Colm Foley writes on a new accounting standard which is likely to be a feature of future Corporate Reporting/Financial Accounting exams. Today’s blog is about changes to the IFRS 15 – Revenue.
IFRS 15 – REVENUE FROM CONTRACTS WITH CUSTOMERS
The new accounting standard, IFRS 15, Revenue from Contracts with Customers, is effective for accounting periods beginning on or after 1.1.2018
It replaces IAS 18 Revenue.
IFRS 15 introduces a 5 step model for recognizing revenue. It can be remembered by using the memory aid “COPAR”
1. Contract Identification: Contract can be written, verbal or implied. A contract must exist in Substance
2. Separate Performance Obligations Identified: Where a good or service is sold separately or if it could be sold separately because it has a distinct function/profit margin, then this constitutes a separate performance obligation. Those promises are called performance obligations. Performance Obligations can be satisfied over time (using output and input methods) or at a point in time i.e. the point in time at which the customer obtains control of the promised asset.
3. Determine the Transaction Price: The transaction price is the amount of consideration a company expects to be entitled to from the customer in exchange for transferring goods or services. The transaction price would reflect the company’s probability-weighted estimate of variable consideration, customers credit risk and time value of money (if material)
4. Allocation of transaction price to performance obligation: Where a contract contains more than one distinct performance obligation a company allocates the transaction price to all separate performance obligations in proportion to the stand-alone selling price of the good or service underlying each performance obligation.
If the good or service is not sold separately, the company would have to estimate its stand alone selling price.
Example: Allocating the Transaction Price to the Performance Obligations
A mobile phone company gives customers a free handset when they sign a two year contract for provision of network services. The handset has a stand alone price of $100 and the contract is for $20 per month.
Under IFRS 15, revenue must be allocated to the handset because delivery of the handset constitutes a performance obligation. This will be calculated as follows
| $ | % | |
| Handset | 100 | 17% |
| Contract – 2 Years | 480 | 83% |
| Total Value | 580 | 100% |
As the total receipts are $480 ($20*12 months * 2 years), this is the amount which must be allocated to the separate performance obligations. Revenue will be recognised as follows
| $ | |
| Year 1 | |
| Handset (480 * 17%) | 82 |
| Contract (480-82)/2 | 199 |
| 281 |
| Year 2 | $ |
| Contract as above | 199 |
5. Recognise Revenue: The entity satisfies a performance obligation by transferring control of a promised good or service to the customer. A performance obligation can be satisfied at a point in time, such as when goods are delivered to the customer, or over time.
The amount of revenue recognised is the amount allocated to that performance obligation in Step 4.
An entity must be able to reasonably measure the outcome of a performance obligation before the related revenue can be recognised.
In some circumstances, such as in the early stages of a contract, it may not be possible to reasonably measure the outcome of a performance obligation, but the entity expects to recover the costs incurred. In these circumstances, revenue is recognised only to the extent of costs incurred.
IFRS 15 will provide more clarity for preparers of financial statements, however additional guidance will likely be required to keep pace with the ever evolving sales generating models, adopted by reporting entities.
