Revenue Recognition (IFRS 15)

IFRS 15 Revenue from Contracts with Customers provides a single, comprehensive framework for revenue recognition across all industries and all types of contracts with customers. It applies to all contracts with customers except: leases (IFRS 16), insurance contracts (IFRS 17), financial instruments (IFRS 9), and non-monetary exchanges between entities in the same line of business.

Core principle: An entity shall recognise revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.

The core principle is applied through a five-step model:

A contract (oral, written, or implied by customary business practice) with a customer falls within IFRS 15 only if ALL five criteria are met:

1. The parties have approved the contract and are committed to performing their obligations
2. The rights of each party regarding goods/services to be transferred can be identified
3. The payment terms can be identified
4. The contract has commercial substance (the entity's future cash flows are expected to change as a result)
5. It is probable that the entity will collect the consideration (assessment of customer's ability and intention to pay)

If the criteria are not met at contract inception, the entity reassesses at each reporting date. Any consideration received before the criteria are met is recognised as a liability (not revenue) and is recognised as revenue only when: (a) the entity has no remaining obligations and all (or substantially all) consideration has been received and is non-refundable, or (b) the contract has been terminated and the consideration received is non-refundable.

Contract combinations: Two or more contracts entered into at or near the same time with the same customer (or related parties) are combined and accounted for as a single contract if: (a) negotiated as a package with a single commercial objective, (b) the consideration in one depends on the other, or (c) the goods/services promised are a single performance obligation.

A performance obligation is a promise to transfer to the customer either: (a) a distinct good or service (or bundle), or (b) a series of distinct goods or services that are substantially the same and have the same pattern of transfer.

Distinct criteria — BOTH must be met:

1. Capable of being distinct: The customer can benefit from the good/service on its own or together with other readily available resources
2. Distinct within the context of the contract: The promise is separately identifiable from other promises in the contract. Indicators that a promise is NOT separately identifiable: the entity provides a significant integration service, one item significantly modifies/customises another, or the items are highly interrelated/interdependent

Practical examples:

• Mobile phone + 24-month service contract: Typically TWO distinct performance obligations — the phone (capable of being used standalone) and the service (can be obtained from other providers). Revenue allocated between them based on stand-alone selling prices.
• Software licence + installation + post-sale support: Likely THREE performance obligations if installation is not integral (the software can be used without the entity's installation service, and support is separable).
• Construction of a building (integrated project): Likely ONE performance obligation — the entity provides a significant integration service combining materials, labour, design, and project management into a single output. The individual inputs are not separately distinct in the context of the contract.

The transaction price is the amount of consideration the entity expects to be entitled to in exchange for transferring promised goods/services (excluding amounts collected on behalf of third parties, such as VAT). It must consider:

1. Variable consideration:

• Includes discounts, rebates, refunds, credits, incentives, performance bonuses/penalties
• Two estimation methods (use whichever better predicts the amount):
  • Expected value: Sum of probability-weighted amounts in a range of possible outcomes. Appropriate when there is a large number of contracts with similar characteristics.
  • Most likely amount: The single most likely outcome. Appropriate when there are only two possible outcomes (e.g., achieve or fail a milestone).
• The constraint: Variable consideration is included in the transaction price only to the extent that it is highly probable that a significant reversal will not occur when the uncertainty is resolved. Factors to consider: the entity's experience with similar contracts, length of time until resolution, whether the amount is susceptible to factors outside the entity's control.

2. Significant financing component:

• If the timing of payments provides a significant benefit of financing to either the customer or the entity, the consideration is adjusted for the time value of money — using the discount rate that would be reflected in a separate financing transaction between the parties
• Revenue is the cash selling price at the date of transfer; the difference between revenue and cash received is interest income (or expense)
• Practical expedient: An entity need not adjust for financing if the period between transfer of the good/service and payment is one year or less
• Significant financing is not present when: (a) the customer paid in advance for a transfer at the customer's discretion, (b) consideration is variable based on future events outside the parties' control, (c) the difference arises for non-financing reasons (e.g., performance protection)

3. Non-cash consideration: Measured at fair value. If fair value cannot be reasonably estimated, measured by reference to the stand-alone selling price of the goods/services.

4. Consideration payable to a customer: Payments to a customer (rebates, slotting fees, coupons) are treated as a reduction of the transaction price — unless the payment is for a distinct good or service from the customer (in which case it is a purchase).

If the contract contains more than one performance obligation, the transaction price is allocated to each on a relative stand-alone selling price (SSP) basis.

Stand-alone selling price: The price at which the entity would sell the good/service separately to a customer. Best evidence: observable price when sold separately in similar circumstances. If not directly observable, the entity must estimate the SSP using methods such as:

• Adjusted market assessment: Evaluate the market, competitors' prices, and the entity's position to estimate what the market would bear
• Expected cost plus a margin: Forecast expected costs and add an appropriate margin
• Residual approach (only allowed in limited circumstances): Estimate SSP as the total transaction price less the sum of observable SSPs of other goods/services. Allowed only when: (a) the entity sells the same good/service to different customers at a wide range of prices, or (b) the entity has not yet established a price

Discounts: A discount on a bundle is normally allocated proportionately to all performance obligations based on relative SSPs. However, if observable evidence indicates the discount relates to only specific performance obligations, it is allocated only to those obligations.

Variable consideration: Is allocated entirely to a specific performance obligation if both: (a) the variable terms relate specifically to the entity's efforts to satisfy that obligation, and (b) the allocation is consistent with the overall allocation objective.

Revenue is recognised when (or as) the entity satisfies a performance obligation by transferring control of the promised good or service to the customer. Control = the ability to direct the use of and obtain substantially all the remaining benefits from the asset.

Over time recognition: A performance obligation is satisfied over time (and revenue recognised progressively) if ANY of the following are met:

1. The customer simultaneously receives and consumes the benefits as the entity performs (e.g., cleaning services, routine subscription services)
2. The entity's performance creates or enhances an asset that the customer controls (e.g., constructing on the customer's land — the customer controls the work in progress)
3. The entity's performance does NOT create an asset with an alternative use to the entity, AND the entity has an enforceable right to payment for performance completed to date (e.g., custom-built aircraft with no alternative use; consultancy project with termination-for-convenience clause including payment for work done)

Measuring progress (for over-time recognition):

• Input methods: Resources consumed, costs incurred relative to total expected costs, time elapsed, labour hours. Problem with input methods: inputs may not directly represent transfer of control.
• Output methods: Surveys of work performed, units produced/delivered, milestones reached, time elapsed. More directly measures transfer. Best when meaningful units or milestones exist.
• The method chosen should faithfully depict the entity's performance. The same method should be used for similar obligations and applied consistently.

Point-in-time recognition: If none of the over-time criteria are met, the obligation is satisfied at a point in time. Indicators that control has transferred include:

• Entity has a present right to payment
• Customer has legal title
• Entity has transferred physical possession
• Customer has significant risks and rewards of ownership
• Customer has accepted the asset

Principal vs agent:

• Principal: The entity controls the specified good/service before it is transferred to the customer. Recognises revenue at the gross amount.
• Agent: The entity's performance obligation is to arrange for the other party to provide the good/service. Recognises revenue at the net amount (commission/fee).
• Indicators of principal: primarily responsible for fulfilment, inventory risk before transfer, discretion in establishing prices, can direct the other party to provide the service.
• Example: Uber is typically an agent (connecting riders and drivers, earning a commission). A traditional taxi company employing drivers is a principal.

Bill-and-hold: Customer is billed and takes title, but the entity retains physical possession. Revenue recognised only if ALL are met: (a) the reason is substantive (e.g., customer requested), (b) product is separately identified as the customer's, (c) product is ready for physical transfer, (d) entity cannot use or direct the product to another customer.

Consignment: Entity delivers goods to another party (dealer, distributor) but retains control. NOT a sale — no revenue recognised until the third party sells to the end customer. Indicators: product controlled by entity until specified event, entity can require return/transfer to another party, dealer has no unconditional obligation to pay.

Warranties:

• Assurance-type warranty: Provides assurance that the product complies with agreed specifications. Accounted for as a provision under IAS 37 (not a separate performance obligation).
• Service-type warranty: Provides an additional service beyond the assurance warranty (e.g., extended warranty). A separate performance obligation — allocate transaction price and recognise revenue over the warranty period.

Licences of intellectual property:

• Right to access the IP as it exists throughout the licence period (e.g., access to a brand that the licensor continues to develop) → recognise revenue over time
• Right to use the IP as it exists at the point in time the licence is granted (e.g., completed software) → recognise revenue at a point in time
• Sales-based or usage-based royalties: recognise revenue when the later of: the subsequent sale/usage occurs, OR the performance obligation has been satisfied

Contract modifications:

• Separate contract: If the modification adds distinct goods/services AND the price reflects the stand-alone selling price of the added items, treat as a separate contract
• Termination and new contract: If the remaining goods/services are distinct from those transferred before, terminate the existing contract and treat the remainder as a new contract (reallocate remaining consideration)
• Cumulative catch-up: If the remaining goods/services are NOT distinct, update the transaction price and measure of progress — recognise a cumulative adjustment to revenue

Construction contracts: IFRS 15 replaces IAS 11. Most construction contracts are satisfied over time (the asset has no alternative use and there is a right to payment). Progress measured using input or output methods. If over-time criteria are not met (e.g., speculative house building with no customer contract until completion), revenue recognised at point in time on delivery.

Incremental costs of obtaining a contract: Costs that would not have been incurred if the contract had not been obtained (e.g., sales commissions). Recognised as an asset if expected to be recovered. Amortised over the period of benefit (often longer than the contract if the asset relates to renewals). Practical expedient: Expense as incurred if the amortisation period would be one year or less.

Costs to fulfil a contract: If not within the scope of another standard (IAS 2 Inventories, IAS 16 PPE, IAS 38 Intangibles), recognised as an asset if: (a) related directly to a contract (or anticipated contract), (b) generate or enhance resources to be used in satisfying future performance obligations, (c) expected to be recovered. Amortised as the goods/services are transferred.

Contract assets and liabilities:

• Contract asset: Entity's right to consideration in exchange for goods/services transferred — but conditional on something other than the passage of time (e.g., further performance required). Different from a receivable.
• Receivable: Unconditional right to consideration (only the passage of time is required).
• Contract liability: Entity's obligation to transfer goods/services for which consideration has been received (or is due). Deferred revenue.