Recent agenda decisions of the IFRS Interpretations Committee

IFRS Interpretations Committee (Committee) agenda decisions are those issues that the Committee decided not to take onto its agenda. Although not authoritative guidance, in practice they are regarded as being highly persuasive, and all entities reporting under IFRS should be aware of these decisions because they could impact the way particular transactions and balances are accounted for.

At its March 2019 meeting, the IFRS Interpretations Committee (Committee) issued eight final agenda decisions, four clarifying the accounting for certain complex application aspects of IFRS 9 Financial Instruments, two clarifying the accounting by joint operators, one on the capitalisation of borrowing costs for over time transfer of constructed assets, and one on the accounting for the right to receive access to software as a service.

A summary of the last four, more commonly encountered issues is included below. Please refer to the March 2019 IFRIC update for more information on the other issues mentioned above.

Issue 1: Over time transfer of a constructed good (IFRS 15 Revenue from Contracts with Customers)

Fact pattern

Real Estate Developer constructs a building and sells individual units in the building to customers.

Real Estate Developer borrows funds specifically to construct the building and incurs borrowing costs.

Before construction begins, Real Estate Developer signs contracts with customers for the sale of some of the units in the building ‘off the plan’.

Real Estate Developer intends to enter into contracts with customers for the remaining part-constructed units (unsold units) as soon as it finds suitable customers.

Applying IFRS 15, paragraph 35(c), Real Estate Developer transfers control of each unit over time, and therefore recognises revenue ‘over time’.

Consideration promised by customers is in the form of cash.

Question:

Does Real Estate Developer have a ‘qualifying asset’ as defined in IAS 23 Borrowing Costs

Rationale for agenda decision:

  • Applying IAS 23, paragraph 8, borrowing costs are capitalised as part of the cost of an asset if they are directly attributable to the acquisition, construction or production of a ‘qualifying asset’.
  • A ‘qualifying asset’ is defined in IAS 23, paragraph 5 as ‘an asset that necessarily takes a substantial period of time to get ready for its intended use or sale.’
  • Real Estate Developer would therefore assess whether, in its fact pattern, it recognises an asset that necessarily takes a substantial period of time to get ready for its intended use. Depending on the particular circumstances, it might recognise a receivable, contract asset or inventory.
  • The Committee concluded that in this fact pattern:
    • Any receivable recognised is not a qualifying asset (IAS 23, paragraph 7 specifies that financial assets are not qualifying assets)
    • A contract asset is also not a qualifying asset as it represents the entity’s right to consideration that is conditional on something other than the passage of time in exchange for transferring control of a unit. The intended use of the contract asset is to collect cash or another financial asset. The intended use is not a use for which it necessarily takes a substantial period of time to get ready.
    • Inventory (work-in-progress) for unsold units under construction is not a qualifying asset because the partially completed unit is ready for its intended sale in its current condition.

Conclusion:

Where revenue is recognised over time under IFRS 15, paragraph 35(c), borrowing costs cannot be capitalised as there is no ‘qualifying asset’ that necessarily takes a substantial period of time to get ready for its intended use.

Receivables and contract assets are not qualifying assets.

Inventories of partially completed units ready for sale are also not qualifying assets because they are ‘ready for intended use’, i.e. sale in their partially completed state.

Issue 2: Rights to receive access to the supplier’s software hosted on the Cloud (IAS 38 Intangible Assets)

Fact pattern

Customer contracts to pay a fee in exchange for the right to receive access to Software Co’s application software for a specified term (‘Software as a Service’).

Software Co’s software runs on Cloud infrastructure which is managed and controlled by Sofware Co.

Customer accesses software on an ‘as needs’ basis over the internet and via a dedicated line.

The contract does not convey to Customer any rights over tangible assets.

Question:

Does Customer receive a:

  1. Software asset at commencement date of the contract, or
  2. Service over the contract term?  

Rationale for agenda decision:

Software lease

  • IFRS 16 Leases defines a lease as ‘a contract…that conveys the right to use an asset (the underlying asset) for a period of time in exchange for consideration.’
  • IFRS 16, paragraphs 9 and B9 explain that a contract conveys the right to use an asset if, throughout the period of use, the customer has both:
    • The right to obtain substantially all the economic benefits from use of the asset (identified asset), and
    • The right to direct the use of an asset.
  • Further application guidance in IFRS 16, paragraphs B9-B31 specifies that a customer generally has the right to direct the use of an asset by having decision-making rights to change how, and for what purpose, the asset is used throughout the period of use. In a contract that contains a lease, the supplier has given up those decision-making rights and transferred them to the customer at the commencement of the lease.
  • The right to receive future access to the supplier’s software running on the supplier’s Cloud infrastructure does not of itself, give the customer any decision-making rights about how, and for what purpose, the software is used.
  • The supplier would have these rights by, for example, being able to decide how, and when, to update or reconfigure the software, or deciding on which hardware (infrastructure) the software will run.

Software intangible asset

  • IAS 38 defines an intangible asset as ‘an identifiable non-monetary asset without physical substance’ and an asset is a resource controlled by the entity.
  • IAS 38, paragraph 13 specifies that an entity controls an intangible asset if it has the power to obtain the future economic benefits flowing from the underlying resource and to restrict the access of others to those benefits.
  • The Committee observed that:
    • If a contract conveys only the right for the customer to receive access to the supplier’s application software over the contract term, the customer does not receive a software intangible asset at the contract commencement date.
    • A right to receive future access to the supplier’s software does not, at the contract commencement date, give the customer the power to obtain the future economic benefits flowing from the software itself and to restrict others’ access to those benefits.

Conclusion:

A contract that conveys only the right for the customer to receive access to the supplier’s application software in the future is a service contract because the customer receives the service (the access to the software) over the contract term.

If the customer pays the supplier before it receives the service, that prepayment gives the customer a right to future service and is an asset for the customer.

Issue 3: Sale of output by a joint operator where output it receives from joint operation differs from its entitlement to output (IFRS 11 Joint Arrangements)

Fact pattern

Joint Operator A and Joint Operator B have entered into a joint arrangement to manufacture widgets. The joint arrangement is classified as a ‘joint operation’ under IFRS 11.

Joint Operator A and B each have a right to receive 50% of the output from the arrangement, and each have an obligation to share costs equally as well.

During the reporting period, for operational reasons, the output received by Joint Operator A, and transferred to its customers, is different from the output to which they are entitled. The difference will be settled through future deliveries of output from the joint operation to Joint Operator A’s customers. The difference cannot be settled in cash.

Joint Operator A recognises revenue in accordance with IFRS 15 Revenue from Contracts with Customers as ‘principal’ in the transactions to transfer output from the joint arrangement to its customers.

Question:

Does Joint Operator A recognise revenue to depict:

  • The transfer of output to customers in the reporting period, or
  • Entitlement to a fixed proportion of the output of widgets produced from the joint operation’s activities during the period?

Rationale for agenda decision:

  • IFRS 11, paragraph 20(c) requires a joint operator to recognise ‘its revenue from the sale of its share of the output arising from the joint operation’.
  • Revenue recognised by Joint Operator A therefore depicts the output it has received from the operation and on sold. It does not depict production of output from the joint operation.
  • IFRS 11, paragraph 21 also requires that joint operators account for revenues relating to its interest in a joint operation by applying IFRS standards applicable to particular revenues.
  • The Committee concluded that in this fact pattern:
    • Joint Operator A recognises revenue that depicts the transfer of output to its customers in each reporting period (i.e. revenue recognised under IFRS 15)
    • This means that, for example, Joint Operator A does not recognise revenue for output to which it is entitled, but which it has not received from the joint operation (and therefore not on sold to its customers).

Conclusion:

Revenue is recognised by Joint Operator A only for output it received during the reporting period, and then on sold to customers.

Issue 4: Liabilities in relation to a joint operator’s interest in a joint operation (IFRS 11 Joint Arrangements)

Fact pattern

Joint Operation has two operators: Joint Operator C and Joint Operator D who share costs equally.

Joint Operation is not structured through a separate vehicle.

Joint Operator C, as sole signatory, enters into a lease contract with Lessor for an item of property, plant and equipment that will be operated jointly as part of Joint Operation’s activities.

Joint Operator C has a right to recover a share of the lease costs from Joint Operator D in accordance with the contractual arrangements relating to Joint Operation.

Question:

Assuming IFRS 16 Leases is applicable, is Joint Operator C required to recognise the obligation for the whole lease liability, or its half share?

Rationale for agenda decision:

  • IFRS 11, paragraph 20(b) requires a joint operator to recognise ‘its liabilities, including its share of any liabilities incurred jointly’.
  • Joint Operator C therefore identifies and recognises both:
    1. Liabilities it incurs in relation to its interest in Joint Operation, and
    2. Its share of any liabilities incurred jointly with other parties to the joint arrangement (Joint Operator D).
  • This requires an assessment of the terms and conditions of all contractual agreements relating to Joint Operation, including the law pertaining to those agreements.
  • Liabilities that a joint operator recognises include those for which it has primary responsibility.
  • The Committee highlighted the importance of disclosures about joint operations that is sufficient for a user to understand the activities of the joint operation, and the joint operator’s interest in that operation (IFRS 12 Disclosure of Interests in Other Entities, paragraph 20(a)).

Conclusion:

Joint Operator C would be required to recognise the whole lease liability to Lessor because it has primary responsibility, as sole signatory, for that debt.