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Gross versus net revenue: Is your company the principal or agent? · PwC's accounting podcast

• 0:00
  SPEAKER_00: Thought Leadership from PWC's National Office.
• 0:06
  SPEAKER_01: Welcome to PWC's Accounting Podcast.
• 0:09
  SPEAKER_01: I'm Heather Horn.
• 0:11
  SPEAKER_01: Each month this year, we've been covering topics from our most popular accounting guides, and today we launch our next series, this one focusing on all things revenue.
• 0:20
  SPEAKER_01: In today's episode, we discuss an area that always seems to be a hot topic.
• 0:25
  SPEAKER_01: That's principal versus agent.
• 0:27
  SPEAKER_01: I'd call this gross versus net, but as you'll hear, the in the no referred to this as PVA.
• 0:34
  SPEAKER_02: One, like the stakes are really high, right?
• 0:36
  SPEAKER_02: If you think about your gross versus net shorthand, right?
• 0:40
  SPEAKER_02: Do I recognize a gross amount of revenue and a gross amount of cost, which is a much bigger top-line number on my income statement, or do I just recognize a small net fee that I obtain, which is a much smaller number?
• 0:52
  SPEAKER_02: So significant impact on the financial reporting outcome.
• 0:55
  SPEAKER_02: So that puts a lot of pressure on it.
• 0:57
  SPEAKER_02: And in order to figure out whether you're the principal or the agent, it's a highly judgmental assessment.
• 1:10
  SPEAKER_01: That was Pat Durbin, a deputy chief accountant in PWC's national office, who's joined by Mike Coleman, a partner in the national office.
• 1:18
  SPEAKER_01: Both have years of experience consulting with our clients and engagement teams on complex revenue accounting matters, and they have a lot of great examples to share today.
• 1:27
  SPEAKER_01: With that, let's kick off the conversation.
• 1:30
  SPEAKER_01: Pat, Mike, welcome back to the podcast for a great topic today, one we've talked about before, but I don't think we can probably talk about too much.
• 1:38
  SPEAKER_01: And that would be in the revenue model, principal versus agent.
• 1:43
  SPEAKER_01: Also, what I would normally say gross versus net, or I know you revenue specialists like to say PBA, but that is really when accounting, you know, for revenue contracts, identifying the various parties and whether or not a company is a principal or an agent in the in the contract.
• 2:01
  SPEAKER_01: So, Pat, maybe just to kick things off, we can give a little bit of background.
• 2:05
  SPEAKER_01: I'm sure most of our listeners, at least generally familiar, but why this is important to talk about again?
• 2:11
  SPEAKER_02: Well, probably two things.
• 2:13
  SPEAKER_02: One, like the stakes are really high, right?
• 2:15
  SPEAKER_02: If you think about your gross versus net shorthand, right?
• 2:19
  SPEAKER_02: Do I recognize a gross amount of revenue and a gross amount of cost, which is a much bigger top line number on my income statement, or do I just recognize a small net fee that I obtain, which is a much smaller number?
• 2:31
  SPEAKER_02: So significant impact on the financial reporting outcome.
• 2:34
  SPEAKER_02: So that puts a lot of pressure on it.
• 2:36
  SPEAKER_02: And in order to figure out whether you're the principal or the agent, it's a highly judgmental assessment.
• 2:44
  SPEAKER_02: So that's probably at the highest level, stakes are high, and it's it's very judgmental.
• 2:49
  SPEAKER_02: And that's not just sort of saying it.
• 2:52
  SPEAKER_02: I mean, we spend a lot of time, Mike and I both, as well as the people on our team, trying to help our engagement teams and clients sort through uh these questions.
• 3:01
  SPEAKER_02: Um it's a subject of a lot of debate among the profession.
• 3:05
  SPEAKER_02: Um the FASBY's been doing their post-implementation review of the revenue standard.
• 3:09
  SPEAKER_02: This always comes up as one of the more challenging areas.
• 3:12
  SPEAKER_02: And it was one of the more challenging areas even before ASC 606 because it's just it's tough to navigate, especially in some of the newer economy business models where you see a lot of things enabled by technology.
• 3:27
  SPEAKER_02: Um, you know, the framework here is an assessment of control, which we'll get into.
• 3:32
  SPEAKER_02: But when you're talking about electrons, sometimes it's pretty hard to figure out like when does control happen?
• 3:38
  SPEAKER_02: How does control happen?
• 3:39
  SPEAKER_02: So that in a nutshell is kind of why it's challenging.
• 3:43
  SPEAKER_01: All right.
• 3:43
  SPEAKER_01: And I know this isn't a podcast about sustainability reporting, but actually this question even comes up in sustainability reporting about how people think about their reporting in terms of their relationships with various parties.
• 3:56
  SPEAKER_01: So lots of implications here, not just on your financial statements.
• 3:59
  SPEAKER_01: So maybe Pat, with that background, then again, I'm I think most of our listeners will be familiar, but do you want to give just the quick summary of sort of the difference in principle versus agent or what decision you're making there?
• 4:13
  SPEAKER_02: Yeah, and I guess maybe one thing we should stipulate at the outset is that you really only need to make this or perform this assessment when there's more than one party involved in delivering the good or service, right?
• 4:25
  SPEAKER_02: If it's just me and my customer and there's nobody else involved, well, it's pretty clear I'm the principal then, right?
• 4:31
  SPEAKER_02: It's only in those situations where you're involving someone else.
• 4:35
  SPEAKER_02: Is it, you know, an agent, is it a reseller, is it some other sort of facilitator?
• 4:41
  SPEAKER_02: We we refer to that third party as kind of the intermediary.
• 4:45
  SPEAKER_02: And that's kind of the perspective that you want to have as you approach this, is like, okay, I feel like I'm the intermediary, like there's someone else that's doing something pretty important, there's an end consumer, and then there's me.
• 4:58
  SPEAKER_02: What's my role?
• 4:59
  SPEAKER_02: Am I the principal or am I the agent?
• 5:01
  SPEAKER_02: That's really what we're shooting for.
• 5:03
  SPEAKER_01: All right.
• 5:03
  SPEAKER_01: And so then my pat gave us the high level.
• 5:06
  SPEAKER_01: But if you actually are in a case where you need to have do this assessment, then who are the parties that would be involved?
• 5:13
  SPEAKER_03: Right.
• 5:13
  SPEAKER_03: So the typical parties are the vendor, an intermediary, and then an end consumer.
• 5:19
  SPEAKER_03: Of course, there can be more parties involved, and that typically adds a lot more complexity.
• 5:25
  SPEAKER_03: Um, but those are the classic three parties.
• 5:28
  SPEAKER_03: Companies doing the assessment are either going to be the intermediary or the vendor.
• 5:33
  SPEAKER_03: Okay.
• 5:34
  SPEAKER_03: Typically, when we think of the PVA assessment, it's from the perspective of the intermediary.
• 5:39
  SPEAKER_03: And then the question that company is asking is is it the principal in providing the goods or services to the end consumer, or is it the agent that's arranging for another party who would be the principal to provide the goods or services to the end consumer?
• 5:55
  SPEAKER_01: But can I ask you a question?
• 5:56
  SPEAKER_01: Because you can't have two principles, right?
• 5:59
  SPEAKER_01: And or can you?
• 6:00
  SPEAKER_03: Yeah.
• 6:00
  SPEAKER_03: So the the best way to think about that is um let's say you go to Starbucks and you're buying uh the Madeline cookies, right, from Starbucks.
• 6:12
  SPEAKER_03: So the Madeline Cookie Company, they're always a principal in selling a cookie.
• 6:17
  SPEAKER_03: It's just a matter of whether they sold it to Starbucks or they sold it to the person coming in who's going to eat it.
• 6:23
  SPEAKER_03: Starbucks is either selling a cookie or arranging for the Madeline Cookie Company to sell the cookie.
• 6:29
  SPEAKER_03: So Starbucks can be the agent or can be the principal.
• 6:33
  SPEAKER_03: The vendor will always be a principal.
• 6:36
  SPEAKER_03: To someone.
• 6:36
  SPEAKER_03: Right.
• 6:36
  SPEAKER_01: Yes.
• 6:37
  SPEAKER_01: And as soon as I asked the question, I knew the answer.
• 6:39
  SPEAKER_01: But yes, that's actually helpful.
• 6:41
  SPEAKER_01: So your point is that the starting point, that person is always a principal to someone.
• 6:46
  SPEAKER_03: That's right.
• 6:47
  SPEAKER_01: It's just the question to who.
• 6:48
  SPEAKER_01: So the real question comes in for anyone in the middle if there's one party or multiple parties.
• 6:53
  SPEAKER_03: Exactly.
• 6:53
  SPEAKER_03: And the best way to think about that just from a party perspective, we don't think of coffee company as an agent.
• 6:59
  SPEAKER_03: Like that's just not what we think of.
• 7:01
  SPEAKER_03: So the classic agent would be any type of broker.
• 7:04
  SPEAKER_03: So think of a real estate agent.
• 7:06
  SPEAKER_03: In a real estate agent, typically the homeowner is selling their home to the new buyer.
• 7:14
  SPEAKER_03: And the agent is helping connect those two.
• 7:17
  SPEAKER_03: It's not the typical scenario where the agent is buying the home, taking control of the home, can decide to live in it or not, or sell it on to the new buyer.
• 7:27
  SPEAKER_01: All right, that's a helpful example.
• 7:29
  SPEAKER_01: And then you would distinguish that from like if someone bought the home to then flip it and sell it to someone else.
• 7:36
  SPEAKER_01: That's right.
• 7:37
  SPEAKER_03: And that's a really good example because when they flip it, they take control, and we'll get into some of the reasons they demonstrate control, but they're going to modify it.
• 7:46
  SPEAKER_03: They're going to actually work on the home.
• 7:49
  SPEAKER_03: That gives them an indication that it's theirs, they're modifying it, they're doing something to then sell their good to the next person.
• 7:57
  SPEAKER_01: All right.
• 7:58
  SPEAKER_01: And so then you gave the example of the agent.
• 8:00
  SPEAKER_01: How about then?
• 8:02
  SPEAKER_03: The other classic one is a retailer, right?
• 8:05
  SPEAKER_03: So just take the a retailer, you walk into the store and you want to get your whatever good you're interested in getting.
• 8:12
  SPEAKER_03: And they, of course, don't have it, because that happens to me all the time.
• 8:16
  SPEAKER_03: And then they tell you very quickly, well, we can have that ordered if you'd like.
• 8:19
  SPEAKER_03: And so you say, Yeah, fine, that's that's great.
• 8:21
  SPEAKER_03: Order it for me.
• 8:22
  SPEAKER_03: And so the retailer goes and deals with wherever that good's coming from on their own, independently, they order it, and then they sell it to you at whatever price they're going to sell it to you.
• 8:34
  SPEAKER_03: So that's a circumstance where the retailer is a principal, you're not really involved with whoever made whatever good you're you're buying, you're really dealing with the retailer.
• 8:44
  SPEAKER_01: All right, that's helpful.
• 8:45
  SPEAKER_01: So then, Pat, coming back to you, I think this could probably get very complicated very fast, depending on, again, the number of parties.
• 8:52
  SPEAKER_01: But in general, how many steps do we think about when we're thinking about analyzing these types of transactions?
• 8:58
  SPEAKER_02: Yeah, and I'm not sure I would think about it necessarily in terms of steps.
• 9:02
  SPEAKER_02: I mean, I think there are kind of two um key aspects to it.
• 9:06
  SPEAKER_02: The first one is really to identify what is the thing, like the specified good or service that I'm doing this assessment for?
• 9:14
  SPEAKER_02: Because sometimes there could be lots of things going on in an arrangement.
• 9:17
  SPEAKER_02: So we think about revenue, we think about performance obligations.
• 9:20
  SPEAKER_02: We're really trying to focus on like what is the good or service that I'm doing the assessment for?
• 9:26
  SPEAKER_02: Because that's going to be really critical then to inform the ultimate judgment here, which is do I, the party making the evaluation, control that specific good or service before it's transferred to the end consumer?
• 9:42
  SPEAKER_02: That's ultimately the threshold question we're trying to answer is do I have control before it gets transferred to the uh end consumer?
• 9:50
  SPEAKER_01: Aaron Powell All right.
• 9:50
  SPEAKER_01: And so then, Mike, if we're trying to assess control, and I'm that intermediary party, how what are some of the things that I would think about?
• 9:59
  SPEAKER_03: Sure.
• 9:59
  SPEAKER_03: So the control const is the concept in revenue, right?
• 10:02
  SPEAKER_03: So it's defined as having the ability to direct the use of or obtain substantially all of the remaining benefits from the asset or the service.
• 10:11
  SPEAKER_03: So an intermediary can demonstrate they have control in one of three ways.
• 10:17
  SPEAKER_03: The first one is buying the asset or buying a right to the service and then reselling it.
• 10:22
  SPEAKER_03: So the the classic example, I buy an asset, I have inventory, and then I go try to sell things.
• 10:28
  SPEAKER_03: That's the fairly straightforward evaluation when you're a buyer and then you're reselling your asset.
• 10:36
  SPEAKER_03: The second one is directing the other party to perform on your own on the entity's behalf.
• 10:42
  SPEAKER_03: So we see that in two flavors.
• 10:44
  SPEAKER_03: Uh think of either a subcontractor or a drop ship, where uh a seller place gets an order from a customer and has another entity send the good directly to them.
• 10:57
  SPEAKER_03: The key there is that the vendor in those cases, whether it be the subcontractor for services or the vendor that's drop shipping the good, they're performing at the direction of the intermediary, not the direction of the end customer.
• 11:13
  SPEAKER_03: So that's sort of the indicator there.
• 11:16
  SPEAKER_03: That's what I'm saying.
• 11:17
  SPEAKER_01: And I would assume that's gonna get into some judgment trying to figure it out.
• 11:21
  SPEAKER_01: Well, we don't have to have it yet, because I know you have one more point here.
• 11:24
  SPEAKER_03: So and then the last one is whether uh the intermediary is significantly integrating the good or service.
• 11:32
  SPEAKER_03: All right.
• 11:32
  SPEAKER_03: So that was the example we we talk about, and a lot of times we'll do it in the the construction space where uh I'm selling a home to you or your flip example, right?
• 11:45
  SPEAKER_03: So but but let's take this example, I'm selling the home to you, um, I'm giving you the options of countertops, you want the particular Italian marble countertop.
• 11:55
  SPEAKER_03: And so when I look at it and we have the marble person come in and install the countertop into your kitchen, we look at that as saying, well, if I as the home builder is getting the countertop integrated into my overall good, the theory is if I'm integrating it, I must be controlling it into my good.
• 12:17
  SPEAKER_03: And that's the other way you demonstrate control.
• 12:20
  SPEAKER_01: Yes, although I had some countertops, not marble, that were not properly integrated, and they did try to blame the mar the countertop person.
• 12:28
  SPEAKER_03: So but you weren't hearing of it.
• 12:31
  SPEAKER_01: Yes, exactly.
• 12:32
  SPEAKER_01: So so it's a good example there.
• 12:34
  SPEAKER_01: So then I know then that the guidance does give some indicators to think about.
• 12:39
  SPEAKER_01: So what are some of those?
• 12:41
  SPEAKER_03: It does.
• 12:41
  SPEAKER_03: So and and it's it's important to know again that the the focus is on control.
• 12:46
  SPEAKER_03: Uh oftentimes companies jump right to the indicators and skip past controls.
• 12:51
  SPEAKER_03: We like to make sure people know, no, well, let's start with control.
• 12:54
  SPEAKER_03: And then to help you evaluate control are the indicators.
• 12:58
  SPEAKER_03: When it's not clear.
• 13:00
  SPEAKER_03: When it's not clear, yes.
• 13:01
  SPEAKER_03: Yes, exactly.
• 13:02
  SPEAKER_03: And there are three.
• 13:03
  SPEAKER_03: It's who's primarily responsible for fulfilling the good and service, uh, whether the intermediary has inventory risk, uh, or whether the intermediary has pricing discretion.
• 13:14
  SPEAKER_03: Again, it's not a checklist.
• 13:16
  SPEAKER_03: Like if I have all these three things.
• 13:18
  SPEAKER_03: And and we do get that question, well, I have all three.
• 13:21
  SPEAKER_03: I have to be principal.
• 13:22
  SPEAKER_03: Yes.
• 13:22
  SPEAKER_03: I said, well, or I don't have them, I can't be principal.
• 13:25
  SPEAKER_03: And we get into scenarios where for your marble counter, you've negotiated the price, you've picked what marble it is, I price it at whatever price you negotiated.
• 13:38
  SPEAKER_03: I still may be principal because I'm integrating it into.
• 13:42
  SPEAKER_03: So this isn't just checklist on the indicators.
• 13:44
  SPEAKER_03: You have to really go through cult control first.
• 13:47
  SPEAKER_03: And then a lot of times um in certain uh this isn't a they're all weighted equally either.
• 13:54
  SPEAKER_03: So in oftentimes for service contracts, there isn't really the concept of inventory risk as you would have for tangible goods.
• 14:01
  SPEAKER_03: So um that's either not existent or not really weighted, too, too big, and we focus on other of the indicators, typically primarily responsible with the other ones.
• 14:12
  SPEAKER_03: And then, you know, just for the accounting historians out there, there used to be a lot more indicators, and there aren't.
• 14:19
  SPEAKER_03: And one that used to get a lot of focus was collectability.
• 14:23
  SPEAKER_03: Hey, after it's all said and done, I'm one on the hook for the payment, so therefore I have to be principal.
• 14:29
  SPEAKER_03: And that's a no, we're assessing control before things are delivered, not economic risk after things go bad.
• 14:38
  SPEAKER_03: So collectivity and that credit risk is is not one of the indicators that's focused on.
• 14:44
  SPEAKER_01: And I guess, Mike, maybe you just answer this, but why was that taken off the list?
• 14:49
  SPEAKER_01: Because I do think that was a very helpful indicator when you were trying to make this assessment.
• 14:54
  SPEAKER_03: I I I think the standard tried to streamline, the guidance tried to streamline it in a focus on controlling, right?
• 15:01
  SPEAKER_03: And the thought of control is if I'm responsible, that's an indicator.
• 15:07
  SPEAKER_03: I've got to be controlling it to re to be I've got to be responsible for it and control it as it goes hand in hand.
• 15:13
  SPEAKER_03: If I have inventory risk and own, I'm probably going to be can controlling it.
• 15:19
  SPEAKER_03: Uh if I can set the price at whatever I want, probably demonstrates I have the risk and related to the good to be able to separate the price.
• 15:26
  SPEAKER_03: So those all sort of all went in tandem.
• 15:29
  SPEAKER_03: Credit didn't necessarily always go in tandem with control.
• 15:33
  SPEAKER_03: It could have been some sort of backstop or something like that.
• 15:36
  SPEAKER_01: Yeah, or financing almost.
• 15:38
  SPEAKER_01: Yeah, yeah.
• 15:38
  SPEAKER_03: There were other reasons other than control that that credit could have been there.
• 15:42
  SPEAKER_02: Yeah.
• 15:42
  SPEAKER_02: I mean, if you think of the fundamental concept of the revenue standard is to measure performance of the entity, right?
• 15:49
  SPEAKER_02: So it really gets to this I'm acting, I'm doing, I'm controlling.
• 15:53
  SPEAKER_02: Just absorbing financial risk is not really what we're aiming for in the revenue standard.
• 15:58
  SPEAKER_02: There are other things, right?
• 16:00
  SPEAKER_02: Financial guarantees, you know, some sort of insurance, right?
• 16:02
  SPEAKER_02: That's not what we're accounting for in the revenue standard.
• 16:05
  SPEAKER_02: That's why this focus on do I control the thing?
• 16:08
  SPEAKER_02: Am I the one directing the provision of the service?
• 16:11
  SPEAKER_02: You know, that's the really key concept.
• 16:13
  SPEAKER_01: Yeah, I think that's helpful context because I do think sometimes it's helpful to people in applying these to understand why they're set up the way they are.
• 16:21
  SPEAKER_01: So that's good.
• 16:22
  SPEAKER_01: Because again, I do think credit is something people like to default to.
• 16:26
  SPEAKER_01: So with all that said, then I know many parts of this are challenging.
• 16:30
  SPEAKER_01: But Pat, why don't I start with you on some of sort of, from your point of view, some of the most judgmental things you see, and then Mike, you can chime in as well.
• 16:39
  SPEAKER_02: Yeah, and it's kind of interesting because I would say this area is persistently challenging, but it does sort of cycle through different types of business models.
• 16:49
  SPEAKER_02: You know, the things that were maybe really challenging to sort through around the time of adoption of 606, we kind of dealt with those, and then we saw some other flavors come through.
• 16:59
  SPEAKER_02: And I would say one of the more recent ones that we're seeing a lot of activity in is in the healthcare space.
• 17:06
  SPEAKER_02: And you know, there are a number of, I'll say, for-profit healthcare businesses that are forming.
• 17:11
  SPEAKER_02: Um, a lot of these are referred to as value-based care entities.
• 17:16
  SPEAKER_02: Healthcare services are challenging to fit into this framework because of some of the laws that basically prohibit the corporate practice of medicine.
• 17:26
  SPEAKER_02: So that makes it challenging when you're trying to account for a corporation that's in some way, shape, or form, you know, asserting they're delivering healthcare services, but necessarily those services have to be provided by a medical professional at some level.
• 17:39
  SPEAKER_02: So how do you think through the implications on control?
• 17:42
  SPEAKER_02: And then the other thing that's peculiar to that industry is just the sort of number of parties that are involved in the whole kind of economic chain, right?
• 17:53
  SPEAKER_02: You think about the patient who's ultimately getting the care and some medical professional delivering it, but you've got um payer organizations, insurance companies, um, you know, managed care organizations, maybe even the government in the Medicare space.
• 18:09
  SPEAKER_02: So that just sort of complicates who are all the players, where's the money really coming from, who's making the decisions about what care uh gets delivered.
• 18:18
  SPEAKER_02: So it's just a you know, it's a challenging space.
• 18:22
  SPEAKER_02: So if we sort of just accept that as the context, and then we're we're focused on these entities that would describe themselves as value-based care entities, it's really trying to figure out where they sit in that whole ecosystem, you know, somewhere in between ultimately the patient on one end of the spectrum and the ultimate payer, whether that's an insurance company uh or a Medicare uh situation, you know, that's how most of the healthcare gets uh compensated.
• 18:51
  SPEAKER_02: So once you figure out kind of where they sit, then the question is, okay, what are they doing?
• 18:56
  SPEAKER_02: You know, from one end of the extreme, they can just be sort of a claims administrator, um, providing some administrative services that sort of make the process more efficient for the insurance company and/or the patient maybe providing some data that helps analyze claim spend.
• 19:16
  SPEAKER_02: They can do some things to maybe try to negotiate better pricing with the providers, to a situation where they get much closer to the patients, to the providers, to the point where they may actually be employing doctors, they may be delivering directly some of the care, but then they may be absorbing the cost of some other care that's not being delivered by their personnel or their facilities.
• 19:40
  SPEAKER_02: And so that's you know, really where it gets challenging is trying to figure out for those services that are being delivered by someone else, can you make the argument that I'm involved enough in directing, um determining the terms under which that care is delivered that I can assert that I actually control the delivery of those services before they're delivered to the patient?
• 20:05
  SPEAKER_01: So then, Pat, if I take a step back and think through all those facts, and I think it's a great example because most people can relate to dealing with sort of the health care even if they're on the patient side, not the provider side.
• 20:17
  SPEAKER_01: But how does this fit in then sort of this idea of controlling the care versus controlling the cost of care?
• 20:24
  SPEAKER_01: And then how in the end of the day do you typically support the conclusions in this area?
• 20:30
  SPEAKER_02: Yeah, it's a great, great question.
• 20:32
  SPEAKER_02: I think one of the challenges in this space is many of these organizations feel like, hey, I'm on the hook for all the cost of the care, therefore I must control.
• 20:42
  SPEAKER_02: And I think as we alluded to earlier, just having financial risk for the cost of goods and services is not equivalent to controlling those goods and services, which is the critical ingredient again to demonstrating that you're the principal.
• 20:57
  SPEAKER_02: So just having that financial risk, even though it might feel like you're responsible, you're not really in control potentially.
• 21:06
  SPEAKER_02: And as I mentioned, it's especially challenging in this healthcare space, just given some of the legalities of like, you know, doctors have to deliver the services in accordance with their professional responsibilities.
• 21:18
  SPEAKER_02: You can't really tell them they must do something, they must not do something, right?
• 21:22
  SPEAKER_02: So that creates this sort of inherent independence a little bit that makes it harder to assess or harder to demonstrate rather than you're in control.
• 21:32
  SPEAKER_02: I will say, in many cases where you do have this significant economic risk, there might be other elements of the arrangement then that you're able to sort of point to that would give you more of an indication that maybe I'm not fully in control, but I've got a very high level of influence that you know might potentially get you something close.
• 21:54
  SPEAKER_02: But the reality is, in many of the fact patterns we see, I think it's it's challenging for a lot of people.
• 22:00
  SPEAKER_02: lot of these organizations to support that they're the principal, particularly in cases where they don't have a contractual arrangement with an actual healthcare provider, if the patients or the plan participants themselves are not really aware, sort of more of a, you know, behind the scenes, we're just doing claims administration, or that there's not clear evidence sort of from the contractual arrangements that the organization is responsible for the delivery of care.
• 22:31
  SPEAKER_02: There's got to be a lot of kind of meat on the bones if you want to really support a conclusion that you're you're in control.
• 22:38
  SPEAKER_02: And the other challenge here is some of the indicators we talked about.
• 22:42
  SPEAKER_02: So inventory risk and pricing discretion usually less relevant here.
• 22:47
  SPEAKER_02: Inventory because it's a service and pricing discretion just because it's kind of like at the end of the day there's sort of this, I'll say some list price that somebody has somewhere, but then there's all the different agreements you have with the different payer organizations that sort of water down anybody's real ability to have pricing discretion.
• 23:05
  SPEAKER_02: They might be able to say pay or don't pay, but that's not the same as saying I really control the the good or service.
• 23:14
  SPEAKER_02: So I I think it's just a very challenging space and we're we're seeing a fair amount of activity there, but I I I just say it's a it's a tricky one to sort through.
• 23:23
  SPEAKER_03: Trevor Burrus One other comment I'll make is as Pat mentioned earlier when you're going through the PVA assessment to understand exactly what the good or service is that you're providing in a lot of these care scenarios the entity is involved in so many different portions of the care.
• 23:40
  SPEAKER_03: You can see a scenario where that organization, let's say, has imaging equipment and will do imaging, right?
• 23:48
  SPEAKER_03: They're actually the ones who do imaging at the direction of the doctors and then they do the imaging before the surgery.
• 23:55
  SPEAKER_03: It's not necessarily one answer for all of that care.
• 23:58
  SPEAKER_03: You have to go look into the particular things that you're delivering.
• 24:02
  SPEAKER_03: You actually may be delivering the imaging at the direction of the doctor but not the surgery.
• 24:07
  SPEAKER_03: That's something that the hospital doctor will perform.
• 24:10
  SPEAKER_03: So it's not just one answer for everything either.
• 24:13
  SPEAKER_01: Yeah that's a great point Mike Yeah definitely a lot to think about there.
• 24:16
  SPEAKER_01: So that is again a great scenario I think in some cases might be a little hard for companies to then try to relate their fact patterns to that.
• 24:25
  SPEAKER_01: So any other scenarios that you guys are seeing where a lot of questions are popping up?
• 24:30
  SPEAKER_03: Yeah one we see is in the payment processing space and and the shared circumstance is that there are more than three parties that are involved in the shared in the payment processing space.
• 24:43
  SPEAKER_03: So just think of you know I always think of the drive-thru coffee shop that I go to now to get my latte and the barista hands me the little device that I'm using to pay for it.
• 24:56
  SPEAKER_03: Of course I have to select my tip no matter what happens you have to select what tip and the tip level.
• 25:06
  SPEAKER_03: So all those new devices that you see or entities that are now in this ecosystem that has existed for a while that causes other questions about PVA.
• 25:18
  SPEAKER_03: So in that uh payment processing space there is that longstanding ecosystem you have the credit cards in their networks then you have the banks that issue the credit cards then you have the banks that deal with the merchants you have the cardholder who then wants to buy something then the merchant who's then going to sell something and pay the merchant discount or that percentage to all of those parties to perform the service.
• 25:43
  SPEAKER_03: Well the companies that have that little device that I pay to get my latte, they've now are part of that ecosystem.
• 25:52
  SPEAKER_03: And so the challenges for an organization like that is determining whether they are connecting the merchant to that payment ecosystem for some fee or are they providing the payment processing services to the merchant and are in control of all the ecosystem to which they should have all that cost and the merchant discount should be their revenue.
• 26:16
  SPEAKER_03: So not an easy thing to figure out especially since that ecosystem has a lot of regulation because we're moving money into accounts all over the place.
• 26:26
  SPEAKER_03: So there's a certain level of Pat said this before who controls the electrons as it's moving?
• 26:32
  SPEAKER_03: Those electrons move in this very specific way that everybody's decided on how they move so nobody controls them.
• 26:38
  SPEAKER_03: They all control them right and you get into that question if nobody controls or all controls, who controls all what do we even look at?
• 26:44
  SPEAKER_03: So oftentimes you start with the merchant is the one getting the service and who are they getting the service from so that company that gives that little device for you to pay are they the ones contracting only with the merchant or do does the merchant have to contract with them and all the other downstream parties?
• 27:05
  SPEAKER_03: How involved is that party in making sure the merchant gets paid?
• 27:11
  SPEAKER_03: How involved are they when they don't get paid, when there's fraud are there chargebacks that happen?
• 27:17
  SPEAKER_03: How are they responsible with cash flows?
• 27:20
  SPEAKER_03: Are they paying at different times to the cash flows?
• 27:23
  SPEAKER_03: Can they charge a percentage to the merchant?
• 27:26
  SPEAKER_03: Yet a fixed fee downstream is it always a percentage there's a lot of different things we would look at.
• 27:32
  SPEAKER_03: And then last one is how much influence they really have in the ultimate getting that entity their payment and making sure the payment does happen.
• 27:41
  SPEAKER_03: Does the ecosystem recognize that provider as the person who's really getting paid and they don't deal with it after that or do they know the merchant behind them and there is a dealing with them?
• 27:54
  SPEAKER_03: It gets very difficult with so many players in such a specific ecosystem and especially when transactions are can be very small and happen instantly almost to figure out who's controlling what is is not easy.
• 28:10
  SPEAKER_01: So do we have a general answer to this question?
• 28:12
  SPEAKER_01: It's like a cliffhanger mic just waiting for the answer.
• 28:16
  SPEAKER_03: So what's interesting is there are more and more players in that space and even the you know entity that's providing that front end swipe, there's other entities who are providing the security of the swipe.
• 28:30
  SPEAKER_03: And there's just even more entities that are going into that getting into the specific service that they provide.
• 28:38
  SPEAKER_03: Is there the one answer no there there isn't what we've found is the contracts can be different.
• 28:46
  SPEAKER_03: So it's not that they all have to work a different way we do see varying degrees of contracts that require contracts with multiple parties in the ecosystem.
• 28:58
  SPEAKER_03: We've seen others where there's contracts with just the the one intermediary.
• 29:03
  SPEAKER_03: So it's and you've got different licensing agreements where some of those entities will actually be able to move money some won't be able to move money.
• 29:12
  SPEAKER_03: So there's a lot of different things you look at so there's not hey that entity there's only one way that they're principal or agent there's different ways they get there and it's they're not all consistent.
• 29:27
  SPEAKER_01: So no answer to the cliffhanger.
• 29:29
  SPEAKER_02: No no answer to the cliffhanger that's unfortunately always the answer in these principal versus agent assessments is just there is no way to kind of shortcut it to sort of simplify it to say okay if you have these things you're always going to be the principal I will say there's usually a lot of really strong arguments for people who are agents.
• 29:49
  SPEAKER_02: But you know again given that what people are interested in is demonstrating this control, demonstrating that they're responsible for a bigger piece of the value chain that you know drives the motivation to really try to demonstrate that you're the principal and that's where it becomes challenging.
• 30:07
  SPEAKER_01: Yeah I mean it listening to these two fact patterns, I think the two takeaways I have and I think for some of our listeners is first of all, all our listeners that are companies that deal directly with a customer with no intermediaries or that you know aren't in an intermediary role are probably happy they're not dealing with all of this.
• 30:26
  SPEAKER_01: But um second of all is just really understanding all the agreements and you know every all of these different relationships.
• 30:33
  SPEAKER_01: But I guess from your two points of view, because I know you get lots of questions on this, what are sort of the key points here that you would focus on if you were one of these intermediaries?
• 30:44
  SPEAKER_03: Well so for me I have two.
• 30:46
  SPEAKER_03: First, um most companies want to make this assessment of their business model and never have to do it again.
• 30:54
  SPEAKER_03: And so they either want to say that they're the agent or they're the principal and that's what I am and I just you know go forth and and just do business.
• 31:04
  SPEAKER_03: Unfortunately it's not a set it and forget it type of um circumstance.
• 31:09
  SPEAKER_03: So business models constantly change regulation constantly changes players are added and taken away so you really have to look at it each time and evaluate each time the business changes or any time there's some type of movement.
• 31:25
  SPEAKER_03: That's the first thing.
• 31:26
  SPEAKER_03: And the second is this contract by contract.
• 31:29
  SPEAKER_03: So you could be principal for one group of vendors or customers and you could be an agent for another it all depends on what the indicators for each particular contract are.
• 31:41
  SPEAKER_03: So it's it's never really a well I've assessed it once and I don't ever have to do that again.
• 31:46
  SPEAKER_01: Yeah so I guess based on that second point as well disclosure has got to be critical here to help your users really understand all these different arrangements.
• 31:55
  SPEAKER_03: Yeah what what we tend to see a lot from a disclosure perspective is a desire to say not just oh I'm the principal or agent but why?
• 32:03
  SPEAKER_03: Like what what is causing you to come to that conclusion?
• 32:07
  SPEAKER_03: What are the either indicators or what are you leaning on to say why you are and then where you may be either you have to then describe the circumstance.
• 32:17
  SPEAKER_03: Well for this type of thing where we do this I'm the agent for these types of transactions where I do this that's where I decide I'm the principal yeah and I mean that seems helpful or otherwise from a user perspective sorting out all of those differences.
• 32:32
  SPEAKER_03: Yeah and then the the last thing with that if you were in the scenario where you have both let's say I was a product seller for one and now I'm the agent for the other the agent you're no longer a product seller.
• 32:45
  SPEAKER_03: You're now providing a service which then you may have an SEC disclosure requirement to present products separate from services.
• 32:54
  SPEAKER_03: So it can have that impact too.
• 32:56
  SPEAKER_01: Oh great point all right and then Pat how about from your point of view?
• 32:59
  SPEAKER_02: Yeah when just maybe to build on a couple of those points I mean the the challenge here is the sort of motivation oftentimes is I want to be able to explain my business.
• 33:08
  SPEAKER_02: I want to be able to talk about my results and all of these things make it very complicated because you ultimately do have to do it at an individual contract level.
• 33:16
  SPEAKER_02: If you get mixed answers not only do you have the potential to spill out products and services now you have a more complicated margin story because you have revenue and costs when you're the principal versus you just kind of have a fee when you're the agent, right?
• 33:31
  SPEAKER_02: So it it just really makes it challenging.
• 33:33
  SPEAKER_02: I think you highlighted a couple of things earlier on like these multi-party ecosystems like we hit on a couple here those are really challenging so you introduce sort of a lot of regulation or a lot of um parties involved that certainly makes this analysis a lot more complicated.
• 33:50
  SPEAKER_02: We talked earlier about how just having exposure to the economics just the financial risk or the the back end risk is not enough to demonstrate that you have control.
• 34:02
  SPEAKER_02: You really need to be able to demonstrate like why does it make sense that I have all that risk based on what I'm what I'm doing.
• 34:08
  SPEAKER_02: And I think we talked a little bit already about the need to just disclose very clearly why you got to the conclusion you got to and importantly in that context those disclosures should be consistent with the way the company describes its business because this really is fundamental to how the company is generating value, what is its role in the value chain and that all needs to hang together from both the description of the business all the way through to the accounting analysis.
• 34:37
  SPEAKER_01: All right definitely a lot to think about and I think for our listeners if you have more questions obviously uh Pat and Mike are a good source but as well we do have other podcasts out there and then I know chapter 10 of the revenue guide has a great description of some of these factors and things to think about so I encourage people to check that out as well and we'll include links in the show notes.
• 34:57
  SPEAKER_01: But Pat Mike is always such a pleasure to talk to you.
• 35:00
  SPEAKER_01: Thanks for joining me today.
• 35:01
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