IFRS 15 outlines how and when an IFRS reporter would recognise revenue and requires such companies to make more meaningful, relevant disclosures to readers of financial statements.
The standard offers a single, five-step model based on a set of guiding principles for all client contracts.
The objective of IFRS 15 is to set the standards that a business must follow in order to provide valuable information to consumers of financial statements about the type, amount, timing, and uncertainty of revenue and cash flows emanating from a contract with a client.
Application of the standard is required for annual reporting periods commencing on or after 1 January 2018. Application in advance is acceptable.
IFRS 15 Revenue from Contracts with Customers applies to all customer contracts except leases under IAS 17 Leases, financial instruments and other contractual rights or obligations under IFRS 9 Financial Instruments, IFRS 10 Consolidated Financial Statements, IFRS 11 Joint Arrangements, IAS 27 Separate Financial Statements and IAS 28 Investments in Associates and Joint Ventures, and insurance contracts under IFRS 4 Insurance.
A contract with a customer may be partially within the scope of IFRS 15 and partially within the scope of another standard. In that scenario: [IFRS 15:7]
If other standards specify how to separate and/or initially measure one or more contract parts, then those separation and measurement requirements are applied first. The transaction price is then reduced by the amounts initially measured under other standards; if no other standard provides guidance on how to separate and/or initially measure one or more parts of the contract, then IFRS 15 will be applied.
Accounting requirements for revenue
The five-step model framework
The core principle of IFRS 15 is that an entity will 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. This core principle is delivered in a five-step model framework:
- Identify the contract(s) with a customer.
- Identify the performance obligations in the contract,
- Determine the transaction price
- Allocate the transaction price to the performance obligations in the contract
- Recognise revenue when (or as) the entity satisfies a performance obligation.
The application of this guidance will depend on the facts and circumstances present in a contract with a customer and will require the exercise of judgment.
Step 1: Identify the contract with the customer
A contract with a customer will be within the scope of IFRS 15 if all the following conditions are met: [IFRS 15:9]
Ø the contract has been approved by the parties to the contract;
Ø each party’s rights about the goods or services to be transferred can be identified;
Ø the payment terms for the goods or services to be transferred can be identified;
Ø the contract has commercial substance; and
Ø it is probable that the consideration to which the entity is entitled in exchange for the goods or services will be collected.
If a contract with a customer does not yet meet all of the above criteria, the entity will continue to re-assess the contract going forward to determine whether it subsequently meets the above criteria. From that point, the entity will apply IFRS 15 to the contract. [IFRS 15:14]
The standard gives detailed instructions on how to keep track of changes to contracts that have been approved. If certain things happen, a change to a contract will be treated as a new contract with the customer. If not, it will be taken into account by making a change to how the current contract with the customer is accounted for.
Whether the second type of change is accounted for in the future or in the past depends on whether the goods or services that remain to be delivered after the change are different from those that were delivered before the change. The Standard has more information about how to account for changes to contracts.
Step 2: Identify the performance obligations in the contract
At the inception of the contract, the entity should assess the goods or services that have been promised to the customer, and identify as a performance obligation: [IFRS 15.22]
- a good or service (or bundle of goods or services) that is distinct; or
- a series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer.
A series of distinct goods or services are transferred to the customer in the same pattern if both of the following criteria are met: [IFRS 15:23]
- each distinct good or service in the series that the entity promises to transfer consecutively to the customer would be a performance obligation that is satisfied over time (see below); and
- a single method of measuring progress would be used to measure the entity’s progress towards complete satisfaction of the performance obligation to transfer each distinct good or service in the series to the customer.
A good or service is distinct if both of the following criteria are met: [IFRS 15:27
the customer can benefit from the good or services on its own or in conjunction with other readily available resources; and
Ø the entity’s promise to transfer the good or service to the customer is separately identifiable from other promises in the contract.
Factors for consideration as to whether a promise to transfer goods or services to the customer is not separately identifiable include, but are not limited to: [IFRS 15:29]
- the entity does provide a significant service of integrating the goods or services with other goods or services promised in the contract;
- the goods or services significantly modify or customise other goods or services promised in the contract;
- the goods or services are highly interrelated or highly interdependent.
Step 3: Determine the transaction price
The transaction price is the amount to which an entity expects to be entitled in exchange for the transfer of goods and services. When making this determination, an entity will consider past customary business practices. [IFRS 15:47]
Where a contract contains elements of variable consideration, the entity will estimate the amount of variable consideration to which it will be entitled under the contract. [IFRS 15:50] Variable consideration can arise, for example, as a result of discounts, rebates, refunds, credits, price concessions, incentives, performance bonuses, penalties or other similar items. Variable consideration is also present if an entity’s right to consideration is contingent on the occurrence of a future event. [IFRS 15:51]
The standard deals with the uncertainty relating to variable consideration by limiting the amount of variable consideration that can be recognised. Specifically, variable consideration is only included in the transaction price if and to the extent that, probably, its inclusion will not result in a significant revenue reversal in the future when the uncertainty has been subsequently resolved. [IFRS 15:56]
However, a different, more restrictive approach is applied in respect of sales or usage-based royalty revenue arising from licences of intellectual property. Such revenue is recognised only when the underlying sales or usage occur. [IFRS 15:B63]
Step 4: Allocate the transaction price to the performance obligations in the contracts
An entity allocates the transaction price to a contract’s performance obligations based on its independent selling values. The entity must estimate a solo selling price if it is not readily observable. IFRS 15 recommends approaches like:
- Adjusted market assessment approach
- Expected cost plus a margin approach
- Residual approach (only permissible in limited circumstances).
Any overall discount compared to the aggregate of standalone selling prices is allocated between performance obligations on a relative standalone selling price basis. It may be appropriate to allocate such a discount to some but not all of the performance obligations in certain circumstances. [IFRS 15:81]
Where consideration is paid in advance or in arrears, the entity will need to consider whether the contract includes a significant financing arrangement and, if so, adjust for the time value of money. [IFRS 15:60] A practical expedient is available where the interval between the transfer of the promised goods or services and payment by the customer is expected to be less than 12 months. [IFRS 15:63]
Step 5: Recognise revenue when (or as) the entity satisfies a performance obligation
Revenue is recognised as control is passed, either over time or at a point in time. [IFRS 15:32]
Control of an asset is defined as the ability to direct the use of and obtain substantially all of the remaining benefits from the asset. This includes the ability to prevent others from directing the use of and obtaining the benefits from the asset. The benefits related to the asset are the potential cash flows that may be obtained directly or indirectly. These include, but are not limited to: [IFRS 15:31-33]
- using the asset to produce goods or provide services;
- using the asset to enhance the value of other assets;
- using the asset to settle liabilities or to reduce expenses;
- selling or exchanging the asset;
- pledging the asset to secure a loan; and
- holding the asset.
An entity recognises revenue over time if one of the following criteria is met: [IFRS 15:35]
- the customer simultaneously receives and consumes all of the benefits provided by the entity as the entity performs;
- the entity’s performance creates or enhances an asset that the customer controls as the asset is created; or
- 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.
If an entity does not satisfy its performance obligation over time, it satisfies it at a point in time. Revenue will therefore be recognised when control is passed at a certain point in time. Factors that may indicate the point in time at which control passes include, but are not limited to: [IFRS 15:38]
- the entity has a present right to payment for the asset;
- the customer has legal title to the asset;
- the entity has transferred physical possession of the asset;
- the customer has the significant risks and rewards related to the ownership of the asset; and
- the customer has accepted the asset.
Presentation in financial statements
Contracts with customers will be presented in an entity’s statement of financial position as a contract liability, a contract asset, or a receivable, depending on the relationship between the entity’s performance and the customer’s payment. [IFRS 15:105]
A contract liability is presented in the statement of financial position where a customer has paid an amount of consideration prior to the entity performing by transferring the related good or service to the customer. [IFRS 15:106]
Depending on the nature of the entity’s entitlement to consideration, a contract asset or receivable is displayed in the statement of financial position when the entity has transferred an item or service to the customer but the customer has not yet paid the relevant consideration. When an entity’s entitlement to consideration is contingent on anything other than time, such as future performance, a contract asset is recognised. Receipts are recognised when an entity’s entitlement to payment is unconditional save for time.
Contract assets and receivables shall be accounted for in accordance with IFRS 9. Any impairment relating to contracts with customers should be measured, presented, and disclosed according to toy difference between the initial recognition of a receivable and the corresponding amount of revenue recognised should also be presented as an expense, for example, an impairment loss. [IFRS 15:107-108]
The disclosure objective stated in IFRS 15 is for an entity to disclose sufficient information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. Therefore, an entity should disclose qualitative and quantitative information about all of the following: [IFRS 15:110]
- its contracts with customers;
- the significant judgments, and changes in the judgments, made in applying the guidance to those contracts; and
- any assets recognised from the costs to obtain or fulfil a contract with a customer.
Entities must decide how much information to provide to meet the disclosure aim. Aggregate or disaggregate releases to avoid obscuring vital information. The Standard includes additional disclosure criteria to meet the stated goal.