IFRS 15 Revenue from Contracts with Customers was issued by the IASB on 28 May 2014 with a planned introduction for periods beginning on or after 1 January 2017. The effective date was delayed to 1 January 2018 to allow for extended clarification and public consultation. As a practical imperative, it also allows companies the opportunity to identify the differing performance obligations in respect of multi-year contracts that concluded in prior periods. This is necessary in order to correctly state revenues for all comparative periods when retrospectively adopting the principles contained in IFRS 15. This standard replaces IAS 18 Revenue & IAS 11 Construction Contracts, as well as the related SIC 31 and IFRICs 13, 15 & 18.
IFRS 15 is the joint product of the International Accounting Standards Board (IASB) and the US standard-setter, the Financial Accounting Standards Boards (FASB). The objective was to converge the respective standard-setters’ approaches to revenue in order to improve comparability between entities, industries and jurisdictions.
The standard’s core principle revolves around a five step model:
Step 1 - Identification of the contract
Step 2 – Identifying the performance obligation(s)
Step 3 – Determination of the transaction price
Step 4 – Allocating the transaction price to performance obligation(s)
Step 5 – Recognising revenue
We’ve noted below some of the more challenging elements of the new model found in steps 1 and 2.
Step 1: Identification of the contract
A contract exists when it is approved and both parties are committed to performing; the entity can determine each party’s rights regarding goods or services transferred; the payment terms are identifiable; the contract has commercial substance; and it is probable that the consideration will be collected.
All of the above criteria have to be met in order for revenue recognition to occur. As an example, when transacting with insolvent counterparties the collection of consideration may be unlikely, i.e. not probable. Accordingly, there will be an initial delay in revenue recognition until collection of the consideration becomes probable.
Step 2: Identification of the performance obligations
Performance obligations, or the promise to transfer a good or service to a customer is assessed at the start of each contract to determine whether the contract contains more than one distinct good or service, or a series of distinct goods or services with the same pattern of consumption.
Generally, a good or service is distinct if the customer can benefit from the good or service on its own or together with other readily available resources and if that promise to transfer goods or services is separately identifiable from other promises in the contract.
For example, when entering into a typical cell phone contract it comprises the provision of a good i.e. the handset, and the provision of services, i.e. connection to the service provider’s infrastructure enabling the use of the handset, and usage charges for making calls, accessing the internet etc. Although the sale of the goods and services are generally packaged in one contract with no distinction between the fee charged for the handset relative to that charged for some of the services, the operator will be required to recognise the sale of the handset once the customer has taken ownership thereof, whereas the services provided will be recognised as provided over the term of the contract. A determination is to be made as to the value of the revenue to be recognised for the respective goods and services, bearing in mind that some services may be accumulated, have differing patterns of consumption etc.
IFRS 15 introduces a new approach to revenue recognition which may result in changes from the recognition criteria adopted under IAS 18 Revenue. The revised approach may also necessitate changes in systems or controls and should therefore be carefully considered in all instances.
Sources: IASB website, IFRS 15 & Related Exposure Draft & Feedback Statements
Supervisor: Audit, Cape Town