Seminar ACCT writing assignment
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Revenue_recognition_slidesEY4501Spring2018.pdf
Revenue recognition
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General
► This new guidance will supersede almost all existing revenue guidance under US GAAP (including industry guides) and IFRS.
► The AICPA has formed various industry task forces to help develop non-authoritative guidance.
► The FASB and IASB announced the formation of a joint transition resource group (TRG) that will be responsible for informing the Boards about interpretive issues that arise as companies implement the revenue standards. The TRG will not issue guidance.
The FASB and IASB issued new guidance on accounting for revenue recognition, Revenue Recognition – Revenue from Contracts with Customers.
► FASB – ASC 606 (ASU 2014-09) ► IASB – IFRS 15
May 2014
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General
► ASC 606 applies to both public and non-public entities. For non-public entities, there is some specific relief related to disclosures, transition and the effective date.
► At the December 5, 2016 AICPA National Conference on Current SEC and PCAOB Developments, Sylvia E. Alicea, a professional accounting fellow of the office of the chief accountant (OCA) made the following comments:
“SAB Topic 13 will continue to apply to registrants prior to their adoption of the new revenue standard so it will continue to be relevant until all registrants have completed their transition. New guidance will be provided, as needed. However, when OCA evaluates implementation-related consultations under U.S. GAAP, our starting point is the new revenue standard (and any subsequent amendments) as issued by the FASB. Therefore, I believe registrants should also apply that model (as opposed to SAB Topic 13) when evaluating their revenue arrangements for adoption of Topic 606.”
► IFRS 15 does not specifically apply to non-public entities. These non-public entities may apply IFRS for Small and Medium-Sized Entities.
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Effective date and adoption methods
US GAAP ► For US public entities, certain not-for-profit entities and
certain employee benefit plans, the guidance is effective for annual periods beginning after December 15, 2017. Early adoption is permitted for annual periods beginning after December 15, 2016.
► All other US entities are required to apply the standard to annual periods beginning after December 15, 2018 but can also early adopt beginning after December 15, 2016.
IFRS ► The guidance is effective for annual
periods beginning on or after January 1, 2018.
► Early adoption is permitted. Early adoption was permitted when IFRS 15 was originally issued.
The adoption methods available for both US GAAP and IFRS include the full retrospective approach and the modified retrospective approach. These are further explained on the following slide.
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Effective date and adoption methods Key considerations Full retrospective Modified retrospective
Apply to which periods presented?
All periods presented Only the current period
Apply to which contracts? All contracts that would have existed during all periods presented if the new standard had been applied from contract inception*
Any contracts existing as of the effective date (as if the new standard had been applied since inception of the contract), as well as any new contracts from that date forward**
Recognition of the impact of adoption in the financial statements?
Apply ASC 250, cumulative effect of changes to prior periods reflected in opening balance of retained earnings
Cumulative effect of changes is reflected in opening balance of retained earnings for the most current period presented
Adoption disclosure requirements?
Apply ASC 250, including disclosure of the reason for the change and the method of applying the change
Disclose all financial statement line items in year of adoption as if prepared under current guidance (effectively requires two sets of accounting records in year of adoption)
* In April 2016, the IASB approved an amendment that allows entities that use the full retrospective option to only apply IFRS 15 to contracts that are not completed as of the beginning of the earlies period presented. The IASB also provided a practical expedient under both approaches. This allows an entity to determine the aggregate effect of all of the contract modifications that occurred between contract inception and the earliest date presented. ** In May 2016, the FASB issued an amendment that allows entities the option of applying the modified retrospective approach to all contracts, not just those that are not complete. Entities that elect this option would apply the full retrospective approach to all contracts, but would present the effects in the year of adoption without recasting prior years. The FASB also provided a practical expedient under both approaches. This allows an entity to determine the transaction price for all unsatisfied and satisfied performance obligations at the beginning of the earliest period presented instead of evaluating the effects of contract modifications from contract inception through the beginning of the earliest period presented.
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Objective
The objective of the guidance “is to establish principles
that an entity shall apply to report useful information to
users of financial statements about the nature, amount,
timing, and uncertainty of revenue and cash flows arising
from a contract with a customer.” (ASC 606-10-10-1)
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Scope
A customer is “a party that has contracted
with an entity to obtain goods or services that are an output
of the entity’s ordinary activities.”
The guidance applies to most contracts with customers with only a few exceptions. For example, all contracts within the scope of Topic 944, such as insurance contracts and leases, are excluded.
It does not apply to other transactions or activities.
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Overview
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Overview
In order to determine when to recognize revenue, the entity applies steps:
Step 1: Identify the contract(s) with the customer
Step 2: Identify the performance obligations in the contract
Step 3: Determine the transaction price
Step 4: Allocate the transaction price to the performance obligations
Step 5: Recognize revenue when (or as) each performance obligation is satisfied
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Identify the contract(s) with the customer
A contract is defined as “… an agreement between two or more parties that creates enforceable rights and obligations.” (ASC 606-10-25-2) Both written and oral agreements are considered contracts. Contracts can also be implied based on the seller’s normal business practices.
Step 1:
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► The following criteria must all be met for a contract to be identified under ASC 606: ► The contract must be approved by all parties to the contract.
► Each party’s rights regarding the goods and services to be transferred must be identifiable.
► The payment terms must be identifiable.
► The contract must have commercial substance.
► It must be probable that a vendor will collect the consideration to which it is entitled in exchange for the goods or services expected to be delivered. (Note that under US GAAP, probable is defined as likely to occur and under IFRS it is defined as more likely than not. Thus, the collectability threshold is slightly higher under US GAAP and could result in some differences as to what is considered a contract.)
Identify the contract(s) with the customerStep 1:
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► When the criteria for a contract are not met, any consideration received from a customer should be accounted for as a liability until one of the following occurs, after which revenue can be recognized: ► All goods or services have been provided to the customer, are
substantially paid for by the customer and are nonrefundable. ► Nonrefundable consideration would be recognized as revenue when an
entity has transferred control of goods or services and has stopped transferring additional goods or services and has no obligation to make additional transfers.
► The contract has ended and consideration received is not refundable. ► The criteria to be considered a contract have been subsequently met.
Identify the contract(s) with the customerStep 1:
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► Contracts can be combined if: ► Under the guidance in ASC 60 6-10-25-9a, they are negotiated “as a
package with a single commercial objective.”
► The amount of consideration in one contract depends on the price or performance in the other contract.
► The goods or services identified in the contracts are a single performance obligation.
Identify the contract(s) with the customerStep 1:
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► Contract modifications: ► A contract modification should be accounted for as a separate contract if additional
distinct goods or services are promised and the price increases by the standalone selling price of these additional goods or services.
► If a contract modification does not meet the criteria to be accounted for as a separate contract, then the remaining goods or services to be transferred should be accounted for in one of the following manners: ► If the remaining goods or services to be transferred are distinct from those previously
delivered, then the contract modification should be handled as a termination of an existing contract and the origination of a new contract.
► If the remaining goods or services are not distinct, then the contract modification should be accounted for as part of the existing contract.
► If the remaining goods or services are combination of both of the above, then the accounting for the contract modification should be consistent with that guidance.
Identify the contract(s) with the customerStep 1:
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A performance obligation is defined as a contractual promise with a customer to transfer a service or good to the customer. ► Each separate performance obligation must be identified by the
entity by evaluating the goods or services promised in the contract and determining which of these (or which bundles of goods and services) is distinct.
► If goods or services are not distinct, then they should be bundled together and considered as one performance obligation.
Identify the separate performance obligationsStep 2:
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► A good or service is considered distinct if it meets the following criteria per ASC 606-10-25-19: ► The customer can benefit from the good or service either on a stand-alone
basis or along with another resource that is readily available to the customer (capable of being distinct).
► The entity’s promise to transfer the good or service is separately identifiable from other promises in the contract (distinct within the context of the contract).
Identify the separate performance obligationsStep 2:
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► Factors that indicate goods/services are not distinct include the following: ► The goods or services are highly interrelated and the entity must provide a
significant service to integrate the goods or services into the combined item(s) for the customer
► The goods or services are significantly modified or customized in order to fulfill the contract.
Identify the separate performance obligationsStep 2:
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Determination of separate performance obligations Example 1
An entity licenses customer relationship management software to a customer. In addition, the entity promises to provide consulting services to significantly customize the software to the customer’s information technology environment for total consideration of $600,000.
► Are the software and consulting services one performance obligation or two?
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See guidance in ASC 606-10-25-19.
The entity is providing a significant service of integrating the goods and services (the license and the consulting services) into the combined item for which the customer has contracted. The software is significantly customized by the entity in accordance with the specifications negotiated with the customer. Thus, the goods and services are not distinct as the criterion that the customer can benefit from the customer management software on a stand-alone basis has not been met. Therefore, the entity would account for the license and consulting services together as one performance obligation.
Determination of separate performance obligations Example 1 solution
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The transaction price is the amount that the entity expects to be entitled to as a result of transferring goods or services to the customer. In determining the transaction price, there are several things to consider, including: ► Variable consideration ► The time value of money ► Noncash considerations ► Considerations payable to a customer
Determine the transaction priceStep 3:
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► Contract consideration could be variable due to the existence of discounts, incentives, refunds, rebates, contingencies, price concessions, etc.
► If the consideration specified in the contract is variable and it is probable that a significant revenue reversal will not occur, then the entity should include an estimate of the variable consideration to which the entity will be entitled in order to determine the transaction price.
Determine the transaction price – variable consideration
Step 3:
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► The entity may use one of two estimation methods as described below based on the guidance in ASC 606-10-32-8. The chosen method should be applied consistently throughout the contract. ► The expected value method: the estimate is measured as “the sum of the
probability-weighted amounts in a range of possible consideration amounts.” This method may be most appropriate when there are a large number of similar contracts.
► The most likely amount method: the estimate is measured as “the single most likely amount in a range of possible consideration amounts.” This method may be most appropriate when there are only two possible outcomes (e.g., either a bonus is received or not received)
Determine the transaction price – variable consideration
Step 3:
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Variable consideration Example 2
Catherine’s Costumes sells 1,000 Halloween costumes to a wholesaler for total consideration of $20 per costume. The contract provides the customer with the right to return all unsold costumes after Halloween. Due to its extensive experience in this industry, Catherine’s Costumes can reliably provide the following range of probability of returns based on this sales volume.
► What is the estimated transaction price for the contract if Catherine’s Costumes uses the expected value method?
► The most likely amount method?
Costumes returned Probability 50 40% 75 45% 100 15%
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See guidance in ASC 606-10-32-8.
Expected value method: the estimated contract price is measured using the sum of the probability-weighted amounts in the range of possible consideration amounts. Therefore, the calculation is as follows: Estimated contract price= (950 x 40% x $20) + (925 x 45% x $20) + (900 x 15% x $20)
= $7,600 + $8,325 + $2,700
= $18,625
Most likely amount method: based on the highest probability of 45% for 75 costumes being returned, this would be considered the most likely amount. Therefore, Catherine’s Costumes will calculate using 925 costumes multiplied by $20 per costume for a total estimated contract price of $18,500.
Variable consideration Example 2 solution
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► If the time between (1) when the entity provides the goods or services and (2) the customer makes the payment for these goods or services is more than one year, the entity may need to adjust the amount of the consideration to reflect the time value of money. When adjusting for a financing component, the discount rate should be based on the credit characteristics of the party receiving the financing at the inception of the contract.
► Per ASC 660-10-32-16, if the contract has a financing component that is significant to the contract, then the entity should only recognize revenue at an amount that reflects what the cash selling price would be at the point that the goods or services were transferred. The impact on net income of this financing component should be presented separately on the statement of comprehensive income as interest income or expense.
Determine the transaction price – the time value of money
Step 3:
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The following factors should be considered by the entity when determining whether the financing component is significant: ► The expected length of time between payment and transfer of the goods or
services ► Whether the amount of consideration would differ substantially if the customer
paid cash promptly in accordance with typical credit terms in the industry ► The differences between the interest rate in the contract and the prevailing
interest rates in the market
Determine the transaction price – the time value of money
Step 3:
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The time value of money Example 3
► Madison Wholesalers (MW) enters into a contract with a customer to sell a product for $200,000. The product will be delivered in two years, but the customer pays for it today. MW is effectively the party receiving the financing. Based on MW’s credit characteristics, its interest rate is 5% annually.
► Would you assess that the financing component of the contract is significant? Explain.
► What are the journal entries that Madison Wholesalers will record over the two-year period?
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See guidance in ASC 606-10-32-16.
Is the financing component significant to the contract? In evaluating whether the financing component is significant, one could argue that a two-year period of time between the payment and the transfer of the goods is significant. One could also argue that the amount of consideration would differ significantly based on Madison Wholesaler’s interest rate of 5%. Therefore, given the significance of the financing component, this should be recognized in the revenue amount.
The time value of money Example 3 solution
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What are the journal entries that Madison Wholesalers will record over the two-year period? At the date that Madison Wholesalers receives the cash, Madison Wholesalers should make the following entry: Cash $200,000
Deferred revenue $200,000
During the two-year period, Madison Wholesalers will recognize interest expense of $20,500 (200,000 x (1.052-1)). Interest expense $20,500
Deferred revenue $20,500
When the product is transferred in two years, Madison Wholesalers will recognize revenue based on the balance of the deferred revenue account. Deferred revenue $220,500
Revenue $220,500
The time value of money Example 3 solution (continued)
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► Per ASC 660-10-32-21, if the consideration that the entity receives is noncash, the transaction price is measured as the fair value of the noncash consideration at the contract’s inception.
► Per ASC 660-10-32-22, if the fair value of the noncash consideration cannot be reliably measured, then the transaction price is measured as the standalone selling price of the goods or services promised to the customer in the contract.
Determine the transaction price – noncash consideration
Step 3:
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Noncash consideration Example 4
ABC Computing provides computer installation services to a customer. The standalone value of these services is $4,300. In exchange, the customer gave ABC Computing several used computers. These used computers have a fair value of $4,500.
► What is the journal entry that ABC Computing will make to record the sale? ► What would the journal entry be if the fair value of the used computers was not
available?
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See guidance in ASC 606-10-32-21 and 22.
What is the journal entry that ABC Computing will make to record the sale?
ABC Computing will record the transaction price as the fair value of the noncash consideration received.
Computer inventory $4,500
Service revenue $4,500
What would the journal entry be if the fair value of the used computers was not available?
If the fair value of the computers is not available, ABC Computing will record the transaction at the standalone selling price of the services.
Computer inventory $4,300
Service revenue $4,300
Noncash consideration Example 4 solution
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► If an entity expects to pay a customer an amount in the form of cash, “… credit or other items (for example, a coupon or voucher) that can be applied against amounts owed to the entity …,” this is referred to as a consideration payable.
► Consideration payable to a customer should be treated as a reduction of the transaction price unless the payment is in exchange for a distinct service or good.
Determine the transaction price – consideration payable (ASC 606-10-32-25)
Step 3:
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Consideration payable Example 5
MMR Wholesalers sells 500 machine-embroidered tote bags to a customer for $25 per bag in the first quarter of the year. MMR Wholesalers has a contract with the customer that if they purchase more than 3,000 tote bags during the year, they will receive a retroactive, $5-per-bag discount. In the first quarter, MMR Wholesalers does not anticipate that the customer will earn the volume discount. However, during the second quarter, the customer purchases 3,000 bags ► What is the amount of revenue that MMR
Wholesalers will record in the first quarter? The second quarter?
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See guidance in ASC 606-10-32-25.
What is the amount of revenue that MMR Wholesalers will record in the first quarter?
MMR Wholesalers records the transaction price of $25 per bag in the first quarter because it does not anticipate that the customer will earn the discount. Consequently, MMR Wholesalers will record total revenue of $12,500 in the first quarter (500 bags x $25 per bag).
What is the amount of revenue that MMR Wholesalers will record in the second quarter?
As the customer has earned the volume discount, MMR Wholesalers will report revenue of $57,500. This amount is calculated as follows:
Consideration payable Example 5 solution
Amount Calculation $60,000 3,000 bags sold in second quarter x $20 ($25 per bag less $5-per-bag volume discount)
(2,500) 500 bags sold in first quarter x $5-per-bag volume discount $57,500 Revenue to recognize
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► If the contract has multiple performance obligations, then the transaction price should be allocated across the performance obligations.
► The entity first determines the standalone selling price of each good or service underlying each performance obligation at the inception of the contract.
► Per ASC 606-10-32-31, the standalone selling price is the amount that the seller would charge if it were to sell the good or service separately.
► The best way to determine the standalone selling price is to use the price the seller would actually charge when it sells the same good or service to similar customers under similar circumstance.
Allocate the transaction price to the separate performance obligations in the contract
Step 4:
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Allocation of the transaction price Example 6
LEDD Company enters into a contract with a customer to sell three products for a total transaction price of $50,000. Each product is appropriately classified as a separate performance obligation. LEDD Company typically sells these three products on a standalone basis for the following prices:
► How should LEDD Company allocate the transaction price to the three products?
Product Standalone selling price A $10,000 B 22,000 C 20,000
Total $52,000
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See guidance in ASC 606-10-32-31.
LEDD Company should allocate the $50,000 transaction price based on the products’ relative, standalone selling prices as follows:
Allocation of the transaction price Example 6 solution
Product Standalone selling price Percentage Allocated transaction price A $10,000 19.2% $ 9,600 B 22,000 42.3% 21,150 C 20,000 38.5% 19,250
Total $52,000 100.0% $50,000
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► Per ASC 606-10-32-34, if the seller cannot directly observe a standalone selling price, the seller must estimate a standalone selling price. (Note: vendor-specific objective evidence is not required.)
► The following methods are suitable: ► Adjusted market assessment approach: the entity estimates the price that customers in the
market in which it sells the goods or services would be willing to pay. This approach might include referring to prices charged by competitors.
► Expected cost plus a margin approach: the entity forecasts the costs associated with providing the good or service and adds an appropriate margin.
► Residual approach: the entity estimates the standalone selling price by subtracting the standalone selling prices of the goods or services that underlie the other performance obligations from the total transaction price. (Note: this method can only be utilized when the same good or service is sold to different customers and the standalone selling price is highly variable or when the good or service has not been previously sold.)
Allocate the transaction price to the separate performance obligations in the contract
Step 4:
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► If the sum of the standalone selling prices is greater than the transaction price, then the entity typically should allocate the discount to the separate performance obligations on a relative, standalone-selling-price basis. There are exceptions to this rule under which a discount may not be allocated to all performance obligations if certain criteria are met. The details of which are not covered in this lecture material.
► If the transaction price includes an amount that is contingent on a future event or circumstance, it generally should be allocated to the separate performance obligations.
Allocate the transaction price to the separate performance obligations in the contract
Step 4:
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Estimation of standalone selling price Example 7 Hammond Industries enters into a contract with a customer to sell three products for a total transaction price of $430,000. Each product is appropriately classified as a separate performance obligation. Hammond Industries sells products A and B on an individual basis. Product C is a new product that has not been previously sold. Hammond Industries must estimate the allocated standalone selling prices. Information related to these three products is provided in the following table.
► How should Hammond Industries allocate the transaction price to the three products using the adjusted market assessment approach? The cost plus margin approach? The residual approach?
Product Standalone selling price Market competitor prices Forecasted cost A $100,000 $ 99,000 $ 79,000 B 250,000 255,000 200,000 C Not available 85,000 65,000
Total $439,000 $344,000
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See guidance in ASC 606-10-32-34. Adjusted market assessment approach: Hammond Industries should allocate on a relative basis as follows:
Estimation of standalone selling price Example 7 solution
Product Market competitor prices Percentage of total Allocated transaction price A $ 99,000 22.55% $ 96,965 B 255,000 58.09% 249,787 C 85,000 19.36% 83,248
Total $439,000 100.00% $430,000
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Expected cost plus margin approach Given a total cost of $344,000 and a total transaction price of $430,000, an appropriate margin would be 25% ($430,000/$344,000). Thus, to get the allocated transaction price for each product, we multiply the forecasted cost of each product by 1.25.
:
Estimation of standalone selling price Example 7 solution (continued)
Product Forecasted cost Allocated transaction price A $ 79,000 $ 98,750 B 200,000 250,000 C 65,000 81,250
Total $344,000 $430,000
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Residual approach Using the residual approach, the standalone selling prices that are available for products A and B are reduced from the total transaction price to arrive at the standalone selling price for product C, which is $80,000.
Estimation of standalone selling price Example 7 solution (continued)
Product Standalone selling price A $430,000 B (100,000) C (250,000)
Total $ 80,000
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► The entity should recognize as revenue the amount of the transaction price allocated to a performance obligation when it satisfies that performance obligation by transferring a good or service to a customer.
► Transfer occurs when the customer obtains control of the asset. ► ASC 606-10-25-25 defines control as “the ability to direct the use of and
obtain substantially all of the remaining benefits from the asset.”
Recognize revenue when (or as) each performance obligation is satisfied
Step 5:
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Performance obligations may be satisfied at a point in time or over time. ► At a point in time: per ASC 660-10-25-30, if satisfied at a point in
time, then revenue is recognized when control is transferred. Some indications of change in control are as follows: ► The seller has a present right to payment. ► The customer has a legal title to the asset. ► The seller has transferred physical possession of the asset to the customer. ► The customer has significant risks and rewards of ownership of the asset. ► The customer has accepted the asset.
Step 5: Recognize revenue when (or as) each performance obligation is satisfied
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Recognition at a point in time Example 8
Kentucky Associates enters into a contract to sell a product to a customer. The product is shipped free on board shipping point.
► Should Kentucky Associates recognize revenue when the product is shipped or received by their customer?
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Recognition at a point in time Example 8 solution
See the guidance in ASC 606-10-25-30.
Kentucky Associates can recognize revenue when the product is shipped because the customer obtains control of the product when it is shipped. Although the customer doesn’t have physical possession of the product when it is shipped, it has legal title and the risks and rewards of ownership.
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Over time, per ASC 606-10-25-27: ► An entity “satisfies a performance obligation and recognizes
revenue over time if one of the following criteria is met”: ► The customer is receiving and consuming the benefits of the seller’s performance
as the seller performs. ► The seller creates or enhances an asset that the customer controls as it is created
or enhanced. ► The asset created by the seller does not have an alternative use and the seller
has a right to payment for performance completed to date.
Step 5: Recognize revenue when (or as) each performance obligation is satisfied
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► If a performance obligation is satisfied over time, then revenue should be recognized in accordance with the progress toward completion of the performance obligation, if the entity can reasonably measure its progress toward completing the obligation. In measuring progress, either input or output methods may be used. The method an entity chooses should best depict the entity’s transfer of control of promised goods or services. Additionally, this method should be used for all similar performance obligations and in similar circumstances.
► Input method: per ASC 606-10-55-20, revenue is recognized based on the seller’s efforts or inputs toward completion of the performance obligation.
► Output method: per ASC 606-10-55-17, revenue is recognized based on the value (to the customer) of the goods or services that have been transferred.
► If an entity cannot reasonably measure its progress toward completion of its performance obligation and it expects to recoup its cost, the entity can recognize revenue to the extent of incurred costs.
Step 5: Recognize revenue when (or as) each performance obligation is satisfied
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Recognition over a period of time Example 9
The Paving Job Giant Company (PJG) has extensive experience in the road construction business. PJG has an excellent track record in estimating costs of projects and is a very efficient construction company. PJG has entered into a two-year contract to build a 25-mile toll road for $50 million. The toll road is adjacent to an old gravel road. The toll road operator plans on opening the toll road in five-mile sections as the paving is completed. PJG estimates this project will require $30 million of road construction material and 400,000 construction hours at an average cost of $25 per hour. At the end of year one, 10 miles of toll road have been turned over and are in use by the toll road operator. Some work has also been done on the next section of the road. Road material costs of $15 million and 200,000 construction hours have been incurred. ► What revenue should PJG record for this performance obligation at the end of year one using
the input method? The output method?
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Recognition over a period of time Example 9 solution
Input method: ASC 606-10-55-20 indicates revenue using the input method should be based on the seller’s efforts to satisfy its performance obligation. PJG has incurred 50% of the road material costs ($15 million/$30 million) and 50% of the construction hours (200,000 hours/400,000 hours). Therefore, $25 million should be recognized as revenue at the end of year one, calculated as 50% of the $50 million.
Output method: ASC 606-10-55-17 indicates revenue using the output method should be based on the value of the goods transferred to the customer. PJG has completed 10 miles of road and turned them over to the toll road operator. The remaining 15 miles are not currently available to the toll road operator. Therefore, $20 million should be recognized as revenue at the end of year one, calculated as 40% (10 miles/25 miles) of the $50 million.
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Incremental costs of obtaining a contract
The incremental costs of obtaining a contract, such as a sales commission, should be recorded as an asset, if the entity expects to recover those costs. As a practical expedient, these incremental costs can be expensed if the amortization period would be one year or less. Generally, costs that would have been incurred whether or not the contract was obtained should be expensed when incurred.
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Costs of fulfilling a contract
An entity should record an asset for the cost to fulfill a contract only if all the following criteria are met: ► The costs relate directly to a contract or an anticipated contract. ► The costs relate to resources the entity will used to satisfy performance
obligations in the future. ► The costs are expected to be recovered.
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► The key principle is to help users of financial statements understand the amount, timing and uncertainty of revenue and cash flows arising from contracts with customers.
► There are three broad disclosure requirements that will present both qualitative and quantitative information about: ► Contracts with customers ► Significant judgments and changes in judgments made in applying the guidance to those
contracts. ► Assets recognized from costs to obtain or fulfill a contract.
► There are more disclosure requirements for public companies than for nonpublic companies.
► There is some divergence between US GAAP and IFRS as it relates to interim disclosure requirements.
Disclosures
Overview: revenue recognition steps per ASC 606
Identify the contract(s) with a customer A contract is an agreement between two or more parties that creates enforceable rights and obligations.
Contract criteria: ► The contract must be approved by all
parties to the contract and they must be committed to perform their obligations.
► Each party’s rights regarding the goods and services to be transferred must be identifiable.
► The payment terms must be identifiable. ► The contract must have commercial
substance. ► It must be probable that a vendor will
collect the consideration to which it is entitled in exchange for the goods or services expected to be delivered.
Identify the separate performance obligations A performance obligation is defined as a contractual promise with a customer to transfer a service or good to the customer. Good or service is distinct if both criteria are met: ► The customer can benefit from the
good or service either on a stand- alone basis or along with resources that are readily available to the customer (capable of being distinct).
► The entity’s promise to transfer the good or service is separately identifiable from other promises in the contract (distinct within the context of the contract).
Determine the transaction price The transaction price is the amount that the entity expects to be entitled to as a result of transferring goods or services to the customer. Several considerations:
► Variable consideration: contract consideration could be variable due to the existence of discounts, incentives, refunds, rebates, contingencies, price concessions, etc.
► Time value of money: may need to adjust the amount of consideration for the time value of money if the time between (1) when the entity provides the goods or services and (2) the customer makes the payment for these goods or services is more than one year.
► Noncash consideration ► Consideration payable: if an entity
expects to pay a customer an amount in the form of cash, credit or other that can be applied to amounts owed to the entity.
Allocate the transaction price to the separate performance obligations ► If the contract has multiple
performance obligations, then the transaction price should be allocated across the performance obligations
► Allocate based on standalone selling price
► If the standalone selling price is not available, estimate the standalone selling price.
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Recognize revenue when (or as) the entity satisfies a performance obligation Transfer occurs when the customer obtains control of the asset. At a point in time: ► Seller has a present right to payment. ► Customer has legal title to the asset. ► Seller has transferred physical possession
of the asset to the customer. ► Customer has significant risks and
rewards of ownership. ► Customer has accepted the asset.
Over time : ► Customer receiving/consuming benefits as
the seller performs. ► Seller creates/enhances asset that the
customer controls as it is created/ enhanced.
► Asset has no alternative use and the seller has a right to payment for performance completed to date.
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Principle: an entity should recognize revenue in an amount that reflects the consideration that the entity expects to be entitled to in exchange for goods or services.
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