Magazine Article | May 31, 2019

Making Sense Of New Accounting And Financial Reporting Changes

Source: Life Science Leader

By Dan Schell, Editorial Director, Life Science Leader

Dennis Howell and Jeff Ellis
If you are a finance professional working in life sciences, it’s likely you are familiar with Deloitte’s annual accounting and financial reporting update. Version 10, titled Life Sciences Accounting And Financial Reporting Update — Including Interpretive Guidance, was released in March and is a 304-page document chock full of valuable information. It outlines some of the recent significant accounting/financial reporting changes made by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) that will affect the life sciences, including those related to:

  • revenue recognition
  • the definition of a business
  • new hedge accounting rules.

The report also addresses other soon-to-be-implemented changes such as:

  • the new lease standard
  • new collaborations standard
  • changes to the auditor’s report involving critical audit matters.

According to authors Jeff Ellis and Dennis Howell “Our report details some of decisions finance and accounting professionals in the industry must make regarding these changes.” Examples include:

  1. Revenue: How much revenue should a company recognize when uncertainty exists related to the amount that it will ultimately receive (e.g., because of rebates, milestone payments, royalties, etc.)?
  2. Definition of a business: What factors should a company consider to determine whether a transaction represents an asset acquisition or a business combination, which significantly affects the accounting for many transactions in the life sciences?
  3. Leases: How should an entity evaluate whether a contract manufacturing arrangement is a lease?
  4. Collaborations: How should a company that uses revenue accounting literature to account for its collaborative arrangements apply the new revenue standard?
  5. Critical audit matters: What questions should companies consider discussing with their auditors as they prepare for the disclosure of critical audit matters in their auditors’ reports?


Innovation in the life sciences isn’t limited to the science of drug development; the business relationships and funding models are also constantly evolving. The Deloitte report provides some keen insights into the emerging accounting standards for R&D funding arrangements and leases. In particular, it notes that you should consider whether such an arrangement includes elements that should be accounted for as a derivative. (The report lists the characteristics that define a derivative instrument.) That’s something many companies may not have previously even considered. Here’s a short excerpt from that section:

If the life sciences company determines that its R&D funding arrangement meets the definition of a derivative instrument, it should assess whether the arrangement represents a contract that would meet any of the scope exceptions in ASC 815. For example, in certain transactions, the life sciences company is only required to make royalty payments to the investor if the compound is approved and net sales occur.


One of the new chapters in the Deloitte report is dedicated to IPOs, which have exploded in recent years in pharma and biotech. Ellis and Howell note that, “Many of the companies that pursue an IPO qualify for the ‘emerging growth company’ filing status, which provides many benefits [all of which are outlined in the report].” In these instances, a company will generally qualify as an emerging growth company if it has total annual gross revenue of less than $1.07 billion during its most recently completed fiscal year, and it has not issued more than $1 billion of nonconvertible debt over the past three years.

The new chapter also highlights accounting and disclosure issues commonly encountered by life sciences entities that complete IPOs, including the types of financial statements to include in a filing, when pro forma disclosures involving a significant transaction are required and how such disclosures should be prepared, when predecessor financial information is required after a material acquisition occurs, and common share-based compensation valuation issues.

In addition to increased pharma/biotech IPOs, there has been an increase in the number of collaborative arrangements between life sciences companies. The industry as a whole has been trying to reduce costs, and partnering with a third party is often one of the first strategies toward accomplishing that goal. But these arrangements are often complex with varying responsibilities and clearly defined guidelines that identify the risk and benefits to each partner. For example, the following are two common forms of these arrangements:

  • Codevelopment and comarketing arrangements — joint operating agreements in which both parties to the agreement assume roles and responsibilities.
  • Copromotion arrangements — agreements in which companies partner together and use each company’s commercial capabilities and experience to promote a product (owned by one of the parties) in various markets.

With any type of collaboration, it’s imperative you understand the implications related to the ASC 606 accounting standard, which addresses how companies recognize revenue from contracts with customers. The Deloitte report includes this helpful example of how an entity would determine whether an arrangement is a collaborative arrangement and, if so, whether it should be accounted for under ASC 606.

Biotech B and Pharma P enter into an agreement to research, develop, and commercialize drug X. Biotech B will perform the R&D, and Pharma P will commercialize the drug. Both parties agree to participate equally in all activities that result from the research, development, and commercialization. The reporting entity concludes that a collaborative arrangement exists because both parties are active participants and have agreed to share in the risks and rewards.

Despite this conclusion, however, there still could be a vendor/customer relationship as a result of some of the activities between the participants pursuant to the collaborative arrangement. If such a relationship exists, those parts of the contract that are related to the vendor/customer relationship may need to be accounted for under ASC 606.

There’s no doubt that there are significant changes taking place in our industry right now, and there are more to come. If you’re not aware or unsure of how those changes are going to affect your company — whether you work for a pharma, biotech, CRO, CDMO, or medical device company — you may want to take the time to download and review this report from Deloitte.


There are many potential benefits for registrants that file an IPO as an EGC. For example, EGCs:

  • need only two years of audited financial statements in an IPO of common equity
  • are not required to present selected financial data for periods before the first year of financial statements presented in the IPO
  • may omit financial information (including audited financial statements) from an IPO registration statement if that financial information is related to periods that are not reasonably expected to be required at the time the registration statement becomes effective
  • may elect not to adopt new or revised accounting standards until they become effective for private companies (i.e., nonissuers)
  • are eligible for reduced executive compensation disclosures
  • may submit a draft IPO registration statement to the SEC for confidential review.

SOURCE: Chapter 12.1.2 of the Life Sciences Accounting and Financial Reporting Update — Including Interpretive Guidance, March 2019

JEFF ELLIS leads the Life Sciences and Health Care (LSHC) industry practice for Audit & Assurance and is the Life Sciences industry professional practice director (PPD) at Deloitte & Touche.

DENNIS HOWELL is a senior consultation partner in the Deloitte National Office Accounting Services and Reporting Group and the Deloitte Life Sciences deputy industry professional practice director.