IASB issues clarification to IFRS 15 Revenue from Contracts with Customers
On 12 April 2016, the International Accounting Standards Board (the Board) issued amendments to the new revenue Standard, IFRS 15 Revenue from Contracts with Customers. The amendments, which were approved by the Australian Accounting Standards Board on 1 May 2016 as AASB 2016-3 Amendments to Australian Accounting Standards – Clarifications to AASB 15, clarify some requirements and provide additional transitional relief for companies implementing IFRS 15 (AASB 15 in Australia).
The changes, which result from discussions of the Transition Resource Group (TRG), do not change the underlying principles of AASB 15, rather, they merely clarify how those principles should be applied.
The TRG was set up jointly by the IASB and the US national standard-setter, the Financial Accounting Standards Board (FASB), to assist companies with implementing the new Standard.
What are the amendments?
The amendments clarify how to:
- Identify a performance obligation (the promise to transfer a good or a service to a customer) in a contract
- Determine whether a company is a principal (the provider of a good or service) or an agent (responsible for arranging the good or service to be provided), and
- Determine whether the revenue from granting a licence should be recognised at a point in time or over time.
The amendments also include two additional transitional reliefs to reduce cost and complexity when a company first applies IFRS 15. These are discussed in more detail below.
Identifying performance obligations
IFRS 15 requires revenue recognition for each separate performance obligation.
You have a separate performance obligation if your sales contract includes a promise to transfer to a customer a good or service that is ‘distinct’.
A good or service promised to a customer is ‘distinct’ if (IFRS 15, paragraph 27):
- The customer can benefit from the good or service either on its own or together with resources that are readily available to the customer, and
- Your promise to deliver the good or service is separately identifiable from other promises in the contract.
IFRS 15, paragraph 29 previously included factors that could indicate that your promise to transfer a good or service is separately identifiable. This wording was confusing because paragraph 29 was written in the negative, i.e. to be separately identifiable, you would not be able to do certain things (integration work, modification and there would not be interdependencies or interrelationships between the products).
Thankfully the IASB have reframed this paragraph so that two or more promises are not separately identifiable (i.e. they must be ‘bundled’) if:
- You do a significant amount of work to integrate the good or service with other goods or services promised in the contract, or
- One or more of the goods or services you provide significantly modifies or customises, or are significantly modified or customised by other goods or services promised in the contract, or
- Goods or services provided are highly interdependent or interrelated.
To clarify the concept of a ‘distinct’ good or service, the IASB has amended examples 10, 11 and 12, and added additional scenarios for installation services, multiple items and equipment/consumables.
Principal vs agent considerations
IFRS 15, as originally issued, included significantly more guidance to determine whether you are acting as principal or agent in a contract with a customer. However, due to the fact that the assessment of the transfer of control for items purchased online is more complex in comparison to tangible assets, these changes clarify that the principal obtains control of the good or service prior to transferring it to the customer.
It is interesting to note that the IASB have reframed guidance paragraph B34 from listing indicators to identify agency relationships, to instead listing indicators of when an entity could be acting as principal. In doing so, it has removed the credit risk indicator, so that exposure to credit risk is no longer an indicator that an entity is acting as principal.
Examples 45 to 48A have been amended accordingly.
When licenses are ‘distinct’ from other goods or services identified in a contract, IFRS 15 requires that we determine whether the license transfers to the customer over time (right to access intellectual property) or at a point in time (right to use intellectual property).
With a promise to provide access to intellectual property (IP), the contract would normally require, or the customer would reasonably expect, that the entity will undertake activities that significantly affect the IP. The amendments provide additional guidance to determine when the entity’s activities will significantly affect the IP, i.e. when:
- The activities are expected to change the form or functionality, or
- The ability of the customer to derive benefits from the intellectual property is substantially derived from, or dependent on, those activities.
The additional guidance clarifies that if the IP has significant standalone functionality (e.g. biological compounds or drug formulas), the IP would not be significantly affected by the entity’s activities unless those activities change the form or functionality.
The amendments also make changes to examples 54 to 59.
Further guidance is also proposed on sales-based or usage-based royalties and examples 60 and 61 are amended.
The TRG also raised concerns about the potential challenges in applying full retrospective restatement to certain aspects of the IFRS. As a result, the amendments include two additional practical expedients on transition to IFRS 15 as follows:
- To permit entities to use hindsight to identify satisfied and unsatisfied performance obligations, and the transaction price, in a contract that was modified before the beginning of the earliest period presented, and
- To permit entities using the full retrospective method not to apply IFRS 15 retrospectively to contracts that were complete at the beginning of the earliest period presented.
When do these amendments apply?
The amendments have the same effective date as IFRS 15, i.e. for annual periods beginning on or after 1 January 2018.