IAS 18 Revenue Recognition - YMECymec.in/wp-content/uploads/2014/09/Revenue-Recognition-New.pdf ·...

Session outline:

• Introduction

• Objective

• Scope

• Identification of transactions

Session outline

Construction contracts

1

5

6

IAS 18

IAS 11

IAS 18, 28, 39

Revenue Recognition

Slide 3

• Timing of recognition

• Measurement of Revenue

• Sale of goods

• Rendering of services

• Interests, royalties and dividends

• DisclosuresMultiple

elements

2

34

5 IAS 1828, 39

IAS 18,39

IAS 18

IAS 18SIC 31

What is revenue?

Revenue is

• the gross inflow of economic benefits during the period

• arising in the course of the ordinary activities of an entity

• when those inflows result in increases in equity,

• other than increases relating to contributions from equity participants.

Revenue Recognition

Slide 4

Exceptions

Does NOT apply to

• leases agreements ;

• dividends from investments accounted for under the equity method ( IAS 28 Investments in Associates);

• insurance contracts within the scope of IFRS 4 Insurance Contracts;

• changes in the fair value of financial assets and financial liabilities or their disposal

Revenue Recognition

Slide 5

• changes in the fair value of financial assets and financial liabilities or their disposal (IAS 39 Financial Instruments: Recognition and Measurement);

• changes in the value of other current assets;

• initial recognition and from changes in the fair value of biological assets related to agricultural activity ( IAS 41 Agriculture);

• initial recognition of agricultural produce ( IAS 41); and

• the extraction of mineral ores

• construction contracts (IAS 11)

Key issues in Revenue Recogniton

• Identification of the Transaction

• Timing of Recognition

• Measurement of Revenue

• Other issues-Gross vs Net

Revenue Recognition

Slide 6


Identification of the Transaction

Timing of Recognition

Measurement of Revenue

Other issues-Gross vs Net

Revenue Recognition

Slide 7

Identification of the transaction

The recognition criteria are usually applied separately to each transaction however in certain circumstances it is necessary to

Apply the recognition criteria to the separately identifiable components of a

Apply the recognition criteria to two or more transactions together when they are linked

Revenue Recognition

Slide 8

identifiable components of a single transaction to reflect the substance of the transaction.

in such a way that the commercial effect cannot be understood without reference to the series of transactions as a whole .






Revenue Recognition

Slide 9

Timing of Recognition Sale of goods

SALE OF GOODS:

• Risks/rewards transfer

• No continuing managerial involvement

• Probable inflow of benefits

• Revenue measurable reliably


Probable benefits inflow

1

5

6

Revenue Recognition

Slide 10

• Costs measurable reliably Measurable costs incurred

Measurable coststo complete

Multiple elements

2

34

5

Timing of recognition Services

SERVICES:

• Percentage of completion

• Probable inflow of benefits

• The following is measurable reliably:

– Stage of completion

Sale of goods

Probable benefits inflow

2

6

1

Revenue Recognition

Slide 11

– Revenue

– Costs incurred

– Costs to complete

benefits inflow

Measurable costs incurred

Measurable coststo complete

Interest

3

45

6

Timing of recognition Multiple elements

Multiple elements

IAS 18 para 13:

In certain circumstances, it is necessary to apply the recognition criteria to the separately identifiable components of a single transaction to reflect substance.

Rendering of services

3

1

2

Revenue Recognition

Slide 12

to reflect substance.

• Identifying components of a transaction to reflect substance

• Combining if commercial effect cannot otherwise be understood

• linked transactions)

Dividends, royalties

4

56

1

Multiple Elements transactions

1. Separation of Elements

• A transaction may contain separately identifiable components that should be accounted for separately.

• Apply the revenue recognition criteria to each separately identifiable component of a single transaction to reflect the transaction's substance.

To assess the transaction's

Revenue Recognition

Slide 13

Customer’s Perspective

substance, view from customers’ perspective

customer views the purchase as one

product

customer perceives there to be a

number of elements to the transaction ,.

Apply recognition criteria to transaction as

whole

Apply recognition criteria to each element

separately.

Multiple Elements transactions

2. Allocation of Consideration

• Revenue in respect of each separable component of a transaction = its fair value.

• Fair value = price that is regularly charged for an item when sold separately

Total revenue > the sum of the fair value of the separable elements

Total revenue < the sum of the fair value of the separable elements

Revenue Recognition

Slide 14

additional revenue attributable to the activity of managing the two elements of

the contract

additional revenue recognised when full contract substantially complete

Difference = discount

discount allocated between the separable components using:1. relative fair values 2. cost plus a reasonable margin

If overall loss on contract recognise immediately

Timing of recognition Multiple elements

The company sells computers. Fair values of components are:

CPU € 700

Monitor € 300

Keyboard € 100

€ 1,100


3

1

2

Revenue Recognition

Slide 15

€ 1,100

The price of PC as a whole € 1,000

The company sold the whole PC but delivered only the CPU by year-end.

Dividends, royalties

4

56

1

Multiple elements

Analysis:

The company’s receivable (total price) € 1,000

If monitor and keyboard remains undelivered,

the customer does not have to pay € 300 + € 100 = (€ 400)

Amount receivable for the delivered CPU: € 600

Revenue Recognition

Slide 16

Portion of the total price of the PC normally allocable

to the CPU is € 1,000 x € 700 / € 1,100 = € 636

Recognise revenue of € 600 on delivery of the CPU* (It depends).

Multiple elements Classification in the P&L

Revenue is the gross inflow of economic benefits during the period arising in the course of the ordinary activities.

Multiple element transactions:

Dr: Cash 100Cr: Revenue 95Cr: Liabilities 5

Free gifts, marketing costs etc.

Dr: Cash 100Cr: Revenue 100

Revenue Recognition

Slide 17

Cr: Liabilities 5Dr: Cost of sales 5Cr: Liabilities 5

Exercise Multiple elements

Practical examples:

• ABC TVs – sale of big screen TVs and subsequent installation

• Southern telecom – free DVD player

Revenue Recognition

Slide 18

Timing of recognition Interests

INTEREST:

• Effective interest method

• Origination fees

• Commitment fees

Multiple elements

Right to payment

4

2

3

IAS 39 effective interest method

Revenue Recognition

Slide 19

Right to payment established


5

61

2

Timing of recognition Royalties

ROYALTIES:

• On accruals basis based on substance of the agreement

• Licencing – upfront or defer?

• Contingencies

Interest

5

3

4

Revenue Recognition

Slide 20

DIVIDENDS:

• When the right to receive payment is established

• Revenue or adjust the cost of the investment

Right to payment established

Sale of goods

6

12

3


2. No Continuing Managerial involvement

Indicators of continuing managerial involvement or retention of effective control might include:

• Control over future price of the item.

• Responsible for the management of the goods subsequent to the sale.

Continuing Managerial Involvement

Revenue Recognition

Slide 22

to the sale.

• Transaction allows the buyer to compel the seller, or give an option to the seller, to repurchase the item.

• Guarantees the return of the buyer’s investment or a return on that investment for a limited or extended period.

Exists!

No Sale!

No Revenue!


2. No Continuing Managerial involvement

Example:

Entity A sells a racehorse to entity B. As part of the arrangement entity A continues to house and train the horse, determine which races the horse will enter and set stud fees for the horse. Should entity A recognise revenue on the sale of the horse to entity B?

Ans:

Revenue Recognition

Slide 23

Ans:

If a proper training agreement is in place that provides a market fee for the services that entity A provides and any winnings or fees achieved by the horse going to the buyer, it may be appropriate to recognise revenue on the sale. However, it would also be necessary to consider whether entity A had given any guarantees or incurred other obligations that may indicate it had not disposed of the significant risks and rewards of ownership of the horse

Timing of Recognition – Other issues

3.Revenue measurable reliably

An entity can make reliable estimates after it has agreed with the other parties to the transaction on the following:

• each party's enforceable rights regarding the service to be provided and received by the parties;

• the consideration to be exchanged; and

Revenue Recognition

Slide 24

• the consideration to be exchanged; and

• the manner and terms of settlement.

The entity reviews and, when necessary, revises the estimates of revenue as the service is performed. The need for such revisions does not necessarily indicate that the outcome of the transaction cannot be estimated reliably


4. Costs measurable reliably

Revenue Recognition

Goods manufactured for sale All manufacturing costs

Goods purchased for resale All purchase costs

IAS 2 Inventories

Slide 25

Pre-production cost segregated

from manufacturing cost

New entity/ product

Contracts for services Price paid or production costIAS 11

Construction Contracts


5. Probable inflow of benefits

• Revenue recognised only when it is probable that the economic benefits associated with the transaction will flow to the entity.

• This may not be probable until the consideration is received or an uncertainty is removed.

For e.g. it may be uncertain that a foreign governmental authority will grant permission to remit the consideration from a sale in a foreign country. When the

Revenue Recognition

Slide 26

permission to remit the consideration from a sale in a foreign country. When the permission is granted, the uncertainty is removed and revenue is recognised.

• When an uncertainty arises -the uncollectible amount included in revenue

§ recognised as an expense,

§ not an adjustment of revenue already recognised.






Revenue Recognition

Slide 27

Measurement of revenue

Revenue shall be measured at the fair value* of the consideration received orreceivable.

• determined by agreement between the entity and the buyer or user of the asset;

• after any trade discounts and volume rebates;

*Fair Value is defined as

Revenue Recognition

Slide 28

§ the amount for which an assets could be exchanged or a liability settled

§ between knowledgeable willing parties,

§ in an arm’s length transaction.

Measurement of revenue-I

Other issues:

• Whether a principal/agency relationship exists.

If an entity is acting as an agent in a relationship, revenue should only be

Revenue Recognition

Consideration in the form of cash or cash

equivalents

Revenue = amount of cash or cash equivalents received or

receivable.

Slide 29

If an entity is acting as an agent in a relationship, revenue should only be recognised to the extent that it represents payment for acting as an agent

• The existence of trade discounts, volume rebates and other incentives,which should be taken into account in measuring the fair value of the consideration received.

• Whether the transaction forms part of a multiple element transaction. Where this is the case, the total consideration should be allocated to each element of the transaction

Measurement of revenue-II

Revenue Recognition

Consideration is deferred

Revenue = Both a sale and financing transaction.

Discounted fair value of consideration*

Slide 30

* The discount rate is the more clearly determinable of the following:

• the prevailing rate for a similar instrument of an issuer with a similar credit rating; or

• a rate of interest that discounts the nominal amount of the instrument to the current cash sales price of the goods or services.

The difference between the fair value and the nominal amount of the consideration is recognised as interest revenue (as per IAS 39)






Revenue Recognition

Slide 31

Agency Arrangements

Revenue Recognition

Principal or Agent ?

• expectation by the customer that the entity is acting as the primary obligor in the arrangement.

• freedom to set the selling price with the customer.

• assumes inventory risk

• performs part of the services provided or modifies the

Principal!

Gross Reporting!

Slide 32

• performs part of the services provided or modifies the goods supplied.

• assumes the credit risk

• discretion in selecting suppliers

(illustrative)

If these conditions not satisfied – NET REPORTING !

Refer other PPT

Other issues

Matching Concept

Revenue and expenses that relate to the same transaction or other event are recognised simultaneously; this process is commonly referred to as the matching of revenues and expenses.

E,.g Expenses, including warranties and other costs to be incurred after the sale can normally be measured reliably when the other conditions for the recognition of

Revenue Recognition

Slide 33

normally be measured reliably when the other conditions for the recognition of revenue have been satisfied. Hence cost should be provided for at the time the sale is recognised

If expense not measurable reliably - revenue not recognised

any consideration already received - recognised as a liability.


Revenue Recognition

Outcome of a transaction estimated reliably

Outcome be estimated reliably if:

• revenue measured reliably;

Stage of completion method

Slide 34

• revenue measured reliably;• probable that economic benefits flow to the entity;• the stage of completion measured reliably;

and• the costs incurred for the transaction and the costs to

complete the transaction can be measured reliably


Revenue Recognition

Outcome cannot be estimated reliably

revenue recognised = recoverable expenses .

During the early stages of a transaction, it is often the case that the outcome of the transaction cannot be estimated reliably.

Is it probable that the entity will recover the transaction costs incurred?

Slide 35

Is it probable that the entity will recover the transaction costs incurred?

• Revenue is recognised only to the extent of costs incurred that are expected to be recoverable.

• No profit is recognised.

• Revenue is not recognised

• The costs incurred are recognised as an expense.

When the uncertainties that prevented reliable estimation no longer exist, revenue is recognised

YES NO


Revenue Recognition


- by “Percentage of Completion method” depending on nature of transaction ,methods may include

• surveys of work performed;

• services performed to date as a percentage of total services to be performed; or

• the proportion that costs incurred to date bear to the estimated total costs of the

Slide 36

transaction. Only costs that reflect services performed to date are included in costs incurred to date.

Progress payments and advances received from customers often do not reflect the services performed.


Revenue Recognition

Treatment of certain specific services

• Performance over Time

§ services are performed by an indeterminate number of acts

§ over a specified period of time,

Revenue is recognised on a straight-line basis unless a better method represents the stage of completion.

Slide 37

• Contracts containing significant acts

recognised when significant act is executed.


Revenue Recognition

Contracts with milestone payments-

• payment of cash upon the achievement of certain ‘milestones’ identified in the contract.

Accounting is generally very complex. Following points need to be considered

§ The reasonableness of the payments compared to the effort, time and cost to achieve the milestones.

Slide 38

§ The nature of royalty or licence agreements relating to the product being developed.

§ The existence of any cancellation clauses.

§ The risks associated with achievement of milestones.

§ Any obligations that must be completed to receive payment under the contract or the existence of penalties for failure to deliver.

Measurement of revenue- Barter transactions

Revenue Recognition

Goods or services are exchanged or swapped for good s or services which are of a similar nature and value?

YES NO

NOT a transaction which generates revenue.

a transaction which generates revenue.

Slide 39

Can fair value of goods and services received be measured reliably?

YES NO

revenue is measured at the fair value of the goods or services received, adjusted by the amount of any cash or cash equivalents transferred.

the revenue is measured at the fair value of the goods or services given up, adjusted by the amount of any cash or cash equivalents transferred.

Barter transaction for advertising – SIC 31

Revenue Recognition

SIC 31 then states that the seller can only reliably measure the fair value of advertising services it provides in the exchange by reference to non-barter transactions. For such evidence to be sufficient for reliable measurement the non-barter transactions must:

• Involve advertising similar to the advertising in the barter transaction.

• Occur frequently.

• Represent a predominant number of transactions and amount when compared to all

Slide 40

• Represent a predominant number of transactions and amount when compared to all transactions to provide advertising that is similar to the advertising in the barter transaction.

• Involve cash and/or another form of consideration (for example, marketable securities, non-monetary assets and other services) that has a fair value that is reliably measurable.

• Not involve the same third party as in the barter transaction.

Customer Loyalty Programmes- IFRIC 13

Revenue Recognition

Customer loyalty programmes’, which, deals with ‘point schemes’ or‘ award credits'.

Such as

• points earned through the purchase of goods or services can only be redeemed for goods and services provided by the issuing entity.

• points earned through the purchase of goods or services cannot be redeemed for goods or services sold by the issuing entity.

Slide 41

• points earned through the purchase of goods or services can be redeemed either at the issuing entity or at other entities that participate in the loyalty programme.

Examples are airlines that offer 'free' air miles and supermarkets that offer loyalty cards that accumulate points that can then be used to reduce the cost of future purchases or may sometimes be redeemable for cash

CONSTRUCTION SPECIFICALLY IFRIC 15

Construction contract or sale of goods?

Revenue Recognition

IFRIC 15 Agreements for the Construction of Real Estate

Slide 42

…a contract specifically negotiated for the construction of an asset or a combination of assets that are closely interrelated or interdependent in terms

of their design, technology and function or ultimate purpose or use.

CONSTRUCTION OF AN ASSET

SPECIFICALLY NEGOTIATED

IFRIC 15

Specify majorstructural elements

(before/during construction)

Limited ability to

influence design

Revenue Recognition

Construction contract or sale of goods?

Slide 43

IAS 11 IAS 18

IFRIC 15 whether analogy shall be applied

Disclosures

Revenue Recognition

Slide 44

Disclosures

Revenue Recognition

An entity shall disclose:

the accounting

policies adopted for

methods adopted to determine

the amount of revenue

Slide 45

adopted for recognition of revenue.

determine the stage of completion

of transactions in rendering of services.

revenue arising from exchange of

goods or services in

each significant category.

Disclosures

Revenue Recognition

the amount of each significant category of revenue recognised during the period, including revenue arising from:

rendering of services

sale of goods

Slide 46

royalties

interests

dividends

Revenue Recognition – Overview in Select Industries

Revenue Recognition

1. Telecom

2. Banking & Leasing

3. Investment Banking

4. Automobile

5. FMCG/Pharma/Retail

Slide 47

5. FMCG/Pharma/Retail

6. Contract Manufacturing

7. Biological asset

8. Airline

9. Real Estate

10.Software

Key Differences Between Indian GAAP and IFRS

Revenue Recognition

1. Additional conditions – Cost measurable reliably

2. Additional conditions - Significant managerial involvement

3. Bill and hold transactions

4. Real estate sales

5. Financial income

6. Service Concession agreement – Covered separately

Slide 48

6. Service Concession agreement – Covered separately

7. Agriculture – Covered separately

8. Barter Transactions; advertising & non-advertising

9. Receiving shares for services rendered.

10.Gross Consideration v/s Fair Value of Consideration

11.Multiple Deliverables

Revenue recognition – Quick quiz

Revenue Recognition

ScenariosRevenue

Recognition

1 Entity which does not retains an obligation for unsatisfactory performance not covered by normal warranty provisions can recognise the revenue immediately

2 When the receipt of the revenue from a particular sale is contingent on the derivation of revenue by the buyer from its sale of the goods, the seller can not recognised the revenue immediately.

3 Revenue can not be recognised when, the goods are shipped subject to installation and the installation is a significant part of the contract which has not

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Slide 49

installation and the installation is a significant part of the contract which has not yet been completed by the entity.

4 Revenue should not be recognised when the buyer has right to rescind the purchase for a reason specified in the sales contract and the entity is uncertain about the probability of return.

5 If an entity retains only an insignificant risk of ownership, the transaction is a sale and revenue is recognised.

6 Seller can recognise the revenue where transaction allows the buyer to compel the seller, or give an option to the seller, to repurchase the item.

7 If seller guarantees the return of the buyer’s investment or a return on that investment for a limited or extended period, revenue can not be recognised immediately.

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Any Questions?

Slide 50

Let’s Recap

Thank You.

CA Arpit Mundra+ 91 98 33 881398

[email protected]

This presentation has been prepared for general guidance on matters of interest only, and does not constitute professio naladvice. You should not act upon the information contained in this presentation without obtaining specific professiona l advice.No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contai ned inthis presentation, and, to the extent permitted by law, Arpi t Mundra or the entity for which he works, its members, employ eesand agents accept no liability, and disclaim all responsibi lity, for the consequences of you or anyone else acting, or re frainingto act, in reliance on the information contained in this pres entation or for any decision based on it. Without prior writt enpermission of Arpit Mundra, the contents of this presentati on may not be quoted in whole or in part or otherwise referred t o inany documents. Moreover, the presentation has to be conside red along-with the session given by Arpit Mundra and not on as itis, standalone or any other basis.

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