Revenue Recognition

We earn most of our consolidated revenue from contracts with customers, primarily through the provision of telecommunications and other services. Revenue from contracts with customers is accounted for under Accounting Standards Codification ("ASC") 606, which we adopted on January 1, 2018 using the modified retrospective approach. We also earn revenues from leasing arrangements (primarily fiber capacity agreements) and governmental subsidy payments, neither of which are accounted for under ASC 606.

Under ASC 606, revenues are recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled for those goods or services. Revenue is recognized based on the following five-step model:

•Identification of the contract with a customer;

•Identification of the performance obligations in the contract;

•Determination of the transaction price;

•Allocation of the transaction price to the performance obligations in the contract; and,

•Recognition of revenue when, or as, we satisfy a performance obligation.

We provide an array of communications services, including local voice, broadband, private line (including special access), network access, Ethernet, information technology, video and other ancillary services. We provide these services to a wide range of businesses, including global/international, enterprise, wholesale, government, small and medium business customers as well as residential customers. Certain contracts also include the sale of equipment, which is not significant to our business.

For access services, we generally bill fixed monthly charges one month in advance to customers and recognize revenue as service is provided over the contract term in alignment with the customer's receipt of service. For usage, installation and other ancillary services, we generally bill in arrears and recognize revenue as usage or delivery occurs. In most cases, the amount invoiced for our service offerings constitutes the price that would be billed on a standalone basis. To the extent certain products or services are discounted as a part of a bundle arrangement, the bundle discounts are included in our calculation of the total transaction price with the customer which is allocated to the various services in the bundle offering based on the estimated selling price of services included in each bundle combination.

Under ASC 606, we recognize revenue for services when we provide the applicable service or when control is transferred. Recognition of certain payments received in advance of services being provided is deferred until the service is provided. These advance payments include certain activation and certain installation charges. If the activation and installation charges are not separate performance obligations, we recognize as revenue over the actual or expected contract term using historical experience, which ranges from one year to seven years depending on the service. In most cases, termination fees or other fees on existing contracts that are negotiated in conjunction with new contracts are deferred and recognized over the new contract term. A performance obligation is a promise in a contract with a customer to provide a good or service to the customer. We recognize revenue for services when we satisfy our performance obligation.

Promotional or performance-based incentive payments are estimated at contract inception (and updated on a periodic basis as needed) and accounted for as variable consideration. In certain cases, customers may be permitted to modify their contracts without incurring a penalty. We evaluate the change in scope or price to identify whether the modification should be treated as a separate contract, whether the modification is a termination of the existing contract and creation of a new contract, or if it is a change to the existing contract. The impact of contract modifications has not been significant to our results in 2018.

Customer contracts are evaluated to determine whether the performance obligations are separable. If the performance obligations are deemed separable and separate earnings processes exist, the total transaction price that we expect to receive with the customer is allocated to each performance obligation based on its relative standalone selling price. The revenue associated with each performance obligation is then recognized as earned. The portion of any advance payment allocated to the service based upon its relative selling price is recognized ratably over the contract term.

We periodically sell optical capacity on our network. These transactions are structured as indefeasible rights of use, commonly referred to as IRUs, which are the exclusive right to use a specified amount of capacity or fiber for a specified term, typically 10 to 20 years. In most cases, we account for the cash consideration received on transfers of optical capacity as ASC 606 revenue which we recognize ratably over the term of the agreement. Fiber is accounted for as non-ASC 606 lease revenue, which we also recognize ratably over the term of the agreement. We do not recognize revenue on any contemporaneous exchanges of our optical capacity assets for other optical capacity assets.

In connection with offering products and services provided to the end user by third-party vendors, we review the relationship between us, the vendor and the end user to assess whether revenue should be reported on a gross or net basis. In assessing whether revenue should be reported on a gross or net basis, we consider whether we act as a principal in the transaction and control the goods and services used to fulfill the performance obligations associated with the transaction. Based on our agreement with DIRECTV, we offer this service through a sales agency relationship which we report on a net basis.

We have service level commitments pursuant to contracts with certain of our customers. To the extent that such service levels are not achieved or are otherwise disputed due to performance or service issues or other service interruptions or conditions, we will estimate the amount of credits to be issued and record a corresponding reduction to revenues in the period that the service level commitment was not met.

Customer payments are made based on billing schedules included in our customer contracts, which is typically on a monthly basis. For certain products or services and customer types, payment is required before products or services are provided.

Comparative Results

During the three months ended September 30, 2018, we identified and corrected certain issues in the accounting system we utilize in calculating the effects of ASC 606. Our revenue for the three months ended September 30, 2018 includes an adjustment of $10 million that is attributable to the six months ended June 30, 2018.

The following tables present our reported results under ASC 606 and a reconciliation to results using the historical accounting method:



	Three Months Ended September 30, 2018
	Reported as of September 30, 2018		Impact of ASC 606		ASC 605 Historical Adjusted Amount
	(Dollars in millions)
Operating revenues	$	2,149	(13	)	2,136
Cost of services and products (exclusive of depreciation and amortization)	697		3		700
Selling, general and administrative	172		—		172
Income tax expense	111		(4	)	107
Net income	453		(12	)	441



	Nine Months Ended September 30, 2018
	Reported as of September 30, 2018		Impact of ASC 606		ASC 605 Historical Adjusted Amount
	(Dollars in millions)
Operating revenues	$	6,380	(22	)	6,358
Cost of services and products (exclusive of depreciation and amortization)	2,106		15		2,121
Selling, general and administrative	602		(2	)	600
Income tax expense	322		(9	)	313
Net income	1,260		(26	)	1,234

The following table presents a reconciliation of certain consolidated balance sheet captions under ASC 606 to the balance sheet results using the historical accounting method:



	As of September 30, 2018
	Reported Balances as of September 30, 2018			Impact of ASC 606		ASC 605 Historical Adjusted Balances
	(Dollars in millions)
Other current assets	$	278		(268	)	10
Other long-term assets, net	126			(20	)	106
Deferred revenue	377			(136	)	241
Deferred income taxes, net	1,062			(59	)	1,003
Other long-term liabilities	448			79		527
Accumulated deficit	(231		)	(172	)	(403	)

Disaggregated Revenue by Service Offering

The following tables provide disaggregation of revenue from contracts with customers based on service offerings for the three and nine months ended September 30, 2018, respectively. It also shows the amount of revenue that is not subject to ASC 606, but is instead governed by other accounting standards. The adjustment of $10 million noted above was recorded to transport and infrastructure for the three months ended September 30, 2018.



	Three Months Ended September 30, 2018
	Total Revenue		Adjustments for Non-ASC 606 Revenue ⁽⁷⁾		Total Revenue from Contracts with Customers
	(Dollars in millions)
IP and data services⁽¹⁾	$	155	—		155
Transport and infrastructure⁽²⁾	739		(29	)	710
Voice and collaboration ⁽³⁾	448		—		448
IT and managed services ⁽⁴⁾	2		—		2
Regulatory revenue ⁽⁵⁾	53		(53	)	—
Affiliate revenue⁽⁶⁾	752		—		752
Total revenues	$	2,149	(82	)	2,067

Timing of revenue
Goods transferred at a point in time					$	13
Services performed over time					2,054
Total revenues from contracts with customers					$	2,067



	Nine Months Ended September 30, 2018
	Total Revenue		Adjustments for Non-ASC 606 Revenue ⁽⁷⁾		Total Revenue from Contracts with Customers
	(Dollars in millions)
IP and data services⁽¹⁾	$	460	—		460
Transport and infrastructure⁽²⁾	2,216		(83	)	2,133
Voice and collaboration ⁽³⁾	1,370		—		1,370
IT and managed services ⁽⁴⁾	6		—		6
Regulatory revenues ⁽⁵⁾	157		(157	)	—
Affiliate revenues⁽⁶⁾	2,171		—		2,171
Total revenues	$	6,380	(240	)	6,140

Timing of revenue
Goods transferred at a point in time					$	35
Services performed over time					6,105
Total revenues from contracts with customers					$	6,140



(1	)	Includes primarily VPN data networks, Ethernet, IP and other ancillary services
(2	)	Includes primarily broadband, private line (including business data services) and other ancillary services.
(3	)	Includes local voice, including wholesale voice, and other ancillary services.
(4	)	Includes IT services and managed services revenues.
(5	)	Includes CAF Phase I, CAF Phase 2 and federal and state USF support revenue.
(6	)	Includes telecommunications and data services we bill to our affiliates.
(7	)	Includes regulatory revenues, lease revenue, sublease rental income, which are not within the scope of ASC 606.

Customer Receivables and Contract Balances

The following table provides balances of customer receivables, contract assets and contract liabilities as of September 30, 2018 and January 1, 2018:



	September 30, 2018		January 1, 2018
	(Dollars in millions)
Customer receivables ⁽¹⁾	$	573	631
Contract liabilities	125		78
Contract assets	228		93


(1)	Gross customer receivables of $619 million and $669 million, net of allowance for doubtful accounts of $46 million and $38 million, at September 30, 2018 and January 1, 2018, respectively.

Contract liabilities are consideration we have received from our customers in advance of providing goods and services promised in the future. We defer recognizing this consideration as revenue until we have satisfied the related performance obligation to the customer. Contract liabilities include recurring services billed one month in advance and installation and maintenance charges that are deferred and recognized over the actual or expected contract term, which ranges from one to seven years depending on the service. Contract liabilities are included within deferred revenue in our consolidated balance sheet.

Performance Obligations

We do not disclose the value of unsatisfied performance obligations for contracts for which we recognize revenue at the amount to which we have a right to invoice for services performed (for example, uncommitted usage or non-recurring charges associated with professional or technical services to be completed), or contracts that are classified as leasing arrangements that are not subject to ASC 606.

As of September 30, 2018, our estimated revenue expected to be recognized in the future related to performance obligations associated with customer contracts that are unsatisfied (or partially satisfied) is approximately $391 million. We expect to recognize approximately 98% of this revenue through 2020, with the balance recognized thereafter.

Contract Costs

The following table provides changes in our contract acquisition costs and fulfillment costs:



	Three Months Ended September 30, 2018					Nine Months Ended September 30, 2018
	Acquisition Costs			Fulfillment Costs		Acquisition Costs		Fulfillment Costs
	(Dollars in millions)
Beginning of period balance	$	89		58		91		61
Costs incurred	29			13		45		20
Amortization	(29		)	(13	)	(47	)	(23	)
End of period balance	$	89		58		89		58

Acquisition costs include commission fees paid to employees as a result of obtaining contracts. Fulfillment costs include third party and internal costs associated with the provision, installation and activation of telecommunications services to customers, including labor and materials consumed for these activities.

Deferred acquisition and fulfillment costs are amortized based on the transfer of services on a straight-line basis over the average customer life of 30 months for consumer customers and 49 months for business customers and are included in cost of services and products and selling, general and administrative expenses in our consolidated statement of operations. The amounts of these deferred costs that are anticipated to be amortized in the next twelve months are included in other current assets on our consolidated balance sheets. We recognize incremental costs of obtaining contracts as an expense when incurred if the amortization period of the assets is less than one year. The amount of deferred costs expected to be amortized beyond the next twelve months is included in other non-current assets on our consolidated balance sheets. Deferred acquisition and fulfillment costs are assessed for impairment on a quarterly basis. During the three months ended September 30, 2018 we made a $24 million adjustment to the beginning balance of the fulfillment costs shown in the table above for additional fulfillment costs we identified that should have been considered in our adoption. The impact to our expenses was less than $1 million for both the three and nine months ended September 30, 2018.