IFRS 15 Revenue From Customer Contract New [PDF]

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IFRS 15 – Revenue from contracts with customers Dr. Trinh Hiep Thien, MPAcc (Usyd), MBA, ACMA, CGMA

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When and how to recognize revenue Before the change

After the change

IAS 18 Revenue IAS 11 Construction Contract SIC 31 Revenue – Barter transactions involving with Advertising Services

IFRS 15

Effective date: 1 Jan 2018 (Equivalent US GAAP – ASC 606)

IFRIC 13 Customer loyalty Programs IFRIC 15 Agreement for the Construction of Real Estate IFRIC 18 Transfers of Assets from Customers 2

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IFRS 15 Revenue from contracts with customers = apply to ALL CONTRACTS with CUSTOMERS except for: Lease contracts (IFRS 16)

“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”

Insurance contracts (IFRS 4) Purchaser of PPE (IAS 16), Intangible asset (IAS 38)

Financial instruments and other contractual rights/ obligations with the scope of IFRS 9, 10, 11, IAS 27, 28 Non-monetary exchanges between entities within the same business to facilitate sales

Complex contract

= part of contract is under IFRS 15 and part is under different IFRS Mortgage at fair value under IFRS 9 Remaining amount to assistance services under IFRS 15

Mortgage

Assistance services

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The 5-step Revenue Model Contract attributes Contract modification

Step 1: Identify the contract with customer

Step 2: Identify the performance obligations (PO) in the Variable consideration Non-cash consideration contract

Step 4: Allocate transaction price to the PO in the contract

Significant financing component Consideration payable to customer

Promises Distinct criteria Principle vs. agent considerations

Over time or a point in time Contract costs

Stand-alone selling price

Step 3: Determine the transaction price

Step 5: Recognize revenue when (or as) an entity satisfies a PO 4

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Example Free handset + 12-month network services

Handset = $300

ABC Network service = $80/ month without handset

12  $100

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Step 1: Identify the contract with the customer Contract attributes Contract modification

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Contract attributes = agreement between 2 more parties creating enforceable

rights + obligations Written contract

Contract

Oral contract

Attributes Parties have approved the contract and are committed to perform 1,000 units

Each party’s rights to goods/ services can be identified The payment terms for goods/ services can be identified

Supplier

The contract have commercial substance

$1,000,000

Client

$400,000

It is probable that an entity will collect the consideration (evaluate customer’s ability and intention to pay) IFRS “More likely than not” (>55%) US GAAP “Likely to occur” (>70%) 7

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Failure to meet contract criteria If a seller does not satisfy all of the five Step 1 criteria, then it should recognize revenue when it has received the consideration and when one or more of the following have occurred: 

The seller has no remaining obligations to transfer goods or services and substantially all (or all) of the consideration has been received by the seller and is nonrefundable, or



The contract has been terminated and any consideration already received from the customer is nonrefundable, or

Otherwise, shall recognize consideration as liability until performance obligation is met. A traveler failed to check in before the deadline timing. Can airline recognize revenue of the air ticket paid ?

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Contracts combination vs. Contract modification Combination of contracts When 1 or more is met:

Contract

 The contracts are negotiated as a package with a single commercial objective; OR  The amount of consideration to be paid in one contract depends on the price or performance of the other contract; OR  The goods or services promised in the contracts are a single performance obligation.

Contract modifications = change in the scope, or price or both => must be a approved by the parties Prior approval => Based on enforceability

Contract

Access to land within 30 days Compensation for delays

Constructor

Customer

Made a CLAIM Access provided after 90 days =>

Constructor

= contract modification even if not approved (enforceable) 9

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Contract modification – Decision tree Contract modification

Are additional goods/ services in contract modification distinct?

NO

II. CM = PART OF EXISTING CONTRACT (“catch-up adjustment”) IV. Combination of (II) and (III)

YES Does consideration for added goods/ services reflected their stand-alone prices?

NO

III. CM  SEPARATE CONTRACT (termination of old contract + creation of new contract)

YES I. CM = SEPERATE CONTRACT

Consideration allocated to the remaining performance obligation: = Consideration from the old contract not yet recognized + Consideration in the contract modification 10

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Contract modification – Example Ball PC, computer manufacturer, enters into contract with Forward University to deliver 300 computers for total price of CU 600 000 (CU 2 000 per computer). Due to necessary preparation works, Forward University agrees to deliver computers in 3 separate deliveries during the forthcoming 3 months (100 computers in each delivery). Forward University takes control over the computers at delivery. After the first delivery is made, Forward University and Ball PC amend the contract. Ball PC will supply 200 additional computers (500 in total). How should Ball PC account for the revenue from this contract under IFRS 15 if: The price for additional 200 computers was agreed at CU 388 000, being CU 1 940 per computer. Ball PC provided a volume discount of 3% for additional delivery which reflects the normal volume discounts provided in similar contracts with other customers. As of 31 December 20X1, Ball PC delivered 400 computers (300 as agreed initially and 100 under the contract amendment). 11

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Contract modification – Example Ball PC, computer manufacturer, enters into contract with Forward University to deliver 300 computers for total price of CU 600 000 (CU 2 000 per computer). Due to necessary preparation works, Forward University agrees to deliver computers in 3 separate deliveries during the forthcoming 3 months (100 computers in each delivery). Forward University takes control over the computers at delivery. After the first delivery is made, Forward University and Ball PC amend the contract. Ball PC will supply 200 additional computers (500 in total). How should Ball PC account for the revenue from this contract under IFRS 15 if: The price for additional 200 computers was agreed at CU 268 000, being CU 1 340 per computer. The price for additional computers was reduced significantly due to the following: - Ball PC provided a discount of 30% for additional delivery because it hopes for the future cooperation with Forward University (nothing even discussed yet). As a result, initial price for additional products was set at CU 1 400 per computer. - After initial delivery, Forward University discovered minor defects on 50 computers and as a result, Ball PC agreed to provide partial credit of CU 240 per computer. This credit is incorporated into the new agreed price for additional 200 computers (resulting price of (1 400*200-240*50)/200 = 1 340/computer). Note: contract amendment was made after the first delivery. As of 31 December 20X1, Ball PC delivered 400 computers (300 as agreed initially and 100 under the contract amendment). 12

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Step 2: Identify the performance obligation(s) in the contract Explicit and implicit promises Distinct criteria Principle vs. agent considerations

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Performance obligations = promise in a contract with a customer to transfer to the customer either:

Performance obligations 1

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A good/ service (or bundle) that is distinct A good/ service

Series of goods/ services

Series of distinct goods/ services that are substantially the same and have the same pattern of transfer = single performance obligation (not small individual PO)

 PO can be both explicit (in the contract) and implicit (based on practices or policies)  If no transfer to customer => No PO! (e.g. admin or setup) 14

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Performance obligations – Examples ABC Corp., producer of cleaning machines, sells their cleaning machines to various companies. Determine the performance obligations in the following contracts: In contract with the client A, ABC promises to deliver 10 cleaning machines for total price of CU 200 000. The contract A contains a clause about free repair and maintenance service within 2 years after purchase.

In contract with the client B, ABC promises to deliver 5 cleaning machines for total price of CU 100 000. No warranty is promised in the contract, however, ABC Corp. is well-known for its perfect customer services and providing 1-year free repair services in the past. In contract with the client C, ABC promises to deliver 50 cleaning machines for total price of CU 1 000 000. No warranty is promised in the contract, and ABC usually does not provide any free services in the country of client C. However, after the contract is signed, ABC offers free maintenance service to a client C as a bonus for big order. 15

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What is “DISTINCT”? Resale of goods purchased by entity Sale of goods produced by entity Resale of rights purchased by an entity

Examples:

Manufacturing, developing an asset on behalf of a customer

Performing contractually agreed-upon tasks

Granting licenses

Constructing on behalf of a customer 16

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What is “DISTINCT”? Performance obligations

Nature of goods/ services

Business model of entity

=> What is “DISTINCT”? A customer should be able to benefit from the good or service

Goods/ services are capable of being distinct.

Goods/ services are separately identifiable from other goods/ services in the contract.

• on its own; or • in combination with other available in-hand resources. • Entity is NOT using goods/services as an input to produce or deliver combined output. • The good/ service does not significantly modify or customize another good/ service. • The good/ service is not highly dependent with other goods/ services in the contract.

M Co. enters into a contract to sell a pool filter system and a filter cartridge that is delivered two weeks later.  The pool filter system cannot filter without the filter cartridge.  Both the pool filter system manufacturer and sellers of generic filter cartridges sell the pool filter system and filter cartridges separately.

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Performance obligations – Examples Software license Contract

Installation Software updates Technical support

Customer

Software developer Scenario 1

Scenario 2

 Software remains functional during installation

 Installation will customize software substantially

 Installation performed by other entities, too

 Installation performed by other entities, too

 Other services sold also separately

 Other services sold also separately

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Not distinct performance obligation Goods/ services that are NOT distinct: => Combine until you get a bundle that is distinct PC = Not distinct, must be combined

IT service = distinct PC only sold with IT services

IT services sold either separately, or with PC as a package

The government contracted a construction company to build a hospital. There are many steps from laying down foundation, construct wards, surgery rooms, etc. How many POs in this project? 19

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Principal vs. agent considerations Principal

To provide goods/ services itself

Revenue = gross amount

Agent

To arrange for another party to provide goods/ services

Indicators  Primary responsibility for fulfilling the contract  Inventory risk  Establishing prices  Consideration = commission  Customer’s credit risk

Revenue = net amount (commission)

Lazada operates a website on which Customers purchases goods from a range of suppliers. Lazada entitles a commission of 10% of sales price. The website facilitates payment, but the suppliers set the prices of products. Lazada requires nonrefundable payments from customers before orders are processed. A customer bought a dress at $500. How to account for it? Is the online platform principal or agent? How to recognize revenue in the book of the online platform? 20

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Step 3: Determine the transaction price Variable consideration Constraining estimates in variable consideration Significant financing component Non-cash consideration Consideration payable to customer 21

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Transaction price Amount of consideration 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 (i.e. VAT). How to determine transaction price ? Consideration payable to a customer

Non-cash consideration

Variable consideration

Constraining estimates in variable consideration

Existence of significant financing component

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Variable consideration Transaction price can be fixed or variable. Why variable? Bonus

Estimate variable consideration

discount

rebate

Expected value

Large number of similar transaction

Most likely amount

Only 2 possible outcomes

Ai Quoc Construction company is contracted to build an office building on or before a deadline. If Ai Quoc meets the deadline, the contract price is $100m. Every 10 days delay, the contractor is required to compensate the customer by $5m. There is 70% chance that the deadline can be met. 15% chance delay 10 days, 10% chance delay 20 days and 5% chance delay 30 days. Required a. What should be the estimated contract price? b. In year one, Ai Quoc completed 60% of the job. How much revenue should be recognised? c. By the end of year two, Ai Quoc completed 90% of the job, and re-estimated that 95% that it can meet the deadline and only 5% chance that it would delay by 10 days. How much revenue should be recognised in year 2? 23

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Constraining estimate in variable consideration BigBooks Corp. is a company providing centralized accounting services for corporations. It enters into a 3-year contract with client A. The contract states: 

BigBooks will maintain all bookkeeping and document processing activities for client A, including preparing annual financial statements, monthly reports and tax returns. BigBooks prepare monthly reports and annual financial statements only in conjunction with bookkeeping and data processing performed by BigBooks' team.



The annual fee is CU 272,000 per year , consisting of: CU 250,000 per year for up to 50,000 accounting entries, CU 1,000 per month for monthly reports and and CU 10,000 per year for annual financial statements and tax return. BigBooks is entitled to CU 5 per accounting entry in excess of 50,000 entries per year.



BigBooks is entitled to an annual bonus payment of CU 12,000 if the average processing time of 1 batch of 1,000 documents is less than 1 week in the particular year.

Careful analysis of client's A activities and past accounting records show that in the first year, number of accounting entries is assumed at 48,000, in the second year at 50,000 and in the third year at 53,000.

Entities must also assess the contract to determine if there are any constraints to variable consideration. For the entity to include variable consideration in the estimated transaction price, it has to conclude that it is probable (70 to 75%) that a significant revenue reversal will not occur in future periods.

Based on past work records and delivery times BigBooks Corp. assumes that the probability of processing time of 1,000 documents in less than 1 week is 30%. Required: 1. Identify individual performance obligations in the contract and determine the transaction price. 2. How would the transaction price change if the contract states that BigBooks is entitled to an annual bonus amounting to CU 0-12,000 and its precise amount depends on number of times when the batch processing time for 1,000 docs fell below 1 week during the year? 24

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Existence of significant financing component when delivery of the goods or services occurs in advance of the payment, the seller is providing financing to the buyer. Contract

when delivery occurs well after payment, the buyer is providing financing to the seller.

When the time lapse between payment and delivery is more than one year, entities are required to separate the revenue generated from the contract from the financing component if the financing component is significant at the individual contract level. Before

After The entity discounts the promised consideration amount back to the present value, using the same discount rate it would use if it entered into a separate financing arrangement. The entity determines the future value of the payment, using the same discount rate it would use if it entered into a separate financing arrangement. 25

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Variable consideration Significant Financing Component – Delivery before Payment

Before

After

Before

After

KMR Enterprises enters into a sales contract with a new customer. Delivery occurs at the date of contract inception. However, payment of the contract price of $1 million will not occur until two years later. The interest rate charged in similar arrangements in the industry is 10%. Does a significant financing component exist? If so, what amount should KMR record as sales revenue and what amount should KMR record as interest revenue?

Significant Financing Component – Delivery after Payment KMR Enterprises enters into a sales contract with a new customer. Payment of the contract price of $1 million occurs at the date of contract inception. However, delivery of the product will not occur until two years later. The interest rate charged in similar arrangements in the industry is 10%. Does a significant financing component exist? If so, what amount should KMR record as sales revenue and what amount should KMR record as interest expense?

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Non-cash consideration PAYMENT =

Example TrueTech provides laptop-related maintenance services to Shemco. In exchange, TrueTech received 100 shares of Shemco no-par common stock. Determine the transaction price in the contract for the following scenarios:

The transaction price should be measured at the fair value at contract inception of the noncash consideration received by the seller.

(a) 100 shares of Shemco’s stock is traded on an active market for $55,000. The standalone value of the maintenance services is $56,000. (b) (b) Shemco is privately held, making it difficult to estimate the fair value of the shares given in exchange for the maintenance services. 27

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Consideration payable to a customer

Example Clever Company enters into a contract with a customer in which it promises to deliver products for a price of $10 million. The contract also stipulates a slotting fee of $250,000 that Clever Company will pay to the buyer. Manufacturers commonly pay a slotting fee to retailers to have their goods displayed prominently in the retailers’ stores. What is the transaction price in this contract?

For distinct goods or services, account for an added obligation.

Not for distinct goods or services, e.g. discount, or refund, reduce the transaction price.

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Step 4: Allocate the transaction price to the performance obligations Stand-alone selling price

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Allocate the transaction price to the PO Allocation objective

= to allocate the transaction price to each performance obligation in an amount that depicts the amount of consideration for transferring promised goods/ services.

How to allocate the transaction price ? => Based on relative stand-alone selling price, except for: Entity regularly sell each distinct each good/ service on a stand-alone basis

Allocating discounts

Allocating consideration with variable amounts

A bundle of some of these goods/services at a discount to the sum of the standalone selling prices of the separate goods/services. Discount attributable to each bundle is substantially the same as discount in the contract + analysis provide evidence.

Example GW Company is a wholesaler that sells hockey equipment. It regularly sells the following products separately at the following standalone selling prices: Sticks: $100; Helmets: $75; Skates: 300 GW also regularly bundles helmets and skates together for $350. GW signs a contract with Hockey Equipment Retailers to sell 100 sticks, helmets, and skates for $45,000. GW determines that each product is a separate performance obligation. How should GW allocate the transaction price to each product? 30

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Allocate the transaction price to the PO Allocation objective

= to allocate the transaction price to each performance obligation in an amount that depicts the amount of consideration for transferring promised goods/ services.

How to allocate the transaction price ? => Based on relative stand-alone selling price, except for: Allocating discounts

Allocating consideration with variable amounts

The terms of the variable amount relate to one or more, but not all, of the specific performance obligations. Allocating the variable amount entirely to one or more, but not all, of the specific performance obligations is consistent with the objective of performing the allocation in a way that reflects a reasonable allocation of the transaction price on the basis of the standalone selling prices.

Example Franklin Inventors sells two of its patents in a contract with a retailer that sells toys and other children’s products. The first is a patent for a super absorbent diaper and the second is a patent for a new digital toy. Franklin determines that each of these patents comprises a separate performance obligation. The estimated standalone selling prices are $5 million for the diaper patent and $2 million for the digital toy patent. The stated price in the contract for the diaper patent is a fixed payment of $5 million. The stated price for the digital toy patent is 5% of the customer’s future sales of the toys. Franklin estimates the variable consideration for this patent to be $2 million. What amount of the transaction price should Franklin allocate to each performance obligation? 31

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How to estimate the stand-alone selling price? Combination

Stand-alone selling price = the price at which the entity would sell promised good or service separately to the customer at the contract inception.

Residual approach

Adjusted market assessment approach

01 I. Take observable selling price

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II. If observable selling prices not available => make estimate

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Expected cost plus margin approach

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Estimate stand-alone selling price Adjusted market assessment

Expected cost plus margin

Residual

Available exchange price on a market

forecasted fulfilment costs, adds margin at the amount the market would be willing to pay

allocate the remaining transaction price to the goods or services that do not have observable standalone selling prices

Suitable in situations where a competitor offers similar goods or services to use as a basis in the analysis

suitable in situations where the direct fulfilment costs are clearly identifiable

Suitable where the other two approaches are not applicable

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Estimate stand-alone selling price – Example Bord Industries enters into a contract with a customer to sell three products for a total transaction price of $650,000. Each product is appropriately classified as a separate performance obligation. Bord Industries sells products A and B only on an individual basis, so it must estimate the standalone selling price for product C. Information related to these three products is provided in the following table.

Product

Stand‐alone Selling Price 

Market Competitor Prices 

Forecasted cost

A

$175,000

$133,000

$120,000

B

$300,000

$312,000

$250,000

C

Not available

$200,000

$130,000

$645,000

$500,000

Total

How should Bord Industries allocate the transaction price to the 3 products under each of the following 3 approaches? 34

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Step 5: Recognize revenue when (or as) an entity satisfies a PO Over time or at the point of time Contract costs

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Recognize revenue when (or as) satisfies a PO Performance obligation is satisfied when a promised good or service is transferred to a customer.

Control - direct use of and obtain substantially all remaining benefit from assets, and - prevent others from directing the use of, and obtaining the benefits from, an asset.

How can a performance obligation be satisfied?

Over time

At the point of time 36

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Recognize revenue when (or as) satisfies a PO Performance obligation is satisfied

if 1 of the following is met: Over time

• Customer simultaneously receives and consumes as the entity performs • Customer controls the asset enhanced or created by the entity • Entity does not create an asset with an alternative use + an enforceable right to payment. How to measure progress towards completion ? => Select single revenue recognition method + apply consistently (no change is permitted) Output

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Recognize revenue when (or as) satisfies a PO RE Construct, property developer, builds a residential complex consisting of 50 apartments. Apartments have a similar size and proportions - however, they can be customized to clients’ needs. RE Construct enters into 2 contracts with 2 different clients (A and B). Both clients want to buy almost identical apartments and agree with total price of CU 100 000 per apartment. The payment schedule is as follows: - Upon the signature of a contract, clients pay deposit of CU 10 000 each. - Milestone: 1 year prior planned completion, RE Construct will deliver progress reports to clients and clients need to pay CU 50 000 each. - Completion: Upon the completion of the construction, the legal ownership to apartments is transferred to clients and they pay the remaining amount of CU 40 000 each. Assumed period of construction is 2 years from the date of contract. RE Construct has the right to retain the payments from any client in the situation when that client defaults on the contract before its completion. The contracts with clients A and B are NOT identical. Further contractual terms specify that: - No other specific terms in the contract with client A. - The contract with client B specifies that RE Construct cannot transfer or direct the apartment to another client and in return, the client B cannot terminate the contract. If the client B defaults on the contract before its completion, RE Construct has the right for all contractual price if RE Construct decides to complete the contract. Total assumed cost of construction is CU 80 000, thereof CU 35 000 in the first year of construction and CU 45 000 in the second year of construction. When and how shall RE Construct recognize revenue from contract A and contract B?

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Recognize revenue when (or as) satisfies a PO Performance obligation is satisfied

if control not transferred overtime: At the point of time

Indicators • The seller has a present right to payment for the asset. • The customer has legal title to the asset. • The seller has transferred physical possession of the asset. • The customer has the significant risks and rewards of ownership of the asset. • The customer has accepted the asset.

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Contract costs IFRS 15: Contract costs Costs to obtain the contract

Costs to fulfill the contract

If not within IAS2, IAS 16 and IAS 38 Capitalize if: Sales commissions

Legal fees

Bonuses to employees

 Costs relate directly to contract  Cost generate/ enhance resources used in satisfying performance obligations in the future  Costs are expected to be recovered 

Capitalize + Amortize

Direct labor Direct material Allocated costs Chargeable costs



General + admin costs Wasted costs Costs of past performance Indistinguishable costs 40

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BigBooks Corp. is a company providing centralized accounting services for corporations. It enters into a 3year contract with client A to provide all bookkeeping and data processing activities for the period of 3 years. Before providing the services, BigBooks incurs the following expenses:  commission to a sales representative for arranging the contract: CU 5 000  fee to a lawyer for drafting and finalizing sales contract: CU 3 500  investment into additional 10 computers dedicated to contract with client A: CU 4 000

Contract costs Example

 customization of existing accounting software to BigBook's needs, preparing new chart of accounts and data flows, testing: CU 13 000  payroll expenses of 3 employees dedicated to contract A for 3 years: CU 30 000. How should BigBooks recognize these expenses in its financial statements? 41

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The end!

Address: 279 Nguyen Tri Phuong St., District 10, HCMC Lecturer: Dr. Trinh Hiep Thien, ACMA, CGMA

Email Address: [email protected]

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