Crowdfund Accounting Errors
In my last article I wrote a little on the crowdfund accounting issues that I expected to be prevalent with startup based crowdfunding companies. Here are five common issues what I think will cause errors in reporting for crowdfunding companies under Regulation Crowdfunding. If your Company has any of these things and will be raising money through Reg A+ or regulation crowdfunding, make sure you hire a financial expert.
Convertible debt discounts - Early investors usually get convertible debt. Sometimes that debt can be converted at a discount to the fair value of company stock. This is called a beneficial conversion feature. It would allow a debt-holder (theoretically speaking) to convert the debt to equity at a discount, then sell that equity for a greater value thereby realizing a gain. This often requires the debt to be discounted to an amount less than face value and then amortized back up to face value over the life of the loan. If that conversion feature has no floor....derivative accounting may apply. If the debt is issued with warrants there is additional issues to consider as well.
Stock, Stock options and restricted stock - Many startups can't afford to pay employees and consultants. Accordingly, they issue stock, stock options, and/or restricted stock for services to be rendered. Most people think that the stock has little to no value...which may or may not be true. If a company sells stock to a third-party, that sale sets the fair value of the stock. So if you sell an investor a share of stock at $0.50 and the next day issue one share of stock to a consultant, that share has a $0.50 value and must be expensed. Options get even more complicated as you have to estimate the future value of an option over it's life and employees and consultants have different accounting requirements.
Software development - Software development costs are either expensed or capitalized as an asset depending on if its development for internal-use software or software to be leased, sold or marketed, and depending at what point in the development process the costs are incurred. For SaaS companies you also have to look at where the software is stored and if a user can download it. The rules are complex and open to some interpretation.
Revenue recognition - Revenue recognition has different requirements based on industry. Things that require special attention are long-term service contracts, sales with right of return, and bill and hold transactions. What's more, revenue recognition under GAAP is changing by 2018. Most often, companies overstate revenue because all they know is the cash is in the bank. But that cash doesn't mean it's "earned".
Deferred tax assets and liabilities - This is confusing to most CPA's. When losses are incurred there is a time-frame in which those losses can offset gains in the future. Therefore, it is required that every company that is not a pass-through entity complete a tax provision which calculates the future tax asset or liability the company has and if that asset/liability will be realized. Sound confusing....it is.
The rules and regulations governing accounting are complex and lengthy, and if it were as easy as money in-money out then many accountants would lose their job. My best advice to anyone raising money through equity crowdfunding, is don't try to do the accounting alone if you aren't qualified. Saving a buck today may cost you two tomorrow. Be proactive and not reactive.This article was written by David Gosselin, Partner at BizCFO and Principal at dbbmckennon a PCAOB registered CPA firm. With over a decade of experience working with SEC reporting companies, David has been a leader among CPA’s in the Regulation A+ and equity crowdfunding industries and is a financial expert in the requirements of both regulations.