2. Recent Accounting Developments

Accounting Standards Updates Implemented

ASU 2018-05 was issued in March 2018 to clarify the income taxes disclosure requirements as they pertain to SAB 118, including the requirement to disclose a reasonable estimate, if determinable, of the tax effects of the TCJA in the reporting period in which the TCJA was enacted, as well as additional disclosures required in the following interim reporting periods if the measurement period approach is used. In accordance with ASU 2018-05, we disclosed a reasonable estimate of the income tax effects of the TCJA on our consolidated financial statements in our 2017 Form 10-K and there have been no changes to this estimate. We anticipate finalizing the amounts in connection with the completion of our 2017 income tax returns in the fourth quarter of 2018.

On January 1, 2018, we adopted ASU 2018-02 which allows for a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the TCJA. As a result of the TCJA’s corporate rate reduction, we had $0.3 million of stranded tax effects in accumulated other comprehensive income related to our derivative instruments and terminated interest rate swaps, which we elected to reclassify to accumulated deficit.

On January 1, 2018, we adopted ASU 2017-12 using the modified retrospective approach to existing cash flow hedge relationships as of January 1, 2018. ASU 2017-12 expands and refines hedge accounting for both financial and nonfinancial risk components, aligns the recognition and presentation of the effects of the hedging instrument and hedged item in the financial statements and eliminates the requirement to separately measure and report hedge ineffectiveness. As a result of the adoption of ASU 2017-12, we recognized a net gain of $0.4 million as a cumulative-effect adjustment to opening retained earnings and a corresponding adjustment to other comprehensive income (loss) to reverse the cumulative ineffectiveness previously recognized in interest expense.

On January 1, 2018, we adopted ASU 2016-15 on a retrospective basis. ASU 2016-15 addresses diversity in practice and simplifies several elements of cash flow classification including how certain cash receipts and cash payments are classified in the statement of cash flows. ASU 2016-15 did not have an impact on our condensed consolidated statement of cash flow for the six months ended June 30, 2017.

Revenue Recognition Update

On January 1, 2018, we adopted the Revenue Recognition Update using the modified retrospective method applied to those contracts which were not completed as of January 1, 2018. We recognized the cumulative effect of initially applying the Revenue Recognition Update as an adjustment to the opening balance of retained earnings. For contracts that were modified before the effective date, we identified performance obligations on the basis of the current version of the contract, which included any contract modifications since inception. The application of the practical expedient for contract modifications did not have a material effect on the adjustment to retained earnings. The comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods.

Under previous guidance, contract operations revenue was recognized when earned, which generally occurs monthly when the service is provided under our customer contracts. Under the Revenue Recognition Update the timing of revenue recognition is impacted by contractual provisions for service availability guarantees of our compressor assets and re-billable costs associated with moving our compressor assets to a customer site. These changes are further discussed below and did not result in a material difference from previous practice for contract operations.

The Revenue Recognition Update resulted in a significant change related to our aftermarket services operations, maintenance, overhaul and reconfiguration services. Under previous guidance, revenue was recognized on a completed contract basis as products were delivered and title was transferred or services were performed for the customer. Under the Revenue Recognition Update, these services are recognized as revenue over time, using output or input methods to measure the progress toward complete satisfaction of the performance obligation based on the nature of the goods or services being provided. The adoption did not result in a material difference in the amount or timing of revenues for aftermarket services parts and components sales.

The Revenue Recognition Update provides guidance on contract costs that should be recognized as assets and amortized over the period that the related goods or services transfer to the customer. Certain costs that were previously expensed as incurred, such as sales commissions and freight charges to transport compressor assets, are deferred and amortized.

The following table summarizes the cumulative impact of the adoption of the Revenue Recognition Update on the opening balance sheet (in thousands):



	December 31, 2017			Adjustments Due to the Revenue Recognition Update			January 1, 2018
Assets
Accounts receivable, trade	$	113,416		$	7,883		$	121,299
Inventory	90,691			(6,917		)	83,774
Contract costs	—			21,524			21,524

Liabilities
Accrued liabilities	$	71,116		$	209		$	71,325
Deferred revenue	4,858			3,188			8,046
Deferred income taxes	97,943			4,427			102,370

Equity
Accumulated deficit	$	(2,241,243	)	$	14,666		$	(2,226,577	)

The following tables summarize the impact of the application of the Revenue Recognition Update on our condensed consolidated balance sheet and condensed consolidated statement of operations (in thousands):



	June 30, 2018
Balance Sheet	As Reported			Balance Excluding the Impact of the Revenue Recognition Update			Effect of Change
Assets
Accounts receivable, trade	$	130,596		$	115,923		$	14,673
Inventory	82,470			97,463			(14,993		)
Contract costs	31,240			—			31,240

Liabilities
Accounts payable, trade	$	91,818		$	91,776		$	42
Accrued liabilities	67,152			66,930			222
Deferred revenue	8,859			7,037			1,822
Deferred income taxes	2,568			2,329			239
Other long-term liabilities	17,536			17,514			22

Equity
Additional paid-in capital ⁽¹⁾	$	3,150,118		$	3,140,754		$	9,364
Accumulated deficit	(2,252,349		)	(2,271,558		)	19,209

——————


⁽¹⁾	Represents the impact of the Revenue Recognition Update on net income attributable to noncontrolling interest which was reclassed to additional paid-in capital pursuant to the Merger.



	Three Months Ended June 30, 2018
Statement of Operations	As Reported			Balance Excluding the Impact of the Revenue Recognition Update			Effect of Change
Revenue:
Contract operations	$	165,450		$	166,341		$	(891	)
Aftermarket services	61,420			56,660			4,760
Total revenue	226,870			223,001			3,869
Cost of sales (excluding depreciation and amortization):
Contract operations	67,809			71,956			(4,147		)
Aftermarket services	50,793			47,103			3,690
Selling, general and administrative	26,649			27,025			(376		)
Benefit from income taxes	(1,567		)	(4,097		)	2,530
Less: Net income attributable to the noncontrolling interest	(2,212		)	(1,735		)	(477		)
Net income attributable to Archrock stockholders	1,937			242			1,695



	Six Months Ended June 30, 2018
Statement of Operations	As Reported			Balance Excluding the Impact of the Revenue Recognition Update			Effect of Change
Revenue:
Contract operations	$	326,647		$	329,325		$	(2,678	)
Aftermarket services	112,263			101,442			10,821
Total Revenue	438,910			430,767			8,143
Cost of sales (excluding depreciation and amortization):
Contract operations	132,404			141,150			(8,746		)
Aftermarket services	93,130			85,011			8,119
Selling, general and administrative	54,157			55,127			(970		)
Benefit from income taxes	(1,213		)	(4,454		)	3,241
Less: Net income attributable to the noncontrolling interest	(8,097		)	(6,141		)	(1,956		)
Net loss attributable to Archrock stockholders	(1,879		)	(6,422		)	4,543

Accounting Standards Updates Not Yet Implemented

In June 2016, the FASB issued ASU 2016-13 that changes the impairment model for most financial assets and certain other instruments, including trade and other receivables, held-to-maturity debt securities and loans, and requires entities to use a new forward-looking expected loss model that will result in the earlier recognition of allowance for losses. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019 and early adoption is permitted. Entities will apply ASU 2016-13 provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. We are currently evaluating the impact of ASU 2016-13 on our consolidated financial statements.

Leases

In February 2016, the FASB issued ASU 2016-02 that establishes a ROU model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. Under the new guidance, lessor accounting is largely unchanged. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach that involves recasting the comparative periods in the year of initial application is required for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain optional transition practical expedients available. We intend to adopt ASU 2016-02 on January 1, 2019 and are currently assessing the practical expedients.

Though our assessment of the impact of the adoption of ASU 2016-02 is ongoing, we anticipate significant changes to our consolidated balance sheets and disclosures based on the requirements prescribed by the new standard. We do not believe the standard will materially affect our consolidated statements of operations. We are in the process of assessing changes to our internal control structure and will continue to evaluate our business processes, systems and accounting policies that are necessary to implement this standard.