 Crores per year. While evaluating the ERP Applications, the solution from Oracle seemed to be the best fit for the Organization.  The product vendor and the implementation partner had promised PAF that Core Oracle Applications, called eBusiness Suite (EBS) with their Process Manufacturing (OPM) application was the widely accepted solution for a process manufacturing organization like PAF. It also helped that other customers in similar industry were  running on this solution.

The applications implemented in PAF were:
  • Oracle Purchasing
  • Oracle Inventory
  • Oracle Process Manufacturing
  • Oracle Process Manufacturing Financials
  • Oracle Order Management
  • Oracle Financials, including Accounts Payables, Accounts Receivables, Cash Management, Oracle Assets and Oracle General Ledger
  • India Localization for Financials.
During the implementation, there was some discussion on Costing Method to be adopted. In the end it was decided to implement PMAC (Period Moving Average Costing), the default costing method in OPM Financials as the Costing Method for PAF.

(There was a discussion on the feasibility of using Standard Costing. But the CFO had rejected Standard Costing saying that with the Agri Commodity Prices being decided at the global level and with the Raw Material Availability being seasonal in nature, the cost drivers were external to the Organization and it was not feasible for the company to fix Standard Costs for its procured ingredients.)

So the company chose PMAC. Now that the ERP had stabilized, the key personnel in the company were beginning to feel the impact  of choosing that costing method.

[ PMAC calculates the product costs on a periodic basis, known as costing period, which normally each month. It is a Quantity Weighted Average Method of Costs calculation. The formula for calculating cost of the current period is given by the formula:

Cost of the Current Period = ((Prior Period Closing Quantity X Prior Period Cost) + Sum of(Current Period Transaction Quantity X Transaction Cost)) / (Prior Period Quantity X Sum of Current Period Quantity) ]


I know Mr.Sharma on a professional basis. He had been my 'Go To' person for any executive decisions during my 10 months tenure in the ERP Stabilization Project in PAF. Having worked together he knows about my expertise in Oracle ERP in OPM Financials environment. Over a period of time I evolved to become his 'Go To' person when he wanted company to have a beer with  and unburden his frustrations about how ERP is complicating his simple business..We had not spoken for over two months since I moved out of the project.

Today he had his weekly review with Mr.Mehta and the review had not gone well. When he called me up, Mr.Sharma was very agitated.

"Ram, ERP is not beneficial to me as a COO of a Agro Product Company", he told me

I was surprised. "Why do you say that? Last time I spoke to you, you were very happy that ERP has stabilized".

"That is true, when I spoke to you last time, I was satisfied that after about a year and a half of struggle post go-live, we have stabilized the ERP. Of course, I have to acknowledge your excellent support in getting us out of the abyss that we were looking at. In fact, till you came along, we did not even realize that ERP has so much potential to track and manage our business."

"It was not me", I responded, "It was you who stabilized the ERP System. Without the commitment of Senior Management, and your decision to invest in special expertise (me), it would have taken at least another year for you to stabilize and that too, it would have been a sub-optimal stability.  If we had not rectified some of the original design issues, ERP would have been a mill stone around your neck, and not a  facilitating software, that you have now." 

"I know that Ram. But now that management is demanding more I see that I am not able to provide the information.", complained Mr.Sharma.

"What is the problem?", I asked.

"You know my industry. Our raw materials being commodity, we have no control over the input prices. Add to that the availability of our ingredients is seasonal. During season, we procure ingredients through auctions and we buy in different batches on different days. For example, if I buy Chilly, I might buy the same on different batches on 1st, 15th and 28th of Month One and 7th, 10th and may be 25th of Month two etc. I might be buying each of the batches at different prices."

"I am very clear of the prices that I paid for  each batch. So when I have to produce the FG today, I look at the costs of various batches and selects the batch that will give me the greatest profit as on today's price. That way I always ensure a profit margin on the sales. Since I am selecting a specific batch to input to production, I am not using FIFO."

"Till Mr.Mehta started demanding reports from ERP, I used to ask my team to prepare a simple profitability sheet showing the Cost of the Input Material and the derived cost of the output material. I was able to show regular profitability on my sales. Mr.Mehta used to be happy about my cost management expertise. But with ERP, everything has turned topsy turvy.", said Mr.Sharma.

I could see where this was headed. But I wanted to know more. I asked him to elaborate.

"Take for example the production of the current month. This is a lean season and commodity price is about 250 Per Kg. I have batches that I procured at 200 Per Kg, 250 Per Kg and 325 Per Kg. All the three batches were procured during the same month during the last season. I chose the batch costing 200 per Kg to produce the FG. So our cost is 200 per KG (as per me), and the selling price is 250 per Kg and hence we made a profit of 50 Per Kg. However, as per ERP, the PMAC Cost is showing 255. So as per ERP, I made a loss of 5 on sale of each Kg of the Finished Product. Now Mr.Mehta is doubting all my previous profitability projections. Now I have to prepare a reconciliation sheet integrating my calculations and ERP calculations. Unnecessary additional effort", commented Mr.Sharma.

"If only ERP had a method of costing based on batches procured", said Mr.Sharma wistfully. 

"There is", I told him, "There is a costing method in OPM suited to just this type of situations.", I told him.

Mr.Sharma was interested. "Tell me more about this costing method".

"This costing method is called 'Lot Costing'. It is a combination of Specific Costing and Transaction Weighted Averaging. What this method does is to track the costs per batch ('Lot' as in OPM Terminology). The cost of the lot is tracked till the time quantity exists in the lot. If you add multiple purchases to the same Lot, it does transaction weighted averaging within a lot."

"When you use a lot in the production order, the cost of that Lot flows into the FG. In your case, if you were using Lot Costing, you would create different Lots for purchases at different dates. The cost of each Lot will be the price that you paid for that Lot. So, when you use the Lot in Production, the cost of that Lot flows into the FG. If you receive FG also in Lots, each Lot of FG will have the costs associated with the specific Ingredient Lot. In your example, if you use the Lot costing 200, the cost of FG Lot would also be 200 and when you sell that FG Lot at a price of 250, Oracle will recognize a COGS of 200, revenue of 250 and bingo ! there is your profitability."

"Now that we have gone live on PMAC, can we use Lot Costing now? How much effort will it entail? Will you be able to handle this? Have you implemented Lot Costing anywhere?" Mr.Sharma had so many questions.

"To answer your questions one by one. First question that you ask me if you can start using Lot Costing now. The answer to that is a qualified 'Yes'. OPM allows you one costing method for accounting and inventory valuation, but you can have many costing methods for cost analysis. For  accounting and inventory valuation you are currently using PMAC. Changing that now, is feasible, but will entail more effort and may destabilize your nascent ERP Implementation. So for your case, we can define Lot Costing as a costing method for cost and profitability analysis. That is simple to achieve. For your business, it may entail about 40-50 person days of effort including configuration, testing, user training and data conversion", I said

"That means, I can do away with the creation of the Reconciliation Sheet that my team is making at the end of every month. That will definitely save us about 6-8 Person Days per month. Which means about 80 Person days of effort in a year. So I get my payback in about 6 months Also, since data is coming from ERP, Mr.Mehta will also be satisfied", said Mr.Sharma thoughtfully.

I nodded in ascent. "You ask me if I have the expertise of handling this. The answer is yes. I am probably the first consultant in the world to have implemented Lot Costing. When we implemented it, there were many issues, but we patiently resolved each one of them. We did so many tests, raised so many SRs (TARs as they were called back in 2004) that I was called TARZAN (I smiled at the thought). But the upshot is that we (I along with an excellent resource from the customer team and with excellent support from the Oracle Support Team) stabilized the product. So, to answer your question, I have done it and I can easily do it.", I concluded

"So lets get this done. You send me a T and M proposal for implementing Lot Costing for Cost Analysis at PAF. Also include effort for developing the management reports. Send it to me ASAP. I will get it approved immediately and if you are available, we can start it by next Monday.", said Mr.Sharma.

"What I have seen working with you, Ram, is that the quicker we get you into our project, the better it is for us. You may be expensive, but you are the best insurance that we have against failed projects.", concluded Mr.Sharma

If only the other customers realize this.

If only getting business was this simple.

Apr 19, 2016

Working on Fusion Financials....

Currently I have got an opportunity to work on Fusion Financials, specifically on a product called 'Fusion Revenue Management'. The application is very good to work on and I have got some excellent support in my learning journey. I am enjoying  the application and have fallen in love with it.

As I am working on Fusion, I have not forgotten you, my dear readers and followers. I am Video taping all that I am working and will upload the same in my Youtube channel. Remember that I am doing this from home (that is the advantage of Cloud) and hence the audio quality is poor.

Thanks to Windows 10, I have the facility to record all that I am doing on my screen and hence we have some excellent content, hopefully.

For my first video on Fusion, let us start with the big bang one itself. Wait for my first Video on Fusion Financials, 'Configuring Subledger Accounting Method' in Fusion.