Article:

IFRS 15 for the TMT industries – Timing of revenue recognition – Licences

27 June 2018

Our previous article on timing of revenue recognition summarised the IFRS 15 guidance to assist in determining whether revenue is recognised at a point in time, or over time. Timing of revenue recognition is a big issue for entities operating in TMT industries because of the types of services provided, and the way that contracts are structured, with multiple goods and services often being provided as part of one contract. Under IFRS 15, the pattern of revenue recognition could therefore change for many TMT entities, particularly with regard to licence contracts.

Sales of software are frequently in the form of a licence to use the software.  IFRS 15 includes specific guidance for licensing arrangements.  A key consideration is whether a licence gives the customer:

  • The right to use the software as it exists when the licence is granted, or
  • Access to software which will be updated during the licence period. 

If it is the former, revenue will often be recognised at the point at which the customer is able to access the software, and this might be later than the start of the licence period if the customer has not yet been provided with an access code.

If the software will be updated during the licence period, then revenue is likely to be recognised over the period during which the software is made available. 

In practice, a range of linked services can be made available by a software vendor during a licence period, such as maintenance, hosting and updating.  The extent to which the licensed software is functional when it is transferred to the customer, and the extent to which its continued functionality is linked to, and dependent on the additional services to be provided by the software vendor, will need to be considered carefully.  This will affect whether, and the extent to which, the licence and linked services are regarded as being interrelated and, in consequence, whether revenue relating to the licence is recognised at a point in time (at the start of the licence period) or is recognised over time (during the licence period).

The following decision tree is a useful tool to determine whether revenue from licence arrangements should be recognised at a point in time or over time:

Example 1 – Licence (Point in time)

Background

Software Co. sells a customer a one-year licence for its data analytics software. The customer is not entitled to any updates during the year.

Note that most licence sales also come with other performance obligations such as maintenance services. We have excluded these for simplicity and these will be discussed in detail in another article.

Question
Would Software Co. recognise revenue at a point in time or over time?

Answer
Software Co. would recognise revenue for this sale at the point at which the customer is provided access to the software. This is because the contract does not require, nor would the customer reasonably expect Software Co. to provide any updates during the term of the licence.

The customer is being provided the right to use the software as it exists when the licence is granted.

Example 2 – Licence (Over time)

Background

Software Co. sells a customer a licence to access their movie streaming software for one year. Software Co. regularly updates their library of movies that the customers can access using the software, and a large part of the appeal of the software is the stream of new movies customers can access each month.

Question
Would Software Co. recognise revenue at a point in time or over time?

Answer
Software Co. would recognise revenue for the sale of the movie streaming licence over time because the customer is being provided with the right to use the software as it exists throughout the period. It would be inappropriate to recognise the revenue up front because a large part of the ‘promise’ made to the customer remains unfulfilled at the beginning of the licence period (that being the constant upgrades).

Note: The process of recognising revenue over time is discussed in our previous article on timing of revenue recognition.

Current practice under IAS 18

There are a variety of practices under IAS 18, but IFRS 15 contains more guidance about when revenue should be recognised over time or at a point in time, particularly for licence arrangements.