IAS 18 Revenue
Definitions Income: Both revenue and gains, excluding contributions from equity participants Revenue: Income that arises in the course of ordinary activities of the entity Major revenue categories: 1. Sale of goods 2. Rendering of services 3. Interest, dividends, royalties and rental
Measurement Measurement of revenue shall be the fair value of the consideration received excludes any trade discounts or rebates. Exchange of goods An exchange for goods or services of a similar nature and value is not regarded as a transaction that generates revenue. However, exchanges for dissimilar items are regarded as generating revenue
Sale of goods Sale of goods is recognised when: the significant risks and rewards have passed; no managerial involvement remains; the amount of revenue can be measured reliably; it is probable that benefits will flow to the entity; and costs can be measured reliably
Rendering of services Rendering of services is recognised based on the stage of completion basis when the amount can be reliably estimated this is achieved when: the amount can be estimated reliably; there is a probable inflow of benefits; the stage of completion can be measured; and costs incurred and that will be incurred can be reliably estimated If the outcome is unreliable, then revenue should be recognised to the extent of the expenses incurred
Other revenue Interest is recognised on the effective interest method Royalties on an accrual basis per the agreement Dividends when rights are established Construction contracts result in revenue when it can be reliably estimated and an inflow of economic benefits is probable. Revenue is then recognised based on the stage of completion (IAS 11)
Deferred payment terms Deferred payment terms result in a financing transaction where the fair value of the consideration is the present value of all future receipts. The difference is recognised as interest income
Extended Credit Terms Extended credit terms e.g. six months interest-free Short-term receivables and payables with no stated interest rate may be measured at the original invoice amount if the effect of discounting is immaterial. Treatment: Cash price is not necessarily fair value of consideration received Effect of time value should be recognised when this is material
Example Athens Limited sells goods with a value of R1,000 on 90 day payment terms. The present value of the sale is R950 Therefore: Dr: Debtors 950 Cr: Sales 950 Then Dr: Debtors 50 Cr: Interest revenue 50
Prompt settlement discounts If probable that discount will be taken and amount can be estimated reliably: Deduct from revenue at time of sale Probability should be based on history
Example Athens Limited sells goods with a value of R1,000. Payment terms are 60 days from date of invoice and the customer is entitled to a 5% discount if they pay within 30 days. Experience has shown that 20% of customers pay within 30 days.
Example Most likely outcome = (80%*1000) + (20%*950) = 990 Therefore: Dr: Debtors 990 Cr: Sales 990 Then, if customer pays within 30 days Dr: Cash 950 Cr: Debtors 990 Dr: Discount given (I/S) 40 Then, if customer pays after 30 days Dr: Cash 1000 Cr: Debtors 990 Cr: Other income (I/S) 10
Prompt settlement discounts Discussion Argued that it is the act of paying the invoice early that generates the discount and NOT the sale Inconsistent with principles of revenue being recorded at FAIR VALUE of consideration receivable Therefore: Have to adjust revenue
Agency Relationships IAS 18 states that In an agency relationship, the gross inflows of economic benefits include amounts collected on behalf of the principal and which do not result in increases in equity for the entity. The amounts collected on behalf of the principal are not revenue. Instead, revenue is the amount of commission.
Principal vs. Agency Relationship An entity is acting as a principal when it has significant exposure to the risks and rewards associated with the sale of good or rendering of services Indicators of Principal: Entity has primary responsibility for providing the goods or services to the customer or fulfilling the order Entity has inventory risk before or after the customer order, during shipping or on return Entity has latitude in establishing prices Entity bears customers credit risk
Principal vs. Agency Relationship An entity is acting as an agent when it does not have significant exposure to the risks and rewards One indicator of an agency relationship is when the amount an entity receives from the transaction is predetermined
Time to think Red Service Provider A sells cell phone contracts with Blue Cell Phone Co. to members of the public. All payments are made to Red each month. What should they consider when determining whether they are principal or agent in the transaction?
IFRIC 13 Customer Loyalty Programs
Background Customer loyalty programs provide customers with incentives to buy goods/services from a specific supplier Include: Free goods/services Discounts Incentive can be provided by: Supplier 3 rd Party
Scope Applies to customer loyalty award credits that: Entity grants to customers as part of a sales transaction; and Subject to meeting any further qualifying conditions, customers can redeem in the future for free/discounted goods/services
Consensus IAS 18 states that: In certain circumstances, it is necessary to apply the recognition criteria to the separately identifiable components of a single transaction in order to reflect the substance of the transaction. The award was part of the original sales transaction on day 1, and the customer is therefore implicitly paying for the award
How to measure separate components Award measured at its Fair Value ie: amount for which the award credit could be sold separately. Fair Value measured using: Directly observable market prices; OR Estimate Amount deferred on Statement of financial position until redeemed
Fair Value: Observable Market Fair value should take into account: Fair value of awards offered to customers who have not earned award credits Proportion of award credits that are not expected to be redeemed If there is a range of fair values, then fair value should reflect the weighted proportion to the frequency with which each award is expected to be selected
Fair Value: Estimates Use any reasonable estimation technique For example: If a 3 rd party supplies the award, fair value could be with reference to what the entity pays the 3 rd party + a reasonable profit margin Judgement should be applied in determining if the fair value meets the requirements of the interpretation, ie: awards are measured at what they could be sold for
If entity supplies award Recognise revenue when: Award credits are redeemed; and Entity fulfils its obligation to supply award Amount of revenue based on: Number of award credits redeemed Total number of awards expected to be redeemed