IFRS 15 – Revenue from Contracts with Customers – Comprehensive Notes

Learning Objectives

• On completion you should be able to:

  • Discuss & apply criteria for recognising revenue (general & contract-specific)

  • Evaluate complex issues: performance obligations over time, rights of return, repurchase agreements, consignments, warranties, variable consideration, principal vs agent, non-refundable up-front fees

  • Deal with changes in transaction price & contract modifications (incl. measurement of revenue & costs)

Exam Context

• IFRS 15 already examined at Financial Reporting level; SBR goes deeper – mark-weight is on APPLICATION not rote knowledge

• A typical question isolates one part of the 5-step model → expect to analyse scenario evidence, cite paragraphs & justify treatment

• Ethics: be alert to pressures to overstate revenue; Q2 of Section A always includes ethics

Objective & Core Principle of IFRS 15

• Objective (para 1): provide useful information about nature, amount, timing & uncertainty of revenue & cash flows from customer contracts

• Core principle: recognise revenue to depict the transfer of promised goods/services to customers for the amount of consideration expected

Key Terms (IFRS 15 App A)

• Income: increases in econ. benefits → ↑ equity (excl. owner contributions)

• Revenue: income from ordinary activities

• Contract / Contract Asset / Receivable / Contract Liability – remember conditions of (un)conditional rights

• Performance Obligation: a distinct promise or a series of distinct, substantially similar goods/services with same transfer pattern

• Stand-alone selling price: observable price to sell good/service separately

• Transaction price: consideration expected (excl. amounts collected for 3rd parties)

The 5-Step Revenue Model

1. Identify the contract

2. Identify performance obligations

3. Determine transaction price

4. Allocate transaction price to POs

5. Recognise revenue when/as PO satisfied

Step 1 – Identify the Contract

• Contract = agreement creating enforceable rights & obligations

• Five criteria (para 9) must all be met:

  1. Approval by parties (written/oral/customary)

  2. Rights of each party identifiable

  3. Payment terms identifiable

  4. Commercial substance (changes risk/timing/amount of cash flows)

  5. Probable entity will collect consideration (creditworthiness & intent)

• If criteria not met but consideration received:

  • Recognise revenue only when

  • Entity has no remaining obligations & consideration is non-refundable, or

  • Contract terminated & amounts non-refundable

  • Otherwise record a liability

Example – Jute/Munro building sale

• Non-recourse loan, customer relies on risky new fitness centre, assets pledged elsewhere → not probable Jute collects → revenue model cannot apply

• $150{,}000$ non-refundable deposit → contract liability 1 June 20X3

Step 2 – Identify Performance Obligations

• A good/service is distinct if BOTH:

  1. Customer can benefit from it on its own/with readily available resources, and

  2. Entity’s promise is separately identifiable in context of contract (not highly integrated, modified, or dependent)

• If not distinct → combine with other promises until distinct bundle identified

Example – Office Solutions CommSoft contract

• Licence, installation, 3-yr technical support, 3-yr updates

• Each item functional & available from others; install doesn’t significantly customise → 4 separate POs; revenue recognised as each PO satisfied

Step 3 – Determine Transaction Price

Consider four effects (para 46):

1. Significant financing component

2. Non-cash consideration

3. Consideration payable to customer

4. Variable consideration

Variable Consideration

• Include only if highly probable that significant revenue reversal will not occur

• Measurement choices (para 53):

  • Expected value (prob-weighted) – many contracts

  • Most likely amount – binary outcomes

Significant Financing

• Discount future cash ≥ 1 year; present interest income/expense separately

Example 1 – $3 m payment to customer (Bodiam)

• No distinct good/service obtained → treat as reduction of transaction price

• Initially recognise contract asset $3m$; offset against revenue at 10 % of each sale (30m commitment)

Example 2 – Volume discount (Bodiam)

• Price $200$ → $180$ if >1000 units

• 30 Sept: expectation <1000 ⇒ use $200$ → revenue $15{,}000$ (75 × 200)

• After acquisition, 31 Dec: now highly probable threshold met; use $180$ for new 500 units (transaction price $90{,}000$) and retro-adjust previous quarter by $1{,}500$ (75 × 20) ↓ revenue

Step 4 – Allocate Transaction Price

• Allocate pro-rata to each PO based on stand-alone selling prices at contract inception

• If discount exists but observable prices exist → allocate proportionately unless criteria for ‘discount allocation’ met (not detailed here)

Car + Service Illustration

• Car alone $20{,}520$; 2 yrs service $540 × 2 = 1{,}080$; package price $21{,}000$

• Allocation:

  • Car: $\frac{20{,}520}{21{,}600} = 95\%$ ⇒ revenue $21{,}000×95\%=19{,}950$

  • Service: $1{,}080$ ⇒ $5\%$ ⇒ revenue $1{,}050$ (split across 2 yrs as services rendered)

Step 5 – Recognise Revenue (Transfer of Control)

• Control = ability to direct use & obtain substantially all remaining benefits

Over Time (para 35)

A PO satisfied over time if any:

1. Customer simultaneously receives & consumes as performed

2. Performance creates/enhances asset customer controls (WIP)

3. Asset has no alternative use + entity has enforceable right to payment for work-to-date

• Measure progress (output or input methods): e.g. cost-to-cost, surveys, time elapsed

Point in Time – Indicators (para 38)

• Present right to payment

• Customer has legal title

• Physical possession transferred

• Risks & rewards transferred

• Customer accepted asset

Example – Gerrard specialised asset

• Deposit refundable if Gerrard fails, no right to payment for work-to-date ⇒ PO point-in-time (on delivery)

Contract Costs

Incremental Costs of Obtaining Contract

• Capitalise if expected to be recovered; practical expedient: expense if amortisation ≤ 1 yr

Costs to Fulfil

• Capitalise only if:

  1. Relate directly to a contract

  2. Generate/enhance resources for future POs

  3. Expected to be recovered

• Amortise systematically to match transfer pattern; impairment test (para 101): \text{carrying amount} > (\text{remaining consideration} - \text{future fulfilment costs}) ⇒ recognise loss

Presentation

• Contract asset: entity’s right to consideration conditioned other than time

• Receivable: unconditional right (only time outstanding)

• Contract liability: consideration received before transfer

Specific Guidance in IFRS 15

Sale with Right of Return (App B 21-B27)

• On transfer recognise:

  • Revenue excluding expected returns

  • Refund liability for expected refunds

  • Asset (at carrying amount) for right to recover products (contra CoS)

Warranties (B28-B33)

• Separate PO if customer can purchase separately OR warranty provides service beyond assurance ⇒ apply 5-step model

• Pure assurance warranty → IAS 37 provision

Principal vs Agent (B34-B38)

• Entity principal if controls goods/services before transfer ⇒ recognise gross revenue

• Agent if arranging for third party to provide ⇒ recognise commission/fee

• Indicators of principal:

  • Primary responsibility for fulfilment

  • Inventory risk

  • Discretionary pricing
    Example – Fancy Goods website earns 5 % commission, no inventory risk, supplier sets price ⇒ agent → revenue = 5 % fee

Non-Refundable Up-Front Fees (B49-B53)

• Assess whether fee relates to distinct good/service

  • If yes treat as PO

  • If mainly administrative & no good/service transferred → treat as advance payment; recognise over remaining PO pattern

Consignment Arrangements (B77-B78)

• Goods delivered to intermediary but control retained until sale to end customer ⇒ inventory remains on seller’s books; revenue on sale to end customer

Repurchase Agreements (B64-B76)

• Entity obligation/right to repurchase asset:

  • Forward / Call option: customer lacks control

  • Repurchase price < original price ⇒ lease (IFRS 16)

  • Repurchase price ≥ original ⇒ financing (recognise liability, interest; no revenue)

  • Put option (customer’s right): evaluate economic incentive to exercise

  • If price < original & no incentive ⇒ treat as sale with right of return

  • If price < original & incentive ⇒ lease

  • If price ≥ original & above expected market value ⇒ financing arrangement

Change in Transaction Price (Without Modification)

• Re-allocate change to POs on same basis as original allocation (stand-alone prices at inception)

• If PO already satisfied ⇒ recognise catch-up revenue immediately

Contract Modifications (para 18-21)

• Modification = approved change in scope and/or price creating new or changing rights/obligations

Decision Tree

1. Separate contract IF BOTH:

   • Adds distinct goods/services and

   • Price increase reflects stand-alone selling price of added items

2. Otherwise → adjust original contract

   • If remaining goods/services distinct from already transferred → terminate & replace (new contract)

     • Allocate: unrecognised consideration + new consideration across remaining POs

   • If remaining goods/services not distinct (part of same PO) → continuation; compute catch-up adjustment to revenue

   • Mixed situations possible (combination)

Variable Consideration after Modification (para 90)

• If modification accounted as replacement and variable consideration was promised before → allocate change to original contract

• If modification is continuation/combination → allocate to modified contract

Rivington Cleaning Example

• 3-yr weekly cleaning $55,000/yr$ → after 2 yrs reduce Yr3 to $50,000$ + add 2 yrs at $45,000/yr$

• Scope ↑ but price↓ vs SSP ⇒ not separate contract → original terminated, new price $140,000$ over 3 yrs ⇒ $46,667$ revenue per year (over time pattern)

Anglezarke Stadium Example (enhancement)

• PO over time; 35 % complete; price ↑ from $10m$ to $14m$

• Remaining work not distinct ⇒ continuation

• Catch-up: revised cumulative revenue $14m × 35\% = 4.9m$; already recognised $4m$ ⇒ recognise $0.9m$ on 1 Jul 20X7; remaining $9.1m$ over remaining schedule

Pike Components Example (mod + variable consideration)

• Original: A1 & B2, price $1,400$ incl. $200$ variable; allocate $700$ each

• After delivering A1, mod adds C3 (+$400$). Not separate contract ⇒ replacement contract for B2 & C3 (price $1,100$)

• Later variable consideration ↑ $100$ → because promised before mod & mod = replacement ⇒ allocate $50$ to A1 (recognise immediately) + $50$ to B2 (add to new contract). New allocation: $1,150/2 = 575$ each for B2 & C3 when delivered

Ethics Spotlight

Potential threats driven by revenue targets:

• Premature recognition (over-time vs point-in-time)

• Treating deposits as revenue before entitlement

• Recognising gross instead of net commission

• Recording revenue despite returns window

• Immediate recognition on mod rather than allocate to POs
  Mitigations: uphold ACCA fundamental principles (integrity, objectivity, professional competence & due care, confidentiality, professional behaviour); obtain training; seek advice; utilise IFRS 15 guidance rigorously

Chapter Summary Cheat-Sheet

• 5-Step model: Contract → POs → Transaction price → Allocate → Recognise

• Over-time criteria: simultaneous benefit / customer controls WIP / no alt. use + right to payment

• Variable consideration: include only if highly probable no significant reversal

• Separate contract on modification = distinct goods and price at SSP

• Specific guidance quick scan:

  • Returns: revenue (net) + refund liability + recoverable asset

  • Warranties: assurance = IAS 37; service = PO

  • Principal vs Agent: control indicators; agent revenue = fee

  • Non-refundable fee: often advance payment → defer

  • Consignment: no control transfer on shipment

  • Repurchase: lease vs financing vs sale w/ return decision tree

• Contract costs: capitalise incremental obtain/fulfil if recoverable; amortise & test impairment

• Presentation: contract asset vs receivable vs contract liability depends on conditions & payment terms

Useful Equations & Formats

• Allocation % $= \dfrac{\text{SSP of PO}}{\sum SSP}$

• Revenue allocated = \text{Allocation %} × \text{Total TP}

• Prob-weighted expected value $= \sum p<em>i × c</em>i$

• Variable consideration constraint: recognise only if P(\text{significant reversal}) < \text{remote} (formal wording: ‘highly probable it will not occur’)

• Financing component present if >1 year gap between transfer & payment and effect significant