033: How to account for settlement discounts under IFRS 15? IFRS 15 also requires an entity to recognise revenue from contracts only where the customer is expected to meet its obligations under the contract. The standard defines transaction price as the amount of consideration that an entity expects to be entitled to in exchange for transferring promised goods or services to a customer. "Grant Thornton” refers to the brand under which the Grant Thornton member firms provide assurance, tax and advisory services to their clients and/or refers to one or more member firms, as the context requires. Thus, the wifi router would be treated as market cost under IAS 18. If a financial statement is … It seems understandable and very easy at first sight, and it truly is in many cases. TMT outlook: Can tech spend buoyancy keep the industry airborne? The costs to fulfil the contract cannot be deferred and should be recognised as incurred as they are not ‘expected to be recovered’ (IFRS 15.95(c)). In output based approach, the value transferred to the customer is measured and treated as a basis for revenue recognition. It may be possible that there are various performance obligations in a contract, some of which may be recognized over time while some may be recognized at a point in time. As mentioned earlier, in IAS – 18, the major focus was on the transfer of risks and rewards for the recognition of revenue. This is where the measurement part of revenue jumps in. How to Calculate Earnings per Share (EPS)? Our advice is to build a wider ‘digital risk’ function which integrates data privacy and cyber security. However, if the customer’s ability to pay deteriorates significantly while the contract is still in progress the entity should reassess whether collection is probable. The new standard is effective for annual periods beginning on or after 1 January 2018. One of the few recent International Financial Reporting Standards (IFRSs) issued by International Accounting Standards Board (IASB) that happened to supersede the old standard(s) and have caught attention of Accountants in practice and industry across the globe is the standard that discusses the matter of Revenue Recognition in detail – IFRS 15 Revenue from contracts with customers. On 31 March 2020, EnginCo ceased construction due to social distancing rules with seven tractors delivered. Variable consideration changes can potentially impact the assumptions used in measuring revenue from goods or services which have already been delivered, especially where contracts contain: For contracts with variable consideration, IFRS 15 requires these factors to be reassessed and if necessary, adjusted at each reporting date for both the best estimate and the (so-called) constraint. Say goodbye to the arm’s length principle. It was appropriate to recognise the share of performance bonus at 31 December 2019 – at that date, it was 'highly probable that a significant reversal in the amount of cumulative revenue will not occur when the uncertainty associated is subsequently resolved' (IFRS 15.56). Accounting Seed’s customizable platform gives you all the tools you need to fully automate your revenue recognition and comply with ASC 606 / IFRS 15. In such an instance, the entity should defer recognition of any revenue until collection becomes probable. In effect, the entity should cash account for transactions of this nature. Identify the contract. INTRODUCTION On 28 May 2014, the International Accounting Standards Board (IASB) published IFRS 15 Revenue from Contracts with Customers.IFRS 15 sets out a single and comprehensive framework for revenue recognition and, for many entities, the timing and profile of revenue recognition will change. The entity may choose to transact in this situation notwithstanding the uncertainty. To make the revenue recognition more methodical, efficient and comprehensive, this standard delineates the 5 steps approach recognition and measurement of revenue as listed below. In case any of the criteria is not met, no revenue will be recognized until all the criteria are satisfied. identify the performance obligations in the contract. Technical resources on the International Financial Reporting Standards (IFRS) – get started now with practical guidance, latest thinking and tools. Obligation to provide the wifi router to Peter at the inception. IFRS 15 provides accounting requirements for all revenue and affects all organizations that enter into contracts to provide goods or services to their customers. In 2014, the organization in charge of GAAP, the Financial Accounting Standards Board (FASB), announced they were establishing a new revenue recognition standard. It may even be oral or even implied by an entity’s customary business practices. Transfer of control also incorporates transfer of risks and rewards along with four other indicators for revenue recognition which are, but are not limited to: (a) right to payment for the asset is established; (b) legal title is transferred to the customer; (c) physical possession of the asset is with the customer; (d) customer has accepted the assets. Moreover, the standard provides criteria set for assessing whether performance obligation constitutes a single distinct product or service, series of distinct products or services in the same pattern and whether the product or service is distinct or not which has to be assessed. So how can the TMT industry ride out the turbulence and thrive? CustomerCo agreed to pay EnginCo CU1,000 upon delivery of each tractor, with a bonus of CU2,000 if all tractors are delivered by 30 June 2020. The wifi is not considered as free. IFRS 15 is a revenue recognition standard that affects all businesses that enter into contracts with customers to transfer goods or services – public, private and non- profit entities. As this standard superseded two standards namely, ‘IAS 18 – Revenue’ and ‘IAS 11 – Construction Contracts’ along with three IFRICs and an SIC with an application date of January 1, 2018, companies that were preparing IFRS compliant financial statements had an obligation to understand fully and apply this standard in preparing financial statements for the reporting year 2018 and onwards with an option of early adoption. History of IAS 18 How to Calculate Cost of Preferred Stock? Variable consideration is any consideration which is not fixed in the contract. The main aim of IFRS 15 is to recognize revenue in a way that shows the transfer of goods/services promised to customers in an amount reflecting the expected consideration in return for those goods or services. An onerous contract is defined by IAS 37 as one in which the unavoidable costs of meeting the obligations under the contract exceed the economic benefits expected to be received under it (IAS 37.10). After identification of performance obligations in a contract, it is vital to determine the transaction price of the contract for recognizing the revenue. If appropriate, a combination of the two approaches (IFRS 15.21(c)). And for the recognition and measurement of revenue, a comprehensive framework has been provided under IFRS 15 which enables entities to expense out costs of goods and services whose revenue is recognized in the reporting period in accordance with IFRS 15. This cannot be treated as a distinct performance obligation as it will not be transferred under the contract to the customer. In essence, the recognition of revenue under these rules requires the following steps to be taken: Your company must identify the contract with the customer. However, in IFRS 15, ABC Co shall need to recognize revenues separately. © 2020 Grant Thornton International Ltd (GTIL) - All rights reserved. Our system expedites the process by helping you recognize patterns, make connections, and classify financial data appropriately, all while liberating your time managing the books. Standard guides by defining performance obligation as a promise with the customer to transfer single good or service or the series of goods and services that are distinct. Wifi router is considered as an add-on item to the internet service. Assume also that point-in-time revenue recognition is appropriate. IFRS 15 is the New Revenue standard issued by IASB to replace the IAS 18 and IAS 11. The standard uses the term variable consideration for such items and mentions that condition for inclusion of variable consideration as part of transaction price in these words: “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.” Moreover, if consideration is settled upfront or is delayed, incorporation of the effect of time of value of money is also required in the transaction price. Determination of the transaction price. GAAP, on the other hand, has highly specific rules and procedures codified for a … Hence, revenue recognition for such long term contracts shall be dependent on stage of completion which shall be agreed upfront. Conversely, IFRS has two main revenue recognition standards with limited implementation guidance that many believe can be difficult to understand and apply. Reporting revenue under IFRS 15 is now one of the ordinary activities of companies in the 100+ countries that use IFRS Standards. 2. IAS 18 was reissued in December 1993 and is operative for periods beginning on or after 1 January 1995. In addition, an entity should review contracts to determine if there are any special terms that may relieve either party to the contract of its obligations under it (Force Majeure). The standalone selling price is the price that an entity charges had it sold the promised good or service independently (not as part of the contract). PwC’s Revenue from contracts with customers guide addresses each step of the five-step revenue recognition model, along with other practical application matters.. Download to your iPad. GTIL and each member firm is a separate legal entity. IFRS – 15 provides two methods for the measurement of progress towards satisfaction of a performance obligation, output and input based approach. This is about the 5 steps approach of revenue recognition. in construction of a building at the customer’s site, the asset is under the control of the customer (c) entity performs a performance obligation with no alternative use to the entity and the entity has right to payment for the work done – right to payment also incorporates some element of profit margin in addition to the cost, if only cost is recovered then it is not a right to payment under IFRS – 15. Note that the hurdle is 'highly probable' not 'certain' – it may have been reasonable, at 31 December 2019, to not anticipate a pandemic. The level of complexity associated with revenue recognition varies from industry to industry and company to company. They called the new standard ASC 606.It’s meant to improve comparability between financial statements of companies that issue GAAP financial statements—so, in theory, … Agent – the party that arranges for the goods or services to be provided by another party without taking control over those goods or services. It is likely that, as a result of changes in the economic environment, customers will seek to modify contracts; it is also possible that the ability of customers to pay for goods may be called into question prior to delivery occurring. Cyber threats continue to soar. There is no requirement for a contract to be in written form to be enforceable. Many organizations apply accrual basis of accounting for financial statements’ preparation. GTIL and its member firms are not agents of, and do not obligate, one another and are not liable for one another’s acts or omissions. Control can be transferred to the customer either over time or at a point in time and timings for recognition of revenue will be determined accordingly. As you know that the IASB has issued a new standard on Revenue Recognition in May 2014 to replace the existing IAS 18. Once it is identified that the revenue should be measured over time, it is essential for an entity to measure the progress towards completion which will determine the time to recognize revenue. This is where the application of long term contracts gets clarified which were traditionally covered in IAS-11. However, previous revenue recognition guidance differs in Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS)—and many believe both standards were in need of improvement. Updated September 2019 A closer look at IFRS 15, the revenue recognition standard 6 What you need to know • IFRS 15 provides a single source of revenue requirements for all entities in all industries. Just like any new standard, the extent of impact of this standard on revenue recognition varied in correlation with the level of complexity of revenue structures of different businesses. For simplicity, we will illustrate the revenue recognition into separate five steps process as follow: This is the first step under IFRS 15. Contract assetsChange in expected contract profitability and/or the customer's ability to pay could affect the recoverability of assets recognised in accordance with IFRS 15. To determine whether the control will be transferred over time or at a point in time it is essential to analyze the contract. After a slow and tentative start, the OECD’s push for a solution on how to allocate and tax the profits from digital business is gathering momentum. Uncertainty is mounting for technology, media and telecommunications (TMT) businesses amidst a turbulent economic and political backdrop, according to the latest research from Grant Thornton. . Course Introduction. In summary, these assets are impaired if they exceed the future profits expected on the contract (ie unrecognised revenue less future costs). Where a customer encounters financial difficulty or reduced demand, it may request a contract modification (alternatively referred to as a 'change order', 'variation' or 'amendment') to alter the scope of the contract. Otherwise, performance obligation is considered to be satisfied at a point in time. Another important term highlighted in this step is the existence of transfer. So why is IFRS 15 so extensive? 96 . 5 IFRS IN PRACTICE 2017 – IFRS 15 REVENUE FROM CONTRACTS WITH CUSTOMERS 1. IFRS revenue recognition is guided by two primary standards and four general interpretations. Since, there may be circumstances in which it is difficult to measure the value transferred to the customer; in that scenario, it might be necessary to recognize revenue based on entity’s inputs like, material consumed, labor hours, etc. IFRS 15 is based on a core principle that requires an entity to recognise revenue in a manner that depicts the transfer of goods or services to customers and at an amount that reflects the consideration the entity expects to be entitled to in exchange for those goods or services. Entities must consider whether any of their contracts may have become onerous due to the downturn in the global economy as a result of COVID-19 or an increase in costs to fulfil a contract that may arise from the effect of COVID-19 on working practices. The impact of the above will therefore be required to be included in revenue at each reporting date. Preparers of financial statements will need to be agile and responsive as the situation unfolds. So what’s the solution? Finally, onerous contracts may arise as contracts become loss-making through either a decrease in variable consideration or an increase in contract costs. It will become effective on 1 January 2018, with retrospective application, and early adoption is permitted. IFRS in Practice: IFRS 15 Revenue from Contracts with Customers This publication includes in depth analysis and commentary on each of the 5 steps of IFRS 15. July 20, 2020. Revenue is recognised when/as performance obligations are satisfied in the amount of transaction price allocated to satisfied performance obligations (IFRS 15.46). Even if one of the criteria is met, revenue can be recognized over time. Practical Examples, Accounting for Goodwill: Overview and Example, Journal Entry for Issuance of Common Stock. They are designed to maintain credibility and transparency in the financial world do not permit revenue recognition prior to delivery. How? Accounting for Accrued Expenses? But where should you start? Moreover, the implementation guidance for specific industries and situations have been included in the standard to be complied with for recognizing revenue for specific instances like warranties, sale with right of return, licensing, repurchase agreements, etc. It says, a contract is an agreement between two or more parties that creates enforceable rights and obligations. The monthly fixed fee for the internet service is US$30. Obligation to provide the internet service over 1 year period from the start of installation. If you would like to discuss any of the points raised, please speak to your usual Grant Thornton contact or your local member firm. The two key definitions are as follows: 1. by Silvia . You must then identify the performance obligations as … Otherwise they would be covered under some other relevant standards. GTIL and the member firms are not a worldwide partnership. Absence of transfer would mean absence of performance obligation and would be excluded from the purview of IFRS 15. Applying this principle involves following the ‘5-step model’. Assume no contractual ability to terminate under force majeure. Under IFRS 15, wifi router is not considered as free. Both public and privately held companies should be IFRS 15 compliant now based on the 2017 and 2018 deadlines. The core principle of IFRS 15 is that an entity will recognise revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. First, ABC Co shall need to identify the stand-alone price and then calculate the percentage of the fee and wifi router based on the total stand-alone price. This is recognized 100% at the inception. At the same time, the IASB has also issued clarifying amendments on 12 April 2016 that have the same effective date as the standard itself. In circumstances where transaction price includes some variable amounts like, discounts, standard mentions that any overall discount is allocated between the performance obligations on a relative stand-alone selling price basis. From the example above, we can conclude that the contract is to provide the internet service. Importantly, revenue in respect of any goods or services can only be recognized if it passes all these steps. Part 15 of the IFRS standards speak to revenue recognition. So this feels like the right time to take stock – to pull together, in one place, what we have learned about this new world of revenue recognition. After identification of performance obligations in a contract, … Are you ready for IFRS 16? When Peter entered into contract and made prepayment of the plan. As of 31 December 2019, EnginCo recognised the following revenue: Delivery of 6 tractors (CU1,000 x 6): CU6,000Share of bonus (CU2,000 x 6/8): CU1,500Total revenue recognised: CU7,500. Contracts that were previously expected to be profitable may become loss-making due to a decrease in variable consideration (see above) and/or an increase in contract costs. GAAP addresses such things as revenue recognition, balance sheet, item classification, and outstanding share measurements. In the current economic climate, entities may more often enter into contracts with customers with a high risk of non-payment. As a result of COVID-19 entities are generally expecting to experience significant declines in revenue and decreases in progress of delivery of performance obligations for long-term contracts. The COVID-19 pandemic may result in entities having to renegotiate customer contracts. Download Five accounting considerations relating to revenue recognition [ 91 kb ]. For the half-year ended 30 June 2020, it is apparent that the performance bonus will not be received. IFRS 15 supersedes the current revenue recognition standards including IAS 18 Revenue, IAS 11 Construction Contracts and their related interpretations. Moreover, in an attempt to make them more comprehensive, new standards like IFRS-15 have significantly affected the accounting techniques of many companies since such standards come up with changed underlying principles governing them. Or, should you adjust revenue? (a) customer receives and consumes the performance obligations as and when provided or entity has no need to reperform the performance obligation– usually relates to provision of services such as cleaning services; (b) creation or enhancement of an asset which is under the customer’s control – asset may be tangible or intangible, e.g. I FRS 15 Revenue from Contracts with Customers replaces all existing IFRS revenue recognition requirements. Having access to experts, insights and accurate information as quickly as possible is critical – but your resources may be stretched at this time. Unlike IAS 18 where revenue shall be recognized only on the monthly fee while the wifi router considered as free. Once it has been established that contract with customer exists, presence of performance obligation has to be checked in the contract. Revenue recognition is a generally accepted accounting principle (GAAP) that stipulates how and when revenue is to be recognized. Once the performance obligations have been identified and transaction price is determined, the transaction price has to be allocated among performance obligations on the basis of relative standalone selling prices of the performance obligations provided that the contract constitutes multiple performance obligations. To recognise revenue under IFRS 15, an entity applies the following five steps: identify the contract (s) with a customer. Peter will receive a free wifi router for free at upon signing the contract and completing the installation. Risks and rewards have been transferred from the seller to the buyer. However, precisely, standard explains that those contracts will fall under the scope of IFRS 15 in respect of which five specific features exist. Management’s assumptions concerning variable consideration (based on facts and circumstances at the reporting date) will need to be reviewed in the context of COVID-19. To address such evolvements, accounting standards have to be constantly updated and revised to make them more and more inclusive and comprehensive in nature so that the accounting treatments and disclosure requirements for maximum possible business models can be covered. Usage of the word “expects to be entitled …” clarifies that expectation has to be developed in respect of transferred goods or services instead of taking the agreed upon contract price straight away as the transaction price. 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