A closer look at IFRS 15, the revenue recognition standard

Transcription

1 Applying IFRS IFRS 15 Revenue from Contracts with Customers A closer look at IFRS 15, the revenue recognition standard (Updated October 2018)

2 Overview Many entities have recently adopted the largely converged revenue standards, IFRS 15 Revenue from Contracts with Customers and Accounting Standards Codification (ASC) 606, Revenue from Contracts with Customers 1 (together with IFRS 15, the standards), that were issued in 2014 by the International Accounting Standards Board (IASB or the Board) and the US Financial Accounting Standards Board (FASB) (collectively, the Boards). The standards supersede virtually all legacy revenue recognition requirements in IFRS and US GAAP, respectively. The standards provide accounting requirements for all revenue arising from contracts with customers. They affect all entities that enter into contracts to provide goods or services to their customers, unless the contracts are in the scope of other IFRSs or US GAAP requirements, such as the leasing standards. The standards also specify the accounting for costs an entity incurs to obtain and fulfil a contract to provide goods or services to customers (see section 9.3) and provide a model for the measurement and recognition of gains and losses on the sale of certain non-financial assets, such as property, plant or equipment (see section 2.1.1). As a result, entities that adopted the standards often found implementation to be a significant undertaking. This is because the standards affected entities financial statements, business processes and internal controls over financial reporting. For entities that have not yet adopted the standards, successful implementation will require an assessment and a plan for managing the change. Following issuance of the standards, the Boards created the Joint Transition Resource Group for Revenue Recognition (TRG) to help them determine whether more application guidance was needed on the standards. TRG members include financial statement preparers, auditors and users from a variety of industries, countries, as well as public and private entities. Members of the TRG met six times in 2014 and In January 2016, the IASB announced that it did not plan to schedule further meetings of the IFRS constituents of the TRG, but said it would monitor any discussions of the FASB TRG, which met in April and November The November 2016 meeting was the last scheduled FASB TRG meeting. TRG members views are non-authoritative, but entities should consider them as they implement the standards. In its July 2016 public statement, the European Securities and Markets Authority (ESMA) encouraged issuers to consider the TRG discussions when implementing IFRS Furthermore, the Chief Accountant of the US Securities and Exchange Commission (SEC) has encouraged SEC registrants, including foreign private issuers (that may report under IFRS), to consult with his office if they are considering applying the standard in a manner that differs from the discussions in which TRG members reached general agreement. 3 1 Throughout this publication, when we refer to the FASB s standard, we mean ASC 606 (including the recent amendments), unless otherwise noted. 2 ESMA Public Statement: Issues for consideration in implementing IFRS 15: Revenue from Contracts with Customers, issued 20 July 2016, available on ESMA's website. 3 Speech by Wesley R. Bricker, 5 May Refer to SEC website at Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 2

3 We have incorporated our summaries of topics on which TRG members generally agreed at joint meetings in 2014, 2015 and at FASB-only TRG meetings in 2016 throughout this publication. Unless otherwise specified, these summaries represent the discussions of the joint TRG. TRG members representing IFRS constituents did not participate in the April 2016 and November 2016 meetings. However, certain members of the IASB and its staff observed the meetings and, during subsequent Board meetings, the IASB received oral updates. Where possible, we indicate if members of the IASB or its staff commented on the FASB TRG discussions. This publication summarises the IASB s standard (including all amendments) and highlights significant differences from the FASB s standard. It also addresses topics on which the members of the TRG reached general agreement and discusses our views on certain topics. While many entities have adopted the standards, implementation issues may continue to arise. Accordingly, the views we express in this publication may evolve as implementation continues and additional issues are identified. The conclusions we describe in our illustrations are also subject to change as views evolve. Conclusions in seemingly similar situations may differ from those reached in the illustrations due to differences in the underlying facts and circumstances. Please see ey.com/ifrs for our most recent revenue publications. 3 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

4 Contents Overview Objective, effective date and transition Overview of the standard Effective date Transition methods Scope Other scope considerations Definition of a customer Collaborative arrangements Interaction with other standards Identify the contract with the customer Attributes of a contract Contract enforceability and termination clause Combining contracts Contract modifications Arrangements that do not meet the definition of a contract under the standard Identify the performance obligations in the contract Identifying the promised goods or services in the contract Determining when promises are performance obligations Promised goods or services that are not distinct Principal versus agent considerations Consignment arrangements Customer options for additional goods or services Sale of products with a right of return Determine the transaction price Presentation of sales (and other similar) taxes Variable consideration Refund liabilities Rights of return Significant financing component Non-cash consideration Consideration paid or payable to a customer Non-refundable upfront fees Changes in the transaction price Allocate the transaction price to the performance obligations Determining stand-alone selling prices Applying the relative stand-alone selling price method Allocating variable consideration Allocating a discount Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 4

5 6.5 Changes in transaction price after contract inception Allocation of transaction price to components outside the scope of IFRS Satisfaction of performance obligations Performance obligations satisfied over time Control transferred at a point in time Repurchase agreements Consignment arrangements Bill-and-hold arrangements Recognising revenue for licences of intellectual property Recognising revenue when a right of return exists Recognising revenue for customer options for additional goods or services Breakage and prepayments for future goods or services Licences of intellectual property Identifying performance obligations in a licensing arrangement Determining the nature of the entity s promise in granting a licence Transfer of control of licensed intellectual property Licence renewals Sales-based or usage-based royalties on licences of intellectual property Other measurement and recognition topics Warranties Onerous contracts Contract costs Presentation and disclosure Presentation requirements for contract assets and contract liabilities Other presentation considerations Disclosure objective and general requirements Specific disclosure requirements Transition disclosure requirements Disclosures in interim financial statements Appendix A: Extract from EY s IFRS Disclosure Checklist Appendix B: Illustrative examples included in the standard and references in this publication Appendix C: TRG discussions and references in this publication Appendix D: Defined terms Appendix E: Changes to the standard since issuance Appendix F: Summary of important changes to this publication Appendix G: Summary of differences from US GAAP Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

6 What you need to know IFRS 15 creates a single source of revenue requirements for all entities in all industries. It represents a significant change from legacy IFRS. IFRS 15 applies to revenue from contracts with customers and replaced all of the legacy revenue standards and interpretations in IFRS, including IAS 11 Construction Contracts, IAS 18 Revenue, IFRIC 13 Customer Loyalty Programmes, IFRIC 15 Agreements for the Construction of Real Estate, IFRIC 18 Transfers of Assets from Customers and SIC-31 Revenue Barter Transaction involving Advertising Services. IFRS 15 is principles-based, consistent with legacy revenue requirements, but provides more application guidance. The lack of bright lines requires increased judgement. The standard may have had little effect on some entities, but may require significant changes for others, especially those entities for which legacy IFRS provided little application guidance. IFRS 15 also specifies the accounting treatment for certain items not typically thought of as revenue, such as certain costs associated with obtaining and fulfilling a contract and the sale of certain non-financial assets. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 6

7 1. Objective, effective date and transition 1.1 Overview of the standard The revenue standards the Boards issued in May 2014 were largely converged. IFRS 15 and the FASB s standard supersede virtually all legacy revenue recognition requirements in IFRS and US GAAP, respectively. Noting several concerns with previous requirements for revenue recognition under both IFRS and US GAAP, the Boards goal in joint deliberations was to develop revenue standards that: 4 Remove inconsistencies and weaknesses in the legacy revenue recognition literature Provide a more robust framework for addressing revenue recognition issues Improve comparability of revenue recognition practices across industries, entities within those industries, jurisdictions and capital markets Reduce the complexity of applying revenue recognition requirements by reducing the volume of the relevant standards and interpretations Provide more useful information to users through expanded disclosure requirements The standards provide accounting requirements for all revenue arising from contracts with customers. They affect all entities that enter into contracts to provide goods or services to their customers, unless the contracts are in the scope of other IFRSs or US GAAP requirements, such as the leasing standards. The standards also specify the accounting for costs an entity incurs to obtain and fulfil a contract to provide goods or services to customers (see section 9.3) and provide a model for the measurement and recognition of gains and losses on the sale of certain non-financial assets, such as property, plant or equipment (see section 2.1.1). IFRS 15 replaces all of the legacy revenue standards and interpretations in IFRS, including IAS 11 Construction Contracts, IAS 18 Revenue, IFRIC 13 Customer Loyalty Programmes, IFRIC 15 Agreements for the Construction of Real Estate, IFRIC 18 Transfers of Assets from Customers and SIC-31 Revenue Barter Transactions Involving Advertising Services. 5 When they were issued in 2014, the standards were converged, except for a handful of differences. 6 Since then, the Boards have issued some converged amendments to their standards, but they have also issued different amendments to the same topics (see Appendix E for a discussion of the changes to the standards since issuance). The FASB has also issued several amendments that the IASB has not issued. We highlight the significant differences between the IASB s final standard and the FASB s final standard throughout this publication. However, the primary purpose of this publication is to highlight the IASB s 4 IFRS 15.IN5. 5 IFRS 15.IN3, C10. 6 As originally issued, the standards under IFRS and US GAAP were identical except for these areas: (1) the Boards used the term probable to describe the level of confidence needed when assessing collectability to identify contracts with customers, which will result in a higher threshold under US GAAP than under IFRS; (2) the FASB required more interim disclosures than the IASB; (3) the IASB allowed early adoption and the FASB did not; (4) the IASB allowed reversals of impairment losses and the FASB did not; and (5) the FASB provided relief for nonpublic entities relating to specific disclosure requirements and the effective date. 7 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

8 standard, including all amendments to date, and focus on the effects for IFRS preparers. 7 As such, we generally refer to the singular standard Core principle of the standard The standard describes the principles an entity must apply to measure and recognise revenue and the related cash flows. The core principle is that an entity recognise revenue at an amount that reflects the consideration to which the entity expects to be entitled in exchange for transferring goods or services to a customer. The principles in IFRS 15 are applied using the following five steps: 1. Identify the contract(s) with a customer 2. Identify the performance obligations in the contract 3. Determine the transaction price 4. Allocate the transaction price to the performance obligations in the contract 5. Recognise revenue when (or as) the entity satisfies a performance obligation Entities need to exercise judgement when considering the terms of the contract(s) and all of the facts and circumstances, including implied contract terms. Entities also have to apply the requirements of the standard consistently to contracts with similar characteristics and in similar circumstances. To assist entities, IFRS 15 includes detailed application guidance. The IASB also included more than 60 illustrative examples in IFRS 15. We included a list of these examples in Appendix B to this publication and provided references to where certain examples are included in this publication. 1.2 Effective date IFRS 15 became effective for annual reporting periods beginning on or after 1 January Early adoption was permitted, provided that fact was disclosed. 7 For more information on the effect of the new revenue standard for US GAAP preparers, refer to our Financial Reporting Developments: Revenue from contracts with customers (ASC 606), Revised April 2017, available on EY AccountingLink. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 8

9 The table below illustrates the effective date of IFRS 15 for entities with differing year-ends and assumes that entities report results twice a year (annual and half-year). Year-end Mandatory adoption Early adoption 31 December 1 January 2018 adoption date. Present for the first time in 30 June 2018 interim financial statements and in 31 December 2018 annual financial statements. 30 June 1 July 2018 adoption date. Present for the first time in 31 December 2018 interim financial statements and in 30 June 2019 annual financial statements. Possible adoption dates include, but are not limited to: 1 January 2014 adoption date. Present for the first time in 30 June 2014 interim financial statements and in 31 December 2014 annual financial statements. 1 January 2015 adoption date. Present for the first time in 30 June 2015 interim financial statements and in 31 December 2015 annual financial statements. 1 January 2016 adoption date. Present for the first time in 30 June 2016 interim financial statements and in 31 December 2016 annual financial statements. 1 January 2017 adoption date. Present for the first time in 30 June 2017 interim financial statements and in 31 December 2017 annual financial statements. Possible adoption dates include, but are not limited to: 1 July 2014 adoption date. Present for the first time in 31 December 2014 interim financial statements and in 30 June 2015 annual financial statements. 1 July 2015 adoption date. Present for the first time in 31 December 2015 interim financial statements and in 30 June 2016 annual financial statements. 1 July 2016 adoption date. Present for the first time in 31 December 2016 interim financial statements and in 30 June 2017 annual financial statements. 1 July 2017 adoption date. Present for the first time in 31 December 2017 interim financial statements and in 30 June 2018 annual financial statements. 9 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

10 FASB differences The FASB s standard became effective for public entities, as defined, 8 for fiscal years beginning after 15 December 2017 and for interim periods therein. Non-public entities (i.e., an entity that does not meet the definition of a public entity in the FASB s standard) are required to adopt the standard for fiscal years beginning after 15 December 2018 and interim periods within fiscal years beginning after 15 December That is, non-public entities are not required to apply the standard in interim periods in the year of adoption. US GAAP public and non-public entities were permitted to adopt the standard as early as the original public entity effective date. 1.3 Transition methods (updated October 2018) IFRS 15 requires retrospective application. However, the Board decided to allow either full retrospective adoption (in which the standard is applied to all of the periods presented) or modified retrospective adoption. See sections and below, respectively. The following are the dates relevant to transition: The date of initial application the start of the reporting period in which an entity first applies IFRS This date of initial application does not change, regardless of the transition method that is applied. Examples of dates of initial application for different year-ends include: Year ending Date of initial application 31 December January June July 2018 The beginning of the earliest period presented the start of the earliest reporting period presented within an entity s financial statements for the reporting period in which the entity first applies IFRS 15. This is relevant for entities using the full retrospective adoption method. For example: Year ending Beginning of the earliest period presented (one comparative period) (two comparative periods) 31 December January January June July July The FASB s standard defines a public entity as one of the following: A public business entity (as defined); A not-for-profit entity that has issued, or is a conduit bond obligor for, securities that are traded, listed or quoted on an exchange or an over-the-counter market; An employee benefit plan that files or furnishes financial statements with the US SEC. An entity may meet the definition of a public business entity solely because its financial statements or financial information is included in another entity s filing with the SEC. The SEC staff said it would not object if these entities adopt the new revenue standard using the effective date for non-public entities rather than the effective date for public entities. 9 IFRS 15.C2(a). Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 10

11 1.3.1 Definition of a completed contract (updated October 2018) IFRS 15 defines a completed contract as a contract in which the entity has fully transferred all of the identified goods or services before the date of initial application. 10 Depending on the manner an entity elects to transition to IFRS 15, an entity may not need to apply IFRS 15 to contracts if they have completed performance before the date of initial application, even if they have not yet received the consideration and that consideration is still subject to variability. The IASB noted in the Basis for Conclusions that transferred all of the goods or services is not meant to imply that an entity would apply the transfer of control notion in IFRS 15 to goods or services that have been identified in accordance with legacy IFRS. Rather it is performance in accordance with legacy requirements (i.e., IAS 11, IAS 18 and related Interpretations), as noted in IFRS 15.BC441. Consequently, in many situations the term transferred would mean delivered within the context of contracts for the sale of goods and performed within the context of contracts for rendering services and construction contracts. In some situations, the entity would use judgement when determining whether it has transferred goods or services to the customer. 11 Consider the following examples: Contract is completed a retailer sold products to a customer on 31 December 2017, with immediate delivery. The customer has a poor credit history. Therefore, the retailer required the customer to pay half of the consideration upfront and half within 60 days. In accordance with IAS 18, the retailer recognised half of the consideration at the time of the sale. However, the retailer concluded it was not probable that it would be able to collect the remainder and deferred recognition of this amount. Because the goods were delivered prior to the date of initial application of IFRS 15 (e.g., 1 January 2018) and collectability concerns were only the reason for delaying recognition of revenue under IAS 18, the contract is considered completed under IFRS 15 (see Question 1-5 below). Contract is not completed an entity entered into a contract to provide a service and loyalty points to a customer on 31 January In accordance with IFRIC 13, the entity allocated a portion of the total contract consideration to the loyalty points and deferred revenue recognition until the points were exercised on 15 January The entity completed the required service within six months and recognised revenue related to the service over that period in accordance with IAS 18. As at the date of initial application of IFRS 15 (e.g., 1 January 2018), the entity had not yet performed in relation to the loyalty points. As a result, the contract was not considered completed under IFRS 15 (see Question 1-7 below). 10 IFRS 15.C2(b). 11 IFRS 15.BC445D. 11 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

12 How we see it As discussed above, determining which contracts are completed at transition may require significant judgement, particularly if legacy IFRS did not provide detailed requirements that indicated when goods had been delivered or services performed (e.g., licences of intellectual property). Entities should not consider elements of a contract that did not result in recognition of revenue under legacy IFRS (e.g., warranty provisions) when assessing whether a contract is complete. FASB differences The definition of a completed contract is not converged between IFRS and US GAAP. A completed contract under ASC 606 is defined as one for which all (or substantially all) of the revenue was recognised in accordance legacy US GAAP requirements that applied at the date of initial application. 12 The different definitions could lead to entities having a different population of contracts to transition to the revenue standards under IFRS and US GAAP, respectively. However, the Board noted in the Basis for Conclusions that an entity could avoid the consequences of these different definitions by choosing to apply IFRS 15 retrospectively to all contracts, including completed contracts. 13 Frequently asked questions Question 1-1: Which elements of a contract must be considered when determining whether a contract meets the definition of a completed contract? An entity must consider all of the elements (or components) in a contract that give rise to revenue in the scope of legacy IFRS. It should not consider the elements of a contract that do not result in recognition of revenue (e.g., warranty provisions accounted for in accordance with IAS 37 Provisions, Contingent Liabilities and Contingent Assets) when assessing whether a contract is complete. For example, under legacy IFRS, an entity may have accounted for a financing component (i.e., separating the interest income or expense from the revenue). Doing so effectively split the contract into a revenue component and a financing component. In our view, the financing component would not be considered in determining whether the goods or services have transferred to the customer (i.e., it would not affect the assessment of whether the contract meets the definition of a completed contract). 12 As defined in ASC (c)(2). 13 IFRS 15.BC445I. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 12

13 Frequently asked questions (cont d) In addition, income elements that are not within the scope of IFRS 15 need not be considered. For example, IAS 18 applied to dividends and provided guidance on the recognition of interest and fees integral to the issuance of a financial instrument. None of these elements would be considered when determining whether a contract meets the definition of a completed contract for transition to IFRS 15. This is because: Dividends are not within the scope of IFRS The guidance that was previously included in the illustrative examples to IAS 18 for fees integral to the issuance of a financial instrument is now included within IFRS 9 Financial Instruments. 15 Interest income will continue to be accounted for in accordance with the effective interest method as set out in IFRS Question 1-2: Do the requirements in IFRS 15 for identifying a contract (including contract duration) affect the identification of a contract under legacy IFRS? When determining whether a contract is completed, an entity considers the requirements of legacy IFRS and not IFRS 15. In order to determine whether a contract is completed, an entity needs to determine the boundaries of a contract, including the term of the contract, whether it was combined with other contracts, whether it was modified, etc. That is, an entity must identify what is the contract in order to assess if it meets the definition of a completed contract. Considering the requirements of IFRS 15 could lead to different outcomes from legacy IFRS. IFRS 15 provides detailed requirements to assist entities in identifying a contract, including determining the contract duration. These requirements are more detailed than legacy IFRS and could result in outcomes that are different under IFRS 15 (e.g., an entity may conclude a contract is of a shorter duration than the stated contractual term in certain circumstances under IFRS 15. Refer to section 3.2 for further discussion). While legacy IFRS did not provide detailed requirements for identifying the contract, accounting policies and an entity s past practice may be informative in identifying the contract, including determining: (a) what the entity considered the contract to be (e.g., master supply agreement or individual purchase orders); and (b) the contract duration (i.e., the stated contractual term or a shorter period). 14 IFRS A and IFRS IFRS 9.B5.4.1-B IFRS 9 Appendix A, IFRS , IFRS 9.B5.4.1-B Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

14 Frequently asked questions (cont d) Consider the following examples: Illustration 1-1 Definition of completed contract: contract duration Scenario 1 On 30 June 2016, Entity A entered into a contract with a customer to provide services for 24 months. The customer was required to pay a fixed monthly fee of CU150, which remained constant during the contract term of 24 months, regardless of the time needed to provide the services or the actual usage from the customer each day. The customer could cancel the contract at any time without penalty by giving Entity A one month s notice. Entity A had not received any cancellation notice up to 1 January 2017 and, based on past experience, Entity A did not expect customers to cancel within the first year. For this contract, Entity A concluded that the contract duration under legacy IFRS was the stated contractual term of 24 months. Entity A s accounting policy for these types of contracts under IAS 18 stated that revenues from providing monthly services to customers were recognised over the service period, on a monthly basis. While not explicitly stated in its accounting policy, Entity A had typically treated the stated contractual term as the duration of the contract (unless the customer cancelled or the contract was modified), being the period over which the contractual rights and obligations were enforceable. Assume that Entity A adopts IFRS 15 on 1 January 2018 using the full retrospective method. Entity A also uses the practical expedient in IFRS 15.C5(a)(ii) not to restate contracts that meet the definition of a completed contract, as defined in IFRS 15.C2(b) at the beginning of the earliest period presented (i.e., 1 January 2017; Entity A presents one comparative period only). Under IFRS 15, Entity A is likely to conclude that the contract is a monthto-month contract. However, when determining whether the contract is completed, Entity A only considers legacy IFRS. Entity A might have noted that its accounting policy under IAS 18 did not focus on the identification of contract duration and, therefore, perhaps the contract is neither a 24- month contract nor a month-to-month contract. Entity A had accounted for this type of service contract based on monthly invoicing and, arguably, that accounting treatment is similar to the accounting treatment of a month-to-month contract. However, while not explicitly stated, Entity A has generally viewed the stated contractual term as the period over which the rights and obligations are enforceable. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 14

15 Frequently asked questions (cont d) Illustration 1-1 Definition of completed contract: contract duration (cont d) Furthermore, Entity A cannot cancel the contract with the customer and is obliged to render services for the entire contract period of 24 months, unless a termination notice is provided by the customer which would limit Entity A s obligation to provide services for the next 30 days from the notification date. Since no cancellation notice had been submitted by the customer at least one month before 1 January 2017, approximately 18 months of services still need to be provided as at the beginning of the earliest period presented (i.e., 1 January 2017). Therefore, Entity A concludes that the contract does not meet the definition of a completed contract and would need to be transitioned to IFRS 15. Scenario 2 Assume the same facts as Scenario 1, with the exception that the customer submitted an early termination notice on 30 November Similar to Scenario 1, the contract duration under legacy IFRS would have been the stated contractual term of 24 months. However, in this scenario, the customer has submitted the termination notice on 30 November Therefore, Entity A concludes that the term of the contract ceases on 31 December Entity A cannot cancel the contract with the customer and is obliged to render services for the entire contract period of 24 months, unless a termination notice is provided by the customer which limits Entity A s obligation to provide service for the next 30 days from the notification date. Since Entity A had provided all services prior to 31 December 2016, Entity A concludes that the contract is a completed contract. Entity A continues to apply its legacy accounting policy (developed in accordance with IAS 18) to any remaining consideration still to be recognised. Scenario 3 Assume the same facts with Scenario 1, with the exception that the customer was required to pay a non-refundable upfront fee of CU50 at commencement of the contract (in addition to the monthly fixed fee). The customer can cancel the contract at any time without penalty, but without having to provide any notice. The customer cancelled the contract on 30 November In its financial statements, Entity A s accounting policy for these types of contracts under IAS 18 stated that revenues from non-refundable upfront fees were deferred over the average customer retention period. The customer retention period was estimated to be two years. Therefore, the deferred revenue was recognised as revenue on a straight-line basis over the next 24 months. 15 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

16 Frequently asked questions (cont d) Illustration 1-1 Definition of completed contract: contract duration (cont d) Similar to Scenario 2, the contract duration under legacy IFRS would have been the stated contractual term of 24 months. However, the customer had submitted the termination notice on 30 November 2016 and, therefore, Entity A concludes that the term of the contract ceases on 31 December Entity A s legacy accounting policy for the non-refundable upfront fee refers to recognition of the deferred income over average customer retention period, not the contractual term. The definition of a completed contract is not dependent on all revenue being recognised, but rather on all goods and services being transferred to the customer. Furthermore, the period over which revenue is recognised does not affect the contract duration. As such, recognition of this upfront fee is not relevant in determining whether the contract is a completed contract. All previously contracted services had been provided to the customer up to the date of cancellation. Therefore, the contract is a completed contract. Entity A continues applying its legacy accounting policy (developed in accordance with IAS 18) to any remaining consideration still to be recognised. However, given that the customer has terminated the contract early, Entity A needs to reassess, in line with the requirements of IAS 18, the period over which this remaining revenue arising from the nonrefundable upfront fee would be recognised. Question 1-3: When determining whether an entity has transferred all goods or services, does it consider the requirements of IFRS 15 for transfer of control? No. The IASB noted in the Basis for Conclusions that transferred all of the goods or services is not meant to imply that an entity would apply the transfer of control notion in IFRS 15 to goods or services that have been identified in accordance with legacy IFRS. Rather, an entity is required to determine whether it has transferred all the goods or services in accordance with the requirements in legacy IFRS, as noted in IFRS 15.BC441 (see Question 1-4 below). Consequently, in many situations the term transferred would mean delivered within the context of contracts for the sale of goods and performed within the context of contracts for rendering services and construction contracts. In some situations, the entity would use judgement when determining whether it has transferred goods or services to the customer IFRS 15.BC445D. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 16

17 Frequently asked questions (cont d) Question 1-4: If some or all of revenue has not been recognised under legacy IFRS, would that prevent the contract from being completed? Possibly. The definition of a completed contract is not dependent on an entity having recognised all related revenue. However, the requirements in legacy IFRS with respect to the timing of recognition may provide an indication of whether the goods or services have been transferred. IAS 18 provided the following five criteria, all of which needed to be satisfied in order to recognise revenue from the sale of goods: 18 The entity had transferred to the buyer the significant risks and rewards of ownership of the goods. The entity retained neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold. The amount of revenue could be measured reliably. It was probable that the economic benefits associated with the transaction would flow to the entity. The costs incurred or to be incurred in respect of the transaction could be measured reliably. IAS 18 viewed the passing of risks and rewards as the most crucial of the five criteria, giving the following four examples of situations in which an entity may have retained the significant risks and rewards of ownership: 19 When the entity retained an obligation for unsatisfactory performance not covered by normal warranty provisions. When the receipt of the revenue from a particular sale was contingent on the derivation of revenue the buyer from its sale of the goods. When the goods were shipped subject to installation and the installation was a significant part of the contract which had not yet been completed by the entity. When the buyer had the right to rescind the purchase for a reason specified in the sales contract and the entity was uncertain about the probability of return. Understanding the reasons for the accounting treatment under legacy IFRS may, therefore, assist entities in determining whether the goods or services have been transferred and the completed contract definition has been met. However, judgement may be needed in respect of some goods or services. Assume, for example, that an entity sells products, but cannot recognise revenue immediately. The delayed recognition of revenue may be because of factors related to the timing of transfer, such as a bill-and-hold arrangement, or because the goods or services have been transferred, but not all of the criteria for recognition have been met. 18 IAS IAS Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

18 Frequently asked questions (cont d) Question 1-5: If collectability concerns delayed recognition of revenue under legacy IFRS, would that prevent the contract from being completed? If collectability concerns were the only reason for delaying recognition of revenue under legacy IFRS (i.e., because it was not probable that the economic benefits associated with the transaction would flow to the entity), it would not prevent a contract from meeting the definition of a completed contract. However, it is important to ensure that this is the only reason for the delay in recognition. Consider the following examples: Illustration 1-2 Definition of completed contract: collectability Scenario 1 In November 2016, Entity A entered into a contract with a customer to deliver 1,000 products with immediate delivery. Because of the customer s poor credit history, Entity A agreed that the customer could pay for 60% of the products on the date of delivery and the remaining 40% within 60 days of the delivery date. Under its previous accounting policy (in accordance with IAS 18.14), Entity A only recognised revenue for 60% of the consideration and deferred recognition of the remaining 40% until it was probable that this amount would be collected (provided the other criteria in IAS were met). Collectability of the remaining 40% of the consideration became probable at the end of January Assume that Entity A adopted IFRS 15 on 1 January 2018 and used the full retrospective method to transition. Entity A also uses the practical expedient in IFRS 15.C5(a)(ii) not to restate contracts that meet the definition of a completed contract as defined in IFRS 15.C2(b) at the beginning of the earliest period presented. At the beginning of the earliest period presented (i.e., 1 January 2017; Entity A presents one comparative period only), Entity A had transferred all goods identified in the contract by delivering 1,000 products to the customer and had recognised 60% of the revenue. Although Entity A could only partially recognise the revenue from the sale of the 1,000 products (because it was not probable whether it would collect 40% of the consideration), this does not affect the determination of whether the identified goods were transferred to the customer. Therefore, Entity A considers the contract as completed. Entity A continues to account for the contract in accordance with its legacy accounting policy (developed in accordance with IAS 18). Scenario 2 In January 2016, Entity A entered into a contract with a customer to construct a highly specialised system on the customer s premises that was expected to be completed within 11 months. The consideration of CU100,000 took into account the particularities of the customer s specific premises. The repayment schedule corresponded to the performance completed to date and Entity A applied the percentage of completion method in accordance with IAS 11.25, recognising revenue in the accounting period in which the relevant services were rendered. Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 18

19 Frequently asked questions (cont d) Illustration 1-2 Definition of completed contract: collectability (cont d) Upon completion of the highly specialised system, Entity A had collected the consideration of CU100,000 and recognised an equal amount as revenue. However, in October 2016, while executing the construction activities, Entity A incurred unexpected additional costs to adjust the initial design of the highly specialised system due to certain changes in the customer s premises that had not been communicated at contract inception. Entity A filed a claim for these unexpected costs, requesting an increase in the consideration of CU1,000. The construction was completed in November In February 2017, Entity A agreed with its customer to settle the claim at an amount of CU500 to be paid within three months. Assume that Entity A adopted IFRS 15 on 1 January 2018 and used the full retrospective method to transition. Entity A also used the practical expedient in IFRS 15.C5(a)(ii) not to restate contracts that meet the definition of a completed contract as defined in IFRS 15.C2(b) at the beginning of the earliest period presented. At the beginning of the earliest period presented (i.e., 1 January 2017), Entity A had transferred all goods and services identified in the contract by completing the construction and delivering the highly specialised system to the customer. The fact that Entity B had submitted a claim for additional consideration for the identified goods and services that had already been transferred to the customer is not relevant when determining whether the identified goods or services have been transferred. Therefore, Entity A considers the contract as completed. Entity A continues to account for the contract in accordance with its legacy accounting policy (developed in accordance with IAS 11). Question 1-6: When does legacy IFRS consider licences to be transferred? Legacy IFRS provides limited guidance to assist entities in determining when a licence of intellectual property is transferred (i.e., when the significant risks and rewards of ownership of the licence transfer to the customer in accordance with IAS 18.14(a)). Therefore, entities will need to use significant judgement to determine whether a contract involving the licence of intellectual property meets the definition of a completed contract. IAS stated that "royalties accrue in accordance with the terms of the relevant agreement and are usually recognised on that basis unless, having regard to the substance of the agreement, it is more appropriate to recognise revenue on some other systematic and rational basis. IAS 18.IE20 states that fees and royalties paid for the use of an entity s assets (such as trademarks, patents, software, music copyright, record masters and motion picture films) are normally recognised in accordance with the substance of the agreement. As a practical matter, this may be on a straight-line basis over the life of the agreement, for example, when a licensee has the right to use certain technology for a specified period of time In some cases, whether or not a licence fee or royalty will be received is contingent on the occurrence of 19 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard

20 Frequently asked questions (cont d) a future event. In such cases, revenue is recognised only when it is probable that the fee or royalty will be received, which is normally when the event has occurred. Since the guidance provided in this paragraph and the illustrative examples to IAS 18 focused on the recognition of revenue, it may be difficult to determine when the entity transferred the significant risks and rewards of ownership to the customer. If an entity has recognised revenue over time under legacy IFRS, it needs to carefully assess the reason for this treatment. It may be helpful to assess whether or not there are remaining or ongoing obligations related to the licence, as discussed in IAS 18.IE20: If the licence of intellectual property is an in-substance sale and there were no remaining obligations to perform, it is likely that the significant risks and rewards of ownership will have transferred to the customer at the time of sale. As discussed in IAS 18.IE20: An assignment of rights for a fixed fee or non-refundable guarantee under a non-cancellable contract which permits the licensee to exploit those rights freely and the licensor has no remaining obligations to perform is, in substance, a sale. An example is a licensing agreement for the use of software when the licensor has no obligations subsequent to delivery. Another example is the granting of rights to exhibit a motion picture film in markets where the licensor has no control over the distributor and expects to receive no further revenues from the box office receipts. In such cases, revenue is recognised at the time of sale. In all other instances, an entity needs to use judgement to determine when the licensee can exploit the rights under the licence freely and the licensor has no remaining obligations to perform. This may be helpful in understanding whether the ongoing obligations mean that the significant risks and rewards of ownership did not pass at a single point in time, but over a period of time. Furthermore, this assessment could help in determining whether it is over the entire licence period or a shorter period and might include considering factors such as: The reason that the contract is cancellable (if applicable) The nature of any restrictions over use of the intellectual property. For example, whether it is a characteristic of the licence itself (e.g., the countries covered by the licence) or restricts the licensor s ability to use the rights received (e.g., the licensor cannot use the intellectual property before a specified date) The nature of any remaining obligations and the period in/over which those obligations apply Updated October 2018 A closer look at IFRS 15, the revenue recognition standard 20

21 Frequently asked questions (cont d) Consider the following examples: Illustration 1-3 Definition of completed contract: licences Scenario 1 On 1 January 2016, Entity A entered into a three-year contract that granted rights to exhibit a film at cinemas and allowed for multiple showings within a specific period for a non-refundable upfront fee of CU 9,000. The delivery of the film was the only activity that Entity A was obliged to perform in the contract and there was no further involvement or other obligations for Entity A. The film was delivered to the customer on 1 January 2016 and Entitly A concluded that the significant risks and rewards of ownership has been transferred on that date. Entity A s legacy IFRS accounting policy for this type of contracts stated that revenue was recognised in full upon commencement of the licence period, because that was the first point at which the customer had the risks and rewards of ownership and all the criteria for revenue recognition were met at that date. Assume that Entity A adopted IFRS 15 on 1 January 2018 and used the full retrospective method to transition. Entity A also used the practical expedient in IFRS 15.C5(a)(ii) not to restate contracts that meet the definition of a completed contract as defined in IFRS 15.C2(b) at the beginning of the earliest period presented. According to Entity A s previous accounting policy, revenue was recognised in full upon commencement of the licence period (i.e., on 1 January 2016) and Entity A had no further involvement beyond that point. Therefore, at the beginning of the earliest period presented (i.e., 1 January 2017), the contract is completed. Entity A continues to account for the contract in accordance with its legacy accounting policy (developed in accordance with IAS 18). Scenario 2 Assume the same facts as Scenario 1, with the exception that the fee was contingent upon the occurrence of a future event, specifically the purchase price was based on a percentage of the box office receipts during the contract term (i.e., three years). Entity A concluded that the significant risks and rewards of ownership transferred to the customer on 1 January 2016, when the film was delivered. The existence of a sales-based royalty earned over a two-year period does not affect the timing of transfer to the customer because Entity A had no further obligations to perform. The licence fee is contingent on box office receipts. In such cases, IAS 18.IE20 stated revenue is recognised only when it is probable that the fee or royalty will be received, which is normally when the event has occurred. 21 Updated October 2018 A closer look at IFRS 15, the revenue recognition standard