IFRS 15, Revenue from Contracts with Customers, issued on 28 May 2014 replaced IAS 18, Revenue, and IAS 11, Construction Contracts, effective for annual periods beginning on or after 1 January 2018 to create a comprehensive standard which provides a single revenue recognition model that can be applied consistently across various industries, geographical regions and transactions. IFRS 15 also supersedes IFRIC 13, Customer Loyalty Programmes, IFRIC 15, Agreements for the Construction of Real Estate, IFRIC 18, Transfers of Assets from Customers, and SIC-31, Revenue—Barter Transactions Involving Advertising Services.
The objective of IFRS 15 is to establish principles to report useful information to users of financial statements about the nature, amount, timing and uncertainty of revenue and cash flows arising from a contract with a customer. To meet this objective, the core principle of IFRS 15 is that an entity should recognise revenue to depict the transfer of promised goods or services to the customer in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The transfer of goods and services is based on the concept of control derived from the definition of an asset in the IASB's Framework.
The contract determines the agreement between parties and therefore revenue recognition is derived from the enforceable rights and obligations agreed upon. IFRS 15 entails interpretation and judgement to be applied and requires management to document their basis and rationale for such interpretations and judgements. Revenue recognition is based on the terms of the contract and all relevant facts and circumstances such as created practices. The guidance in IFRS 15 including the use of the practical expedients should be applied consistently to contracts with similar characteristics and in similar circumstances.
Contract. An agreement between two or more parties that creates enforceable rights and obligations.
Contract asset. An entity's right to consideration in exchange for goods or right is conditioned on something other than the passage of time (for example, the entity's future performance).
Contract liability. An entity's obligation to transfer goods or services to a customer for which the entity has received consideration (or the amount is due) from the customer.
Customer. A party that has contracted with an entity to obtain goods or services that are an output of the entity's ordinary activities in exchange for consideration.
Income. Increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in an increase in equity, other than those relating to contributions from equity participants.
Performance obligation. A promise in a contract with a customer to transfer to the customer either:
Revenue. Income arising in the course of an entity's ordinary activities.
Stand-alone selling price (of a good or service). The price at which an entity would sell a promised good or service separately to a customer.
Transaction price (for a contract with a customer). The amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties.
Revenue is defined as income arising in the course of an entity's ordinary activities. Therefore, IFRS 15 in principle applies to income deriving from the ordinary activities of an entity.
IFRS 15 applies to all contracts with customers except leases, insurance contracts, financial instruments, guarantees and certain non-monetary exchanges. Dividend income and interest income previously included in IAS 18 is in the scope of the financial instrument standards (refer to Chapter 24). The sale of non-monetary financial assets, such as property, plant and equipment, real estate or intangible assets will also be subject to some of the requirements of IFRS 15.
A contract with a customer may be partially within the scope of IFRS 15 and within the scope of another IFRS standard. If the other IFRS standards specify how to separate and/or initially measure components the contract that IFRS standard is applied first. The transaction price for the purposes of IFRS 15 is then reduced by the amounts measured under the other IFRS standard(s). However, if the other IFRS Standard(s) does not provide such guidance, then IFRS 15 will be applied to the whole contract.
IFRS 15 only applies if the counterparty to the contract is a customer. A customer is defined as a party that has contracted with an entity to obtain goods or services that are an output of the entity's ordinary activities in exchange for consideration. For instance, counterparties' partners that share risks or do activities together would not be regarded as customers for the purpose of IFRS 15. In such a case they share benefits and an output of ordinary activities is not provided to the customer.
IFRS 15 also deals with the incremental cost of obtaining a contract and cost incurred to fulfil a contract, which are not dealt with in other IFRS standards.
IFRS 15 introduces a revenue model in which the core principle is that revenue is recognised to depict the transfer of promised goods or services to the customer in an amount that reflects the consideration expected to be entitled in exchange for those goods or services. To recognise revenue, five steps should be applied at contract inception, which do not need to be applied in sequence:
The revenue model is applied to each individual contract. However, as a practical expedient, a portfolio approach is permitted for contracts with similar characteristics provided it is reasonably expected that the impact on the financial statements will not be materially different from applying this model to the individual contracts.
A contract is defined as an agreement between two or more parties that creates enforceable rights and obligations. The object of identifying a contract with customers is to establish the enforceable rights and obligations. Therefore, IFRS 15 only applies to valid contracts that meet specified criteria. This step also identifies when contracts should be combined and recorded as one contract and provides guidance for the accounting for contract modifications.
IFRS 15 clarifies that a contract can be oral, written or implied by business practice. A contract with a customer will be regarded as a valid contract in the scope of IFRS 15 when all the following criteria are met:
The criteria are assessed at contract inception and should not be reassessed unless an indication of a significant change in facts or circumstances is evident. If a contract does not meet the above criteria, revenue is not recognised and going forward the contract is re-assessed to determine when the criterion are subsequently met to trigger the recognition of revenue.
The collectability criterion will normally not create problems in practice if an entity has proper credit control procedures to assess the credit status of customers. However, in the case of, for instance, state-owned entities that apply IFRS, this criterion could be problematic if the state-owned entities are required to provide services by law even if it is probable that the customers will not be able to settle their accounts.
IFRS 15 states that the enforceability of the rights and obligations in a contract is a matter of law, which could be applied and interpreted differently across legal jurisdictions. Business practice and procedures could also differ within an entity. These business practice and procedures should also be considered to determine whether and when an agreement with a customer creates enforceable rights and obligations. The duration of a contract should also be established to determine the period over which the contract creates enforceable rights and obligations.
Specifically, a contract does not exist if all parties to the contract have a unilateral enforceable right to terminate the contract without compensating other parties.
No transaction is recognised for a wholly underperformed contract. A contract is regarded to be wholly underperformed and regarded as an executory contract if both the following are present:
When a contract with a customer does not meet the criteria to identify a valid contract and consideration is received from the customer, revenue shall only be recognised for the consideration received when either of the following events happens:
The consideration received for invalid contracts shall be recognised as a liability until one of the events above happens or the contract becomes a valid contract. The liability is measured at the amount received. Normally the liability recognised represents the obligation to either transfer goods or services in the future or refund the consideration received.
Contracts are normally assessed separately. Contracts are, however, combined and treated as a single contract for the purpose of IFRS 15 if they are entered into at or near the same time with the same customer (or related parties of the customer) in any one of the following cases:
A contract modification is regarded as a change in the scope or price (or both) in a contract that is approved by the parties of the contract. A contract modification therefore either creates new or changes the existing enforceable rights and obligations in the contract. A contract modification should also be approved by the parties either in writing, by oral agreement or implied by customary business practices.
A contract modification must be distinguished from a variable consideration (discussed under step 3). A variable consideration is an uncertainty in the price of an existing contract that will only be resolved when the future uncertainty is clarified. Judgement is needed to distinguish between modifications and variable consideration.
When a modification is not approved by the parties to the contract, IFRS 15 is applied to the existing contract until the contract modification is approved. All relevant facts and circumstances including the terms of the contract and other available evidence should also be considered to determine whether a valid contract modification exists and is enforceable.
A contract modification may, however, exist although a dispute arises about the scope or price of the modification or the parties have approved a change in the scope of the contract but has not yet determined the corresponding change in price. If the parties to a contract have approved a change in the scope of the contract but have not yet determined the corresponding change in price, the change in the transaction price shall be estimated by applying the guidance in step 3 regarding the estimation of variable consideration and constraining estimates of variable consideration.
To determine the accounting treatment of contract modifications, an assessment is made to determine whether the modification is a separate contract or a change in an existing contract. A contract modification is accounted for as a separate contract when both the following conditions are met:
If the above conditions are not met, the contract modification is treated as a change of the existing contract. Changes of existing contracts are accounted for either prospectively or retrospectively. The accounting treatment depends on whether the remaining goods or services to be delivered after the modification are distinct from those delivered before the modification. This assessment will result in the contract being treated in one of the following three ways.
At contract inception, goods or services promised in a contract are identified as separate performance obligations when the goods or services are distinct. However, to make IFRS 15 more practical, a series of distinct goods or services is also identified as a performance obligation when the goods or services are substantially the same and have the same pattern of transfer to the customer.
A contract with a customer normally explicitly states the goods or services that are promised to be transferred to a customer. However, the performance obligations identified in a contract are not limited to the goods or services that are explicitly stated in that contract. Promises implied by customary business practices, published policies or specific statements are also included if those promises also create a valid expectation that goods or services will be transferred to the customer.
Performance obligations only include activities in a contract that transfers goods and services to the customer. Administrative tasks to fulfil or set up a contract will therefore not be separate performance obligations. IFRS 15 includes the following examples of promised goods and services:
A contract includes promises to transfer goods or services to a customer. If those goods or services are distinct, the performance obligation is accounted for separately. A good or service is regarded to be distinct if the following two criteria are met:
A customer is regarded as benefiting from a good or service if the good or service could be used, consumed or sold for an amount that is greater than scrap value or otherwise held to generate economic benefits. A customer could benefit from goods and services on its own or in conjunction with other readily available resources. A readily available resource is a good or service that is sold separately or a resource that the customer has already obtained from the entity or from other transactions or events.
The following factors identify whether goods and services are separately identifiable:
When promised goods or services are not distinct, they are combined until a bundle of goods or services is identified that is distinct. This could result in an entity combining all the goods or services promised in a contract as a single performance obligation.
This option is included to limit the overidentification of separate performance obligations in a contract when the goods and services are substantially the same and have the same pattern of transfer to the customer. IFRS 15 determines that a series of distinct goods or services has the same pattern of transfer to the customer if both of the following criteria are met:
The transaction price is the amount of consideration that an entity expects to be entitled to in exchange for transferring promised goods or services to a customer. The transaction price excludes amounts collected on behalf of others. In determining the transaction price, the terms of the contract and past customary business practices are considered. Further, it is assumed that the goods and services will be transferred as promised and that the contract will not be cancelled, renewed or modified.
The amount of consideration could be a fixed or variable amount and could be paid in cash or otherwise. If the consideration is not fixed the amount of consideration should be estimated limited to a specific constraint for variable consideration. In determining the transaction price, the nature, timing and amount of consideration are also considered, including the possible existence of a significant financing component in the contract.
At the end of each reporting period the estimated transaction price is reconsidered and updated with circumstances present at the end of the reporting period and changes in circumstances during the reporting period.
Variable amounts in a contract are estimated to determine the amount entitled under the contract, including consideration contingent on the occurrence of a future uncertain event. A variable consideration is, however, not included in the transaction price if the uncertainty regarding the amount is too uncertain (refer to constraining estimates of variable consideration below).
Variable fees arise when an entity provides goods or services for a consideration that varies based on the occurrence or non-occurrence of a future event. The timing of recognition of variable fees may now change and need to be recognised sooner as a result of IFRS 15. Revenues for industries like construction, asset management, technology, life sciences, entertainment and media and engineering may have a significant portion of revenue that is made up of variable fees, such as performance bonuses and other forms of contingent consideration.
Per the previous IFRS standards, such industries had to delay revenue recognition for variable fees until they were earned, received or the contingency resolved. Based on the new standard, revenue may be recognised earlier if an entity can point to experience with similar arrangements. As a result of this, a new process may need to be established to estimate these variable amounts each year.
The consideration promised could vary because of discounts, rebates, refunds, credits, price concessions, incentives, performance bonuses, penalties or other similar items, including consideration contingent on the occurrence or non-occurrence of a future event such as right of return options or performance bonuses. Right of return is specifically discussed later under specific transaction. Variability could be explicitly stated in the contract, or could result from customary business practices, published policies, specific statements or other facts and circumstances that a price concession will be granted.
The amount of variable consideration is estimated by using the following two methods depending on which method better predicts the amount of consideration entitled to:
The method chosen should be applied consistently throughout the contract. All information (historical, current and forecast) that is reasonably available, including a reasonable number of possible consideration amounts, should be considered. These considerations are normally based on information used by management during bidding and establishing prices for promised goods or services.
IFRS 15 deals with the uncertainty relating to variable consideration by limiting the amount of variable consideration that can be recognised. Specifically, variable consideration is only included in the transaction price if, and to the extent that, it is highly probable that its inclusion will not result in a significant revenue reversal in the future when the uncertainty has been subsequently resolved.
Both the likelihood and the magnitude of the revenue reversal should be considered in assessing the constraint. IFRS 15 identifies the following factors that could increase both the likelihood and the magnitude of a revenue reversal:
An adjustment for the time value of money is made to a transaction price for significant effects of financing. As a practical expedient, a finance component need not be identified when the period between the transfer of promised goods or services and the payment therefor is expected to be less than 12 months.
Time value of money plays an important role in IFRS 15. This is especially prevalent when a contract contains explicitly or implicitly a significant financing component as the transaction price will be affected. As a result, operational challenges associated with measuring the time value of money might be faced. In addition, judgement will play a role in deciding on what is considered to be significant.
The objective of adjusting the amount of consideration for a significant financing component is to recognise revenue at an amount that reflects the cash price on the date of transfer. Therefore, all facts and circumstances are considered to assess whether a contract contains a significant financing component. Specifically, the following are considered to identify a significant financing component:
IFRS 15 identifies that a significant financing component would not exist in the following cases:
The discount rate is determined at contract inception and not updated for changes in interest rates or other circumstances. The discount rate should reflect the applicable discount rate between the entity and other customers in a separate financing transaction. Such a rate reflects the credit characteristics of the customer receiving the finance and considers any collateral or security and assets transferred in the contract. The rate might also be determined by identifying the rate that discounts the contract payments to the normal cash price.
In the statement of comprehensive income, the effect of financing is presented separately from revenue from contracts with customers. Interest revenue or interest expense is recognised only if a related contract asset or liability is recognised.
Non-cash consideration is measured at fair value. However, when the fair value cannot reasonably be estimated, the non-cash consideration is measured indirectly by reference to the stand-alone selling price of the goods or services provided. Non-cash consideration could be variable regarding the form of the consideration (such as share payments) or for other reasons such as performance measures. In the latter case the requirements for variable consideration and any possible uncertainty constraint (discussed above) need to be considered.
When a customer contributes goods or services (such as materials, equipment or labour) to facilitate the fulfilment of the contract, an assessment is made whether the entity obtains control of the contributed goods or services. If control is obtained, the contributed goods and services are accounted for as non-cash consideration received from the customer.
Sometimes consideration might be payable to a customer. Consideration payable to a customer might also include credit or other items (such as a coupon or voucher) that can be applied against amounts owed to the customer. This could also include other parties that purchase the entity's goods or services from the customer.
Such consideration payable to a customer is normally regarded as a reduction of the transaction price and resultant revenue, unless the payment to the customer is for a distinct good or service transferred from the customer. The requirements for variable consideration and any constraint are also applicable to consideration payable to a customer.
When the consideration payable to a customer is for a distinct good or service from the customer it is regarded as a normal purchase transaction. Any excess of the consideration payable to the customer over the fair value of the distinct good or service is accounted for as a reduction of the original transaction price. However, if the fair value of the good or service received from the customer cannot be reasonably estimated, the full amount is regarded as a reduction of the transaction price.
Any reduction in the transaction price as a result of a consideration payable to a customer is recognised when the latter of the following events occurs:
The basic principle is that a change in the transaction price after contract inception is allocated to performance obligations on the same basis as at contract inception. The transaction price is therefore not reallocated to subsequent changes in stand-alone selling prices. This is regarded as a change in accounting estimates that is recognised when the change happens.
A change in the transaction price is allocated to some of the performance obligations or a series of distinct goods or services based on the guidance, discussed in step 4, to allocating variable consideration to some performance obligations.
A change in the transaction price from a contract modification is accounted for as a contract modification discussed in step 1. However, for a change in the transaction price that occurs after a contract modification, the issue is whether the modification would be accounted for as a separate contract or not. If the modification is accounted for as a separate contract, any change in the transaction that refers to an amount of variable consideration, promised before the modification, is allocated to the performance obligation identified in the contract before the modification. If the modification is not accounted for as a separate contract, the change in the transaction price is allocated to the performance obligations identified in the modified contract.
The objective in IFRS 15 is that the transaction price is allocated to each performance obligation in an amount that depicts the amount of consideration expected to be entitled to in exchange for transferring the promised goods or services to the customer. The requirements also specify when an entity allocates variable consideration to only some of the performance obligations in a contract.
The transaction price is allocated to different performance obligations in the contract by reference to their relative stand-alone selling prices. If a stand-alone selling price is not directly observable, it needs to be estimated.
The stand-alone selling price is the price at which an entity would sell a promised good or service separately to a customer. The best evidence of a stand-alone selling price is the observable price used in similar circumstances to similar customers. Alternatively, a contractually stated price or a list price for goods and services may be an indication of the stand-alone selling price.
When estimating a stand-alone selling price, all information is considered that is reasonably available to the entity. In doing so, the use of observable inputs is maximised. Estimation methods are applied consistently in similar circumstances.
Suitable methods for estimating the stand-alone selling price might include the following:
The use of the residual approach is limited to cases of uncertainty. Therefore, the residual approach may only be used in any of the following cases:
In highly variable and uncertain cases the methods may be combined for a contract to estimate the stand-alone selling prices for different performance obligations depending on the uncertainty and variability. However, the objective of depicting the expected amount of consideration should still be achieved.
Sometimes the transaction price may include a discount. A discount is granted for a bundle of goods or services if the sum of the stand-alone selling prices of the promised goods or services in the contract exceeds the promised consideration in a contract. Normally the overall discount is allocated between the performance obligations in a contract on a relative stand-alone selling price basis. However, in some circumstances it may be appropriate to allocate the discount to certain performance obligations in the contract when there is observable evidence that the discount relates to specific performance obligations in the contract.
A discount is allocated to only specific performance obligations in the contract if all of the following criteria are met:
The discount is allocated to certain performance obligations in the contract before using the residual approach to estimate the stand-alone selling price of any good or service.
Variable consideration that is promised in a contract may be attributable to the entire contract or to a specific part of the contract. A variable amount is allocated to a specific part of a contract if the terms of a variable payment relate specifically to the satisfaction of specific performance obligation. The allocation of the variable must also meet the objective of depicting the amount of consideration expected to be entitled to for transferring the promised goods or services to the customer.
Based on the principle of control, revenue is recognised when an entity's performance obligation is satisfied by transferring a promised good or service to a customer. A performance obligation could either be satisfied over time or at a point in time. The assessment of over time or at a point in time must be done at contract inception for each performance obligation by first assessing the application of over time. If the performance obligation is not satisfied over time it defaults to point in time.
Benefits are transferred to a customer. IFRS 15 assumes that the control of an asset is transferred even if the benefit is immediately consumed. Control of an asset means having the ability to direct the use of and obtain substantially all of the remaining benefits from the asset. Control also includes the ability to prevent others from directing the use of and obtaining the benefits. The benefits of an asset are the potential cash flows (inflows or savings in outflows) that can be obtained directly or indirectly in many ways, such as by:
When evaluating whether a customer obtains control of an asset any agreement to repurchase the asset should be considered (refer to specific transactions discussed later).
IFRS 15 determines that revenue is recognised over time if one of the following three criteria are met:
The assessment of whether a customer simultaneously receives and consumes a benefit is regarded as a “pure service.” This assessment might be easy in some cases, such as a cleaning service, but could be more difficult in other cases. To overcome any difficulty, IFRS 15 requires that a performance obligation is regarded as a “pure service” satisfied over time if another entity would not need to substantially reperform the work the entity has completed to date if that other entity were to fulfil the remaining performance obligation to the customer.
In the assessment whether another entity would not need to substantially reperform the work completed to date, any contractual restrictions or practical limitations are ignored. Further, the other entity fulfilling the remainder of the performance obligation must not have the benefit of any asset presently controlled and remained controlled by the original entity.
In determining whether a customer controls an asset as it is created or enhanced the requirements of control are assessed. The asset created or enhanced could be either tangible or intangible.
If the customer controls the asset, the customer could protect others from using the asset and therefore indirectly receive the benefits the asset has created or enhanced. In certain instances such as a construction contract that is fulfilled on the premises of the customer, it could be easy to determine that the customer can restrict others from using the asset as it is created or enhanced. However, if the work in progress is not done at the premises of the customer it could be more difficult to establish whether the customer controls the asset. To overcome such uncertainty, IFRS 15 includes the third “over time” criterion discussed below.
The criterion is based on two requirements that both must be present:
The first assessment is whether an asset has an alternative use at contract inception. After contract inception, the assessment of the alternative use of an asset is not updated unless the parties to the contract approve a contract modification that substantively changes the performance obligation.
The rationale for including the alternative use requirement is the assumption that an asset is specifically created for the customer if the entity cannot readily direct that asset for another use. In assessing the alternative use requirement, the effects of contractual restrictions and practical limitations on the ability to readily direct that asset for another use should be considered. The possibility of the contract with the customer being terminated is not a relevant consideration in assessing whether the entity would be able to readily direct the asset for another use.
A contractual restriction on the ability to direct an asset for another use must be substantive for the asset not to have an alternative use to the entity. A contractual restriction is regarded to be substantive if a customer could enforce its rights to the promised asset if the asset is directed for another use. In contrast, a contractual restriction is not regarded to be substantive if both:
A practical limitation on the ability to direct an asset for another use exists if significant economic losses would be incurred to direct the asset for another use. A significant economic loss would be incurred if the cost to rework the asset for alternative sale is significant or the asset could only be sold at a significant loss. Examples provided by IFRS 15 that could create significant economic losses are design specifications unique to a customer or activities located in remote areas.
The second requirement, the right to payment for performance completed to date, represents an entitlement to compensation for performance completed to date if the customer or another party terminates the contract for reasons other than the failure to perform as promised. The compensation should be an amount that approximates the selling price of the goods or services transferred to date, being a recovery of the costs incurred to date plus a reasonable profit margin. A reasonable profit margin need not be equal to the profit margin expected if the contract was fulfilled as promised, but should compensate for either of the following:
IFRS 15 clarifies that the right to payment for performance completed to date need not be a present unconditional right to payment. An unconditional right to payment may only be created if agreed-upon milestones are reached or upon complete satisfaction of the performance obligation. Therefore, consideration is made whether an enforceable right to demand or retain payment for performance completed to date exists if the contract were terminated early.
In certain contracts a customer may have a right to terminate the contract only at specified times during the life of the contract or the customer might not have any right to terminate the contract. If a customer terminates the contract prematurely, the contract (or other laws) might entitle the entity to continue to transfer to the customer the goods or services promised in the contract and require the customer to pay the consideration promised in exchange for those goods or services. The IASB clarifies that the entity has a right to payment for performance completed to date because the entity has a right to continue to perform its obligations in accordance with the contract and to require the customer to perform its obligations, which include payment for the promised consideration.
In assessing the existence and enforceability of a right to payment for performance completed to date the contractual terms as well as any legislation or legal precedent that could supplement or override those contractual terms are considered, including an assessment of whether:
IFRS 15 also clarifies that the payment schedule specified in a contract does not necessarily indicate whether an enforceable right to payment for performance completed to date exists. The payment schedule in a contract normally specifies the timing and amount of consideration that is payable by a customer, but might not necessarily provide evidence of the entity's right to payment for performance completed to date.
If a performance obligation is satisfied over time, an entity should select an appropriate measure of progress to recognise revenue over time. The objective of measuring progress is to depict the performance satisfied in transferring goods or services to a customer.
A single method of measuring progress is applied for each performance obligation satisfied over time and the method should be applied consistently to similar performance obligations in similar circumstances. Progress towards completion should be remeasured at the end of each reporting period. Such changes to an entity's measure of progress shall be accounted for as a change in accounting estimate in accordance with IAS 8.
Determining the appropriate method for measuring progress considers the nature of the good or service promised in the contract. Both input and output methods may be used to measure progress to completion.
Output methods recognise revenue based on a direct measurement of the value to the customer of the goods or services transferred to date relative to the remaining goods or services promised under the contract. Output methods include methods such as surveys of performance completed to date, appraisals of results achieved, milestones reached, time elapsed and units produced or units delivered.
The output method selected should faithfully depict the performance towards complete satisfaction of the performance obligation. Work in progress or finished goods controlled by the customer should be included in the measurement of the output delivered.
As a practical expedient exists for using invoiced amounts if the amounts correspond directly with the value to the customer of the entity's performance completed to date. An example is service contracts where fixed amounts are billed for each hour of service or unit delivered.
If the output used to measure progress to completion is not directly observable and therefore cannot be applied without undue cost, an input method is used.
Input methods recognise revenue base on efforts or inputs to the satisfaction of a performance obligation relative to the total expected inputs to satisfy the performance obligation. Examples of inputs are resources consumed, labour hours used, costs incurred, time elapsed or machine hours used. For practical reasons revenue might be recognised on a straight-line basis if the efforts or inputs are incurred evenly throughout the performance period.
An issue with input methods is that there may not be a direct relationship between inputs and the transfer of control of goods or services to a customer. Specifically excluded from an input method is efforts that do not depict the entity's performance in transferring control of goods or services to the customer. When using a cost-based input method, adjustments to the measure of progress may be required for:
Revenue is only recognised based on performance obligation satisfied over time only if a reasonably measure of progress towards complete satisfaction of the performance obligation could be made. A reasonable measure would not be made if reliable information to apply an appropriate method of measuring progress is not available. This could especially be applicable at the early stage of a contract. If, however, the costs are recoverable, revenue is only recognised to the extent of the costs incurred until a reasonable measure of progress could be made.
If a performance obligation is not satisfied over time, the performance obligation is by default satisfied at a point in time. To determine the point in time when revenue should be recognised, the requirements of control are considered. The control requirements are that the customer has (1) obtained the ability to direct the use of the asset and (2) obtain substantially all of the remaining benefits from the asset. Control is also present when the customer could restrict others from using the asset.
Factors which may indicate that control is passed to the customer at a point in time are:
IFRS 15 clarifies that customer assessment clauses should be assessed to determine when control is obtained by the customer. Such clauses normally allow the customer to cancel the contract or may require further work if the customer is not satisfied. Acceptance of an asset may indicate that the customer is satisfied with the assets and therefore has obtained control of the asset.
Customer acceptance is regarded to be a formality when it can objectively determine that the agreed-upon specifications in the contract are met. This assessment can be based on previous experience with contracts for similar goods or services. When the customer acceptance is a formality, revenue can be recognised before customer acceptance. Then a consideration is made whether there are any remaining performance obligations, such as installation of equipment, which should be recognised separately.
In contrast, if the customer acceptance is not a formality, revenue could not be recognised until acceptance by the customer. A product could also be delivered to a customer for trial or evaluation purposes without payment of any consideration until the trial period ends. Then revenue recognition is deferred until the customer either accepts the product or the trial period ends.
Incremental costs of obtaining a contract with a customer are recognised as an asset only when it is expected that the cost will be recovered through the contract. Incremental costs are costs incurred to obtain a contract that would not have been incurred if the contract had not been successfully obtained. A practical expedient, however, exists, allowing the incremental costs of obtaining a contract to be expensed if the amortisation period would be one year or less.
Costs to obtain a contract that would have been incurred regardless of whether the contract was obtained or not are expensed, unless those costs are explicitly chargeable to a customer.
Costs incurred to fulfil a contract are in the scope of IFRS 15 if it is not in the scope of another IFRS standard (such as IAS 2 or IAS 16). If not in the scope of IFRS 15, the other IFRS Standard is applied. Fulfilment costs in the scope of IFRS 15 are recognised as an asset only if all the following criteria are met:
Examples of costs that may be incurred to fulfil a contract are direct labour, direct materials, allocation of overheads that relate directly to the contract, costs that are explicitly chargeable to the customer under the contract and other costs that are incurred because of entering into the contract.
The following costs are, however, expenses as incurred:
A contract asset recognised is amortised on a systematic basis consistent with the transfer to the customer of the goods or services to which the asset relates. The amortisation is updated to reflect significant changes in the expected timing of transfer to the customer of the goods or services. Such a change is regarded as a change in accounting estimate in accordance with IAS 8.
An impairment loss is recognised in profit or loss to the extent that the carrying amount of a contract asset recognised exceeds:
The remaining expected amount of consideration is determined by using the principles for determining the transaction price in step 3, excluding the requirements on constraining estimates of variable consideration. The amount is further adjusted to reflect the effects of the customer's credit risk.
A step approach is followed before an impairment loss is recognised for a contract asset, and any impairment loss is recognised for assets related to the contract that are recognised in accordance with another IFRS Standard. After applying the impairment test, the resulting carrying amount of the asset is included in the carrying amount of the cash-generating unit to which it belongs for the purpose of applying IAS 36 (refer to Chapter 13).
Any later reversal of an impairment loss is recognised in profit or loss when the impairment conditions no longer exist or have improved. The new increased carrying amount of the contract asset shall not exceed the amount that would have been determined (net of amortisation) if no impairment loss had been recognised previously.
Balances on a revenue contract are presented in the statement of financial position as a contract asset or contract liability. A contract liability normally represents prepayments on a contract, such a revenue being received in advance. The contract liability represents the obligation to transfer goods or services to a customer. A contract liability is also recognised when a right to an amount of consideration exists that is unconditional (a receivable), before the entity transfers a good or service to the customer. Then a contract liability and a receivable are recognised.
A contract asset is recognised for transfer of goods and services that are still conditional and separately receivable for unconditional rights. Contract assets are assessed for impairment in terms of IFRS 9. An impairment of a contract asset shall be measured, presented and disclosed on the same basis as a financial asset that is within the scope of IFRS 9.
A receivable is the right to consideration that is unconditional. A right to consideration is unconditional if only the passage of time is required before payment of that consideration is due. A receivable is recognised for a present right even though that amount may be subject to refund in the future (refer to specific transactions discussed later). A receivable is accounted for in accordance with IFRS 9. Upon initial recognition of a receivable from a revenue contract any difference between the measurement of the receivable and the corresponding amount of revenue recognised is recognised as an expense.
IFRS 15 uses the terms “contract asset” and “contract liability” but does not prohibit an entity from using alternative descriptions. If alternative descriptions for contract assets are used, sufficient information should be disclosed for a user of the financial statements to distinguish between receivables and contract assets.
The disclosure objective of IFRS 15 is that sufficient information should be disclosed to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. To achieve this, both qualitative and quantitative information is disclosed.
The level of detail necessary to satisfy the disclosure objective and how much emphasis to place on each of the various requirements require judgements. Disclosure is aggregated or disaggregated so that useful information is not obscured by either the inclusion of a large amount of insignificant detail or the aggregation of items that have substantially different characteristics. Disclosure required by IFRS 15 is not provided if the information is provided by another IFRS Standard.
Revenue recognised shall be disaggregated into categories that depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors. The disaggregation is based on facts and circumstances applicable to the entity and disclosures for other purposes, including all of the following:
Examples of categories that might be appropriate are:
The following information should be disclosed in terms of IFRS 15:
IFRS 15 is effective for annual periods beginning on or after 1 January 2018 with early application permitted. Entities are allowed to choose whether to apply IFRS 15 retrospectively (with optional practical expedients) or according to the alternative transition method.
Under the retrospective application, prior period comparatives in the financial statements are restated as if the guidance had always existed.
Under the alternative transition method, restatement of comparative years is not required but the cumulative effect of initially applying IFRS 15 should be recognised as an adjustment to the opening retained earnings on the effective date (in the year of initial application). Additional disclosures are then required to illustrate the effects of applying IFRS 15.
IFRS 15 also clarifies the application of the 5 step approach to specific transaction.
IFRS 15 clarifies that a sale of a right of return could be any combination of the following:
IFRS 15 clarifies that the following should be recorded for a sale or service with a right of return and that no further stand-ready obligation for the expected return should be created:
The asset is presented separately from the refund liability. The asset for the products expected to be recovered is initially measured at the former carrying amount of the product less any expected costs to recover those products and any potential decreases in the value.
The expected consideration is determined by using the principles of determining the transaction price, including assessing for constraining estimates of variable consideration. The revenue amount is subsequently updated at the end of each year with new expectations.
IFRS 15 also specifically clarifies that:
Warranties could be provided for both sale and services and could differ across industries and contracts. Warranties could also include services to rectify a default product.
When a warranty is purchased separately it is regarded as a separate distinct performance obligation and recognised separately by allocation of a portion of the total consideration, if not separately identified or negotiated, to the warranty.
Warranties not purchased separately (they are included in standard contracts) are not regarded as a separate performance obligation and treated as a provision in terms of IAS 37 (refer to Chapter 18). Warranties could provide a customer with a service in addition to assuring the agreed-upon quality of the product. In assessing the additional service the following factors are considered:
Any service included in addition to ensuring the quality of the product is regarded as a separate performance obligation to which a portion of the transaction price should be allocated. In instances where both an assurance-type warranty and a service-type warranty are promised that cannot reasonably be separated, the warranties are treated together as a single performance obligation.
IFRS 15 also clarifies that the following are not regarded as separate performance obligations and should also be treated in terms of IAS 37:
IFRS15 determines that when another party is involved in providing goods or services to a customer an assessment needs to be made as to whether the other party is a principal or an agent.
A principal controls the promised good or service before it is transferred to a customer. However, IFRS 15 specifically clarifies that legal title of a product momentarily before it is transferred to a customer is not in itself an indication of a principal. A principal in a contract may also use another party, such as a subcontractor, to perform performance obligations on its behalf.
When acting as a principal, revenue is recognised for the gross amount of consideration entitled. In contrast, an agent only recognises commission or fee entitled to. The commission or fee might be the net consideration retained after transferring the consideration to the principal.
IFRS 15 provides the following indicators to identify an agent that is regarded not to control the goods and services before it is transferred to the customer:
IFRS 15 also clarifies that when another entity takes over the performance obligations and contractual rights in the contract so that the entity is no longer obliged to satisfy the performance obligation in the contract, no revenue should be recognised by the entity. Then the entity should consider whether it is an agent and entitled to any revenue.
Customer options for additional goods or services could include sales incentives, customer award credits (or points), contract renewal options or other discounts on future goods or services. The issue is whether the option in the contract creates a separate performance obligation
The test in IFRS 15 is whether the option creates a material right to the customer, which it would not obtain without entering into that contract. The result of a material right is that the customer effectively pays in advance for future goods or services and therefore a contract liability is created. Revenue for the option could then only be recognised when the future goods or services are transferred or when the option expires.
A material right is not created when the option grants the customer the right to obtain additional goods and services at a price reflecting the stand-alone selling price. Then IFRS 15 clarifies that a marketing offer is granted to the customer that is only subject to IFRS 15 when the option is exercised.
When an option creates a material right, a portion of the total consideration is allocated to the material right based on the stand-alone selling price of the option. If the stand-alone selling price for the option is not observable, it should be estimated. The estimation should include any discount the customer is entitled to and adjusted for both:
As a practical alternative the stand-alone selling price of the option could be determined by allocating the transaction price to the optional goods and services by reference to the goods and services expected to be provided and the corresponding expected consideration. The practical alternative is normally applicable to contract renewals and can therefore only be used when:
In this section IFRS 15 clarifies different unexercised rights of customers. If a prepayment is received from a customer, a contract liability is recognised for the prepayment. The contract liability is derecognised and revenue recognised when the related performance obligation(s) is satisfied.
When a customer does not exercise all its rights and a non-refundable contract liability is recognised, a breakage in a contract could occur. An expected breakage in a contract is determined by considering the requirements of constraint estimates of variable consideration, which means that a high probability needs to exist that the breakage identification will not be reversed.
The expected breakage amount identified in the non-refundable contract liability should be recognised as revenue in proportion to the pattern of rights exercised by the customer. However, if the entity does not expect to be entitled to a breakage amount, revenue is only recognised for the expected breakage amount when the likelihood of the customer exercising its remaining rights becomes remote.
Any consideration received for customers' unexercised rights that is required to be remitted to another party is recognised as a liability and not revenue.
Non-refundable upfront fees could be paid at or near contract inception such as a joining fee at sport clubs. The issues that IFRS 15 clarifies is whether these fees relate to the transfer of any specific promised goods or services and therefore whether revenue could be recognised. An assessment should also be made whether the cost incurred in setting up a contract could be recognised as an asset.
Activities performed by the entity upfront do not always result in a transfer of promised goods and services to the customer. If not, the upfront fee is regarded as a prepayment for future goods and services in the contract. The revenue recognition period recognises that the future goods and services would extend beyond the initial contractual period when the customer has an option to renew the contract and that option provides the customer with a material right.
When the non-refundable upfront fee relates to a specific good or service, an assessment is made whether the good or service relates to a distinct performance obligation to determine whether revenue could be recognised separately upfront.
A non-refundable fee may be charged to compensate an entity for costs incurred in setting up a contract. Such activities are also disregarded when measuring progress if they do not satisfy any performance obligations. That is because the setup costs do not depict the transfer of goods or services to the customer.
Entities that license their intellectual property to customers will be greatly affected. Licences allow a customer to use an entity's intellectual property such as trademarks, media and copyrights. The issue is to determine whether the licence that transfers to the customer is over time or at a point in time.
A licence could, either explicitly or implied in the contract, be granted with the transfer of goods and services to a customer. Then an assessment should be made whether a licence is a distinct performance obligation. When the licence granted is not distinct from other promised goods or services, the licence and promised goods and services are regarded together as a single performance obligation which is either satisfied over time or at a point in time. IFRS 15 provides the following examples of licences that are not distinct:
When the licence granted is distinct and therefore a separate performance obligation, an assessment is made whether the licence transfers either at a point in time or over time. The nature of the licence, as discussed below, is considered to determine whether the customer is provided with:
The assessment to determine whether a licence grants a right to access or use an intellectual property considers the definition of control and specifically whether the customer can at the point in time when the licence is granted direct the use of and obtain substantially all of the remaining benefits from the licence. Control is specifically not transferred if the intellectual property to which the customer has rights changes throughout the licence period. IFRS 15 clarifies that the intellectual property changes when the entity continues to be involved with the intellectual property and undertakes activities that significantly affect the intellectual property.
If the licence is transferred over time, it allows a customer access to the intellectual property as it exists during the licensing period. This is known as a dynamic licence as the provider of the intellectual property continues to undertake activities related to the intellectual property and the customer is exposed to the effects of that activity. As a result, the revenue would be recognised over the period of the licence term. Similar to any transaction recognised over time an appropriate method to measure progress towards completion must be applied.
The right to access an intellectual property over time is only applicable if the nature of the promise meets all of the following criteria:
Factors that may indicate that a customer could reasonably expect that such activities will be undertaken include customary business practices, published policies or specific statements. IFRS 15 clarifies that the existence of a shared economic interest, such as a sales-based royalty, may also indicate that the customer could reasonably expect that such activities will be undertaken.
If the above criteria are not met, the customer is regarded as obtaining the use of the intellectual property by default. Then it allows a customer access to the intellectual property when the licence was sold. This is known as a static licence as the intellectual property does not change after the licence is granted. As a result, the revenue would be recognised when the licence is sold to the customer. The point in time needs to be determined by considering from when the intellectual property can effectively be used.
The following factors are specifically disregarded when making an assessment of right of access or right of usage:
Revenue for a sales-based or usage-based royalty for a licence of intellectual property is recognised at the latest of the following events:
A repurchase agreement is a contract in which an asset is sold, which is a promise or option to repurchase the asset. The repurchased asset may represent:
IFRS 15 identifies three forms of repurchase agreements:
In the case of a forward or a call option to repurchase an asset, control is not regarded to be transferred to the customer because of the limited ability of the customer to direct the use of and obtain substantially all of the remaining benefits from the asset. The contract is therefore treated as either:
Time value is considered to compare the repurchase price with the selling price.
In the case of a financing arrangement, the asset is not derecognised, but a financial liability is recognised for the consideration received from the customer. The difference between the consideration received from the sale and the consideration to be paid for the repurchase is regarded as interest. When an option is not exercised the liability is derecognised and revenue is recognised.
In the case of a put option an obligation to repurchase the asset only arises when the customer requests the repurchase. The exercising of the right could result in the customer using the asset for just a time period. Two assessments need to be made by considering the time value of money:
Based on these assessments, four different accounting treatments are applicable:
When a product is delivered to an intermediary, such as a dealer or a distributor, for sale to end customers, an assessment is made whether the intermediary obtains control of the product. If the intermediary does not obtain control of the product, the product delivered is held in a consignment arrangement. No revenue is recognised if the product is held as a consignment.
IFRS 15 identifies the following indicators of a consignment arrangement:
A bill-and-hold arrangement is a contract under which a customer is billed for a product but the supplier retains physical possession of the product until it is transferred to the customer.
An assessment needs to be made whether the customer obtains control of that product before it is delivered by reviewing the terms of the agreement. Control would be obtained when the customer has the ability to direct the use of and obtain substantially all of the remaining benefits from the product even though it has decided not to exercise its right to take physical possession of that product. Then the supplier provides custodial services to the customer over the customer's asset.
For the customer to obtain control in a bill-and-hold arrangement, all of the following criteria must be met:
When revenue is recognised for the sale of a product on a bill-and-hold basis, consideration should be made of other performance obligations to which a portion of the transaction price should be allocated.
In many countries, public-to-private service concession arrangements have evolved as a mechanism for providing public services. Under such arrangements, a private entity is used to construct, operate or maintain the infrastructure for public use such as roads, bridges, hospitals, airports, water distribution facilities and energy supply. IFRIC 12, Service Concession Arrangements, deals with a private sector entity (an operator) that provides a public service and operates and maintains that infrastructure (operation services) for a specified period of time. The Interpretation was published in late 2006, to be applied for financial years beginning on or after January 1, 2008. As a change in accounting policy, it was to be accounted for retrospectively, except if that proved to be impracticable.
This Interpretation applies to service concession arrangements when the infrastructure for public use is constructed or acquired by the operator or given for use by the grantor and (1) the grantor controls what services the operator must provide, to whom and at what price, and (2) the grantor controls any significant residual interest in the existing infrastructure at the end of the term of the service concession arrangement. Because the grantor continues to control the infrastructure assets within the scope of the Interpretation, these assets are not recognised as property, plant and equipment of the operator. The operator recognises and measures revenue for the services it performs in accordance with IAS 11 or IAS 18. If more than one service is performed (e.g., construction or upgrade services and operation services) under a single contract or arrangement, consideration received or receivable is allocated based on relative fair values of the services provided, when the amounts are separately identifiable. The nature of the consideration the operator receives in exchange for the construction services determines its subsequent accounting treatment.
When the consideration received is a financial asset because the operator has an unconditional contractual right to receive from the grantor cash or other financial asset, the subsequent accounting in accordance with IFRS 9 and IAS 39 would apply. In this case the grantor bears the risk (demand risk) that the cash flows generated from the users will not recover the operator's investment. A financial asset is recognised during construction, giving rise to revenues from construction recovered during the period of use of the asset.
An intangible asset is recognised when the consideration the operator receives consists of rights to charge users of the public service, for example, a licence to charge users tolls for using roads or bridges, and it is accounted for within the scope of IAS 38. In this case, the operator bears the risk (demand risk) that the cash flows generated from the use of the public service will not recover its investment. The intangible asset received from the grantor in exchange for the construction services is used to generate cash flows from users of the public service.
In situations where a service or an asset is obtained for no consideration from a party who has no investment interest in the entity, the terms and conditions around the asset given must be considered. Where no terms and conditions are imposed, revenue can be recognised immediately. Where terms and conditions are imposed, revenue can only be recognised as the terms and conditions set out are fulfilled.
In these situations, historical cost is not adequate to reflect properly the substance of the transaction, since the historical cost to the corporation would be zero. Accordingly, these events should be reflected at fair value. If long-lived assets are donated to the corporation, they should be recorded at their fair value at the date of donation, and the amount so recorded should be depreciated over the normal useful economic life of such assets. Disclosure will be required in the financial statements of both the assets donated and the conditions required to be met.
Note that IFRS explicitly addresses the proper accounting for government grants (see discussion in Chapter 21), which may differ from the foregoing illustrative example, which involved private donations only. Readers should be alert to further developments in this area.
Exemplum Reporting PLC Financial Statements For the Year Ended 31 December 20XX |
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Accounting policy: Revenue from contracts with customers | |
Revenue comprises sales and/or services to external customers (excluding VAT and other sales taxes). Revenue is recognised when control of the goods has transferred to the customer or when service obligations are fulfilled… | IFRS 15 |
Rental income from operating leases is recognised in income on a straight-line basis over the lease term. | IAS17 |
Interest revenue is recognised in the period in which interest is earned. The amount of revenue is measured using the effective interest rate method. |
Note to financial statements: Revenue from contracts with customer
20XX | 20XX-1 Restated |
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The group has recognised the following amounts relating to revenue in the statement of profit or loss: | |||
Revenue from contracts with customers | X | X | IFRS 15 (113) (a) |
Revenue from other sources | X | X | |
Total revenue | X | X |
US GAAP guidance for revenue recognition is composed of over 100 pieces of literature from the FASB and US Securities and Exchange Commission. US revenue guidance is very prescriptive. However, the core principles of revenue recognition for US GAAP are similar to IFRS. Revenue must be realised or realisable and earned. A valid agreement with a customer must be in place that establishes the terms of the exchange, performance must have occurred, the risks and rewards of ownership must have passed and collectability must be reasonably assured. Public companies must follow the guidance in the SEC's SAB Topic 13, Revenue Recognition: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller's price to the buyer is fixed or determinable and collectability is reasonably assured. Despite this similarity, US GAAP contains many exceptions to these principles that have the effect of deferring revenue that is otherwise earned. Also, US GAAP provides separate definitions of revenue and gains.
US GAAP measures revenue based on the fair value of what is given up or the fair value of what is received, whichever is more evident. On the other hand, IFRS measures revenue based on the fair value of what is received or receivable. US GAAP includes specialised accounting for multiple-deliverable arrangements which, in principle, are the same as IFRS but include clauses that delay recognition until reliability of measurement complies with a concept called Vendor-Specific Objective Evidence (VSOE). VSOE can be either the price charged for a deliverable when sold separately or the price established by management having the relevant authority, where it is probable that the price will not change before the separate introduction of the deliverable into the marketplace. The US Securities and Exchange Commission provides even more detailed guidelines for registered entities. In summary, if VSOE is not available for any of the elements, the full revenue of the arrangement cannot be recognised.
Another departure from the core principles is called the Milestone Method. This method, used mainly for research and development arrangements, delays revenue recognition based on satisfying conditions agreed at the inception of the agreement. These milestones cannot be changed once work has begun. Additionally, entities are permitted to delay revenue recognition further, based on an accounting policy decision.
US GAAP includes extensive guidance for recognition and presentation of customer incentive payments, which are largely within the IFRS Framework, with some exceptions for measuring “breakage” or non-use of incentives by customers.
US GAAP literature for revenue recognition for construction and production-type contracts contains much more guidance than IFRS. Separation and combination of contracts is different in some instances. The language in US GAAP for construction and production-type contracts is written in terms of options rather than prescription. However, in practice, the guidance is treated as mandatory. If certain criteria are met, the percentage-of-completion method is used in US GAAP. If not, the completed contract method is used.
Other detailed US GAAP guidance is required for specific industries including: airlines, financial services, oil and gas, real estate, healthcare, entertainment, development stage and non-profit.
In 2014, the FASB and IASB issued a joint revenue recognition standard. In US GAAP, this standard was established as Accounting Standards Codification section 606—Revenue from Contracts with Customers, which is nearly identical to IFRS 15 except for some transitional matters and matters that are consequences of the inherent differences between IFRS and US GAAP. For a public entity, ASC 606 is effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. Early application is not permitted.
IASB issued amendments to IFRS 15 in April 2016 and FASB issued corresponding amendments to Topic 606 in April and May. A number of differences between IFRS 15 and Topic 606 arise as a result of these amendments. The main differences are as follows.
US GAAP allows an entity to make a policy election to account for shipping and handling activities that occur after the customer has obtained control of a good as an activity to fulfil the promise to transfer the good rather than as an additional promised service.
While revenue for all licences to symbolic intellectual property is recognised over time under US GAAP, revenue for similar licences under IFRS 15 may be recognised at a point in time if the reporting entity undertakes no activities that significantly affect the ability of the customer to obtain benefit from the intellectual property, although such cases are expected to be relatively rare.
Under US GAAP, a renewal or extension of a licence will result in revenue recognition at the beginning of the renewal period. Under IFRS, revenue for similar arrangements may result in revenue recognition when the parties agree to the renewal or when the renewal period begins, depending on the facts and circumstances.
Under US GAAP, an entity may make a policy election to exclude all sales (and other similar) taxes from the measurement of the transaction price. IFRS 15 does not set out a similar permission.