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Revenue Recognition Principles Negatively Impact the Biotechnology Industry, New Study Confirms
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By Ellen Dadisman and Paul Winters
Current revenue recognition accounting principles continue to place unnecessary challenges on small and medium-sized biotechnology companies who enter into collaborative arrangements, according to an independent study released in early October by BIO. The study, entitled "Revenue Recognition for Collaborative Arrangements in the Biotechnology Industry, was conducted by Glass, Lewis, & Co., LLC, a leading research and professional services firm.
Collaborative arrangements typically involve a small biotechnology company and a larger company that agree to share technology and research costs. This mechanism allows both entities to access additional funding and commercialization networks, while sharing the costs of bringing important medical therapies to market. Biotechnology research and development costs between $800 million and $1.2 billion over eight to 12 years to bring a biopharmaceutical to market - an enormous investment that makes collaborative arrangements both common and critical to finding treatments and cures.
According to the study, the uncertainty underlying current revenue recognition principles have caused many biotechnology companies to restate their financial statements, which can shake confidence in the reliability of the company's financial prospects. Most importantly, a restatement can divert a company's focus away from the primary task at hand - new research and development.
The authors of the study make several recommendations to both accounting regulators and biotechnology companies on ways to improve the system. They advise the Securities and Exchange Commission (SEC), "Reinterpret the relevant accounting rules. The SEC's interpretation of revenue recognition in the biotechnology industry is prompting modifications to contractual language in order to avoid the [Joint Steering Committee] JSC issue."
"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, executive vice president and chief financial officer of Affymax, a company whose initial public offering was delayed while the company evaluated its revenue recognition for joint steering committees. "Clear and consistent revenue recognition principles would facilitate fundraising and enhance investor understanding of biotech companies' financial results, potentially accelerating drug development efforts."
The study further found that similar aspects of collaboration arrangements are accounted for in different ways. The differences make for wide variations in the timing of revenue recognized in the income statement, resulting in confusion for both investors and regulators. Due to the lack of clarity from regulators, companies choose different periods over which to defer and amortize revenue based on their evaluation of the collaborative efforts they perform. For example, the amortization period for companies reviewed for the study ranged from 18 months to more than 18 years.
"This analysis affirms the need for the Securities and Exchange Commission (SEC) and the Financial Services Accounting Board (FASB) to clarify revenue recognition accounting principles," said Alan Eisenberg, executive vice president for BIO's Emerging Companies and Business Development Section. "Collaborative arrangements are key financing mechanisms for small and medium-sized biotechnology companies and clearer guidance from the SEC and FASB would allow more critical resources to be dedicated to new research for life saving medicines rather than accounting concerns."
The study is available at http://www.bio.org/tax/funding/revenuerecognitionprinciplesstudy.pdf
Ellen Dadisman is managing director of communications at BIO. Paul Winters is director of broadcast media.
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