[SOLVED] AASB 15: Revenue from Contracts with Customers

Financial Accounting A
Topic 7: Revenue
These notes only summarise key points Textbook reading is essential
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Text Readings:
H&P Chapters:
Ch 15 pp 566-584; 590-591
Other Readings:
AASB 15: Revenue from Contracts with Customers
Shocking tale of Big Uns two accounts show alternative reality
AFR, 03/08/2018
Many lag on revenue recognition rules AFR, 20/06/2018
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Learning objectives
1. Describe the importance of accounting for revenue (LO 15.1 pp 566-569).
2. Describe the objective, core principle and scope of AASB 15
Revenue from Contracts with Customers (LO 15.2 pp 569-570).
3. Describe and apply the five-step model for revenue recognition in AASB 15 (LO 15.3 pp 570-584).
a) Variations on Step 1 of five step model (LO 15.3 pp 572- 573).
b) Variation on Step 3 of five step model (LO 15.3 pp 576- 578).
4. Describe the objective of the disclosure requirements in AASB 15 (LO 15.5 pp 590-591).
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Objective 1
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Describe the importance of accounting for revenue
(LO 15.1 pp 566-569)

Importance of accounting for revenue
1. Revenue: important measure of company performance.
Useful for users to understand sources of profitability.
Total revenues seen a measure of a companys size (top line).
2. Nature and recognition of revenue became controversial.
Revenue recognition influences timing of reported profits, ie affects the financial year in which revenue is included.
Rising concerns about abusive accounting practices (see Accounting in Focus, p.566).
Accounting standards for various types of revenue applied different revenue recognition points based on an earnings cycle (see Figure 15.1, p.568) and income statement approach.
Different industries adopted different points in the cycle for revenue recognition. Lack of comparability.
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Importance of accounting for revenue
3. With AASB 15 Revenue from Contracts with Customers, IASB has attempted a conceptual approach to revenue recognition, drawing on Framework.
Framework links revenue with movements in assets & liabilities.
Income: increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims (para 4.68).
This suggests income depends on changes in assets and liabilities. Known as the Balance Sheet approach.
Standard setters applying this to revenue recognition.
This new approach to revenue recognition is a significant change.
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Importance of accounting for revenue
A practitioners perspective
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Objective 2
Describe the objective, core principle and scope of AASB 15 Revenue from Contracts with Customers
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(LO 15.2 pp 569-570)

Objective of AASB 15
To establish the 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 (para 1).
Revenue: income arising in the course of an entitys ordinary activities (see AASB 15 Appendix A for other definitions).
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Core principle of AASB 15
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 (para 2).
This requires analysis of the terms and conditions of each contract (or group of transactions with similar characteristics) (see AASB15, para 4).
Refer to Shocking tale of Big Uns two accounts show alternative reality reading
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Scope of AASB 15
Aim:toachieveasinglerevenuerecognitionframework.
AASB15appliestoallcontractswithcustomers,withsome
exceptions (para 5). For example, AASB 15 does not apply to:
LeasecontractscoveredbyAASB16Leases,formerlyAASB117 (Topic 5).
Financial instruments and other contractual rights or obligations that are addressed by AASB 9 Financial Instruments (Topics 9 and 10).
AASB15adoptsatransferofcontrolapproachtorevenue recognition (para 31), using a five step model:
Revenuerecognisedwhencontrolofgoodsorservicesis
transferred to the customer (para 31, see also paras 32-33).
Refer to Many lag on revenue recognition rules reading
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Objective 3
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Describe and apply the five-step model for revenue recognition in
AASB 15 Revenue from Contracts with Customers (LO 15.3 pp 570-584)

Five step model for revenue recognition
Identify the contract(s)
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Identify performance obligations
Determine the transaction price
Allocate the transaction price
Recognise revenue
Para 31, 46
Step 1: Identify the contract
What is a contract?
An agreement between two or more parties that creates enforceable rights & obligations (App A).
A contract exists if all five of the following conditions are met (para 9):
a) Parties to the contract have approved it (either orally or in writing) and are committed to performing their obligations;
b) Each partys rights for the goods or services to be transferred can be identified;
c) Payment terms can be identified;
d) Contracthascommercialsubstance;and
e) It is probable consideration will be collected when it is due.
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Step 1: Identify the contract
Refer to Example 15.4 H&P page 584
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Step 2: Identify the performance obligations
At contract inception, an entity shall assess the goods or services promised in a contract with a customer and shall identify as a performance obligation each promise to transfer to the customer either (para 22):
a) A good or service (or a bundle of goods or services) that is distinct; or
b) A series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer.
(App A contains same definition of performance obligation.) Examples:
A bookshop selling a book (one performance obligation).
A company selling photocopiers: contract includes transfer of the
machine + provision of consumables over time + provision of maintenance services (multiple performance obligations).
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Step 2: Identify the performance obligations
Distinct goods and services will need to be accounted for separately.
Goods or services are distinct if (para 27):
Customercanbenefitfromthemontheirownorin
combination with other readily available resources; and
They are separately identifiable from other promises.
(See p.574 (also para 26) for examples of distinct goods and
services).
Examples of when goods or services are not distinct include when they are (p.574, and para 29):
input for other goods or service transferred;
significantly modified by another good or service;
highly dependent upon another good or service.
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Step 2: Identify the performance obligations
If goods or services are not distinct, combine them with others until a bundle of goods or services is identified that is distinct (para 30).
Refer to Example 15.2 H&P page 575
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Step 2: Identify the performance obligations
Road Runnerz Ltd sells motor vehicles and it sells roadside assistance services.
In some cases, it sells motor vehicles with one year of roadside assistance.
Identify how many distinct performance obligations are involved in this contract (see para 27 (a) and (b)). Explain your answer.
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Step 3: Determine the transaction price
An entity shall consider the terms of the contract and its customary business practices to determine the transaction price (para 47). Transaction price is not necessarily the list price in the contract. Price may include fixed amounts, variable amounts or both.
Transaction price:
The amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties (para 47).
Transaction price is often readily determined because entity receives payment.
For example, sale of goods in a retail store. The University of 20

Step 3: Determine the transaction price
Determining expected transaction price more challenging when it involves:
Variable consideration (paras 50-53) (Examples: discounts, rebates, incentives);
Constraints on variable consideration (paras. 56-58) (example: price contingent on future event);
Significantfinancingcomponent(paras60-65)(example:when payment is deferred for more than 12 months);
Non-cash consideration (paras 66-69) (example payments in shares);
Consideration payable to the customer (paras 70-72).
NB: In ACCT2011you are expected to be able to do exercises with variable consideration (first item above) and significant financing component (third item above). Detailed application of the remaining examples is not expected.
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Step 3: Determine the transaction price
Refer to Example 15.3 H&P pages 578-579
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Step 4: Allocate transaction price
Whenacontractcontainsmultipleperformanceobligations, transaction price is allocated across each obligation.
Theobjectivewhenallocatingthetransactionpriceistoallocate the transaction price to each performance obligation (or distinct good or service) in an amount that depicts the amount of consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services to the customer (para 73).
Allocationwouldgenerallybedoneonthebasisofrelativestand alone selling prices for promised goods or services at the inception of the contract (paras 7480).
Whenstandalonepricesarenotobservable,estimateconsistently with objective of para 73. Possible methods identified in para 79.
NB. Detailed knowledge of estimates in absence of stand alone or relative stand alone
prices is not expected in ACCT2011. The University of 23
Step 4: Allocate transaction price
Example 2 Think back to Road Runnerz Ltds sale of motor vehicles with one year of roadside assistance.
Standalone prices:
Motor vehicle $40,000
Roadside assistance for one year $5,000
Total $45,000
If Road Runnerz Ltd charged $45,000, then allocate the standalone prices for each.
But what if Road Runnerz Ltd charged $40,000 for the package? This is common with packaged arrangements.
Relative stand alone prices implies proportionate allocation of transaction price (see paras 73, 76).
see example in Ch 15, p.580 for proportionate allocation of the $40,000.
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Step 5: Recognise revenue
Revenue is recognised when the performance obligation is satisfied and the goods or services are transferred to and controlled by the customer (para 31).
Goods and services are controlled when the customer can determine how to use it and can enjoy future economic benefits (para 33, also para 38 for indicators of control).
In the Road Runnerz example, one performance obligation is satisfied at a point in time (when the car is transferred to the customer); the other is satisfied over time (in this case, over the following year).
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Step 5: Recognise revenue
Performance obligations are satisfied over time if any one of three tests is met. Para 35 identifies the three tests but for ACCT 2011, we will look at only the most common of those three tests:
The customer simultaneously receives and uses the benefits as they are provided by the entity (para 35).
3 and B4 provide further guidance on this test:
A key example is a routine or recurring service (such as a
cleaning service) (B3).
At end of each reporting period, remeasure progress towards complete satisfaction of performance obligation (para 40).
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Step 5: Recognise revenue
Measuring progress towards complete satisfaction
Aim:todepictentitysperformanceintransferringcontrolof goods or services promised to a customer (para 39).
Must use consistently a single method to measure progress (para 40). Choice should reflect the nature of the goods or services.
Twomethodsformeasuringprogress(paras41-43).
Output method (measure of value to the customer of goods or services
transferred to and controlled by customer (para B15)); or
Input method (measure of the entitys efforts or inputs to satisfy the
performance obligation, such as costs of labour hours or costs incurred (para B18)).
Thedifferencebetweenthesetwomethodsaffectstheamount and timing of revenue recognised.
NB: We will apply only the output method in ACCT 2011
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Step 5: Recognise revenue
Consider the Road Runnerz example, in which $4,445 of revenue has been allocated to the service contract and $35,555 to the vehicle.
(1) What would be the journal entry to recognise revenue when the package is sold?
(2) Using the output method to reflect the amount of services for which control has been transferred to the customer, how much revenue would have been allocated for the service six months after commencement of the contract?
A) $4,445?; B) $2,223? C) $0
(3) And what would be the journal entry (if any) to recognise that?
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Step 5: Recognise revenue
Revenuecanberecognisedonlywhentheentitycanreasonably measure its progress towards complete satisfaction of the performance obligation (para 44).
Whenanentityisnotyetabletomeasureprogressbutexpectsto recover its costs incurred, then it can recognise revenue only to the extent of costs incurred (para 45).
Ascircumstanceschange,themeasureofprogresswouldchangeto reflect the change in the outcome of the performance obligation. Such a change shall be accounted for as a change in accounting estimates (para 43).
You have covered the accounting standard that applies when there are changes in accounting estimates. What is that accounting standard?
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Five step model comprehensive example
Refer to Example 15.4 H&P page 584
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Five step model comprehensive example
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Objective 3a
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Variations on Step 1: Identify the contract
Variation 1: Combination of contracts
Variation 2: Contract modifications
(LO 15.3 pp 572-573)

Variation 1: Combination of contracts
Combination of contracts (para 17). For multiple contracts with same customer:
An entity shall combine two or more contracts entered into at or near the same time with the same customer (or related parties of the customer) and account for the contracts as a single contract if one or more of the following criteria are met:
a) The contracts are negotiated as a package with a single commercial objective;
b) The amount of consideration to be paid in one contract depends on the price or performance of the other contract; or
c) Thegoodsorservicespromisedinthecontracts(orsomegoodsor services promised in each of the contracts) are a single performance obligation (see definition in Appendix A).
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Variation 1: Combination of contracts
The criteria set out in para 17 suggest the contracts are so inter-related their economic substance cannot be understood unless they are combined.
On 1 July 2017, Software Limited entered into a contract with Stadium Limited that provided a licence to Stadium Limited to use its ticketing software.
On 4 July 2017, in a separate contract, Software Limited agreed to provide consulting services that would significantly customise the software to suit the needs of Stadium Limited.
Discussion:
The two contracts are so inter-related they would be accounted for as a single contract.
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Variation 2: Contract modifications
After contract inception, parties to the contract may change the contracts scope and/or price (modify the contract). Contract modifications exist when parties have approved the changes (para 18).
Depending on the nature of the changes, the modifications will be treated either as a separate contract, or as part of the existing contract.
Modifications are treated as a separate contract when: a) Scope of the contract increases because of additional
goods or services that are distinct; and
b) Contract price is increased by the amount of the entitys stand alone selling price of the additional goods (para 20).
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Variation 2: Contract modifications
On 1 July 2017, Kitchenwhiz Wholesalers Ltd entered a contract with BigChef Ltd to sell 240 identical kitchenwhizzers for $240,000 ($1,000 per machine). These are to be transferred to BigChef Ltd over a six month period.
By 31 August 2017, 150 kitchenwhizzers had been transferred to BigChef Ltd. On that date, the contract is modified to include an additional 80 kitchenwhizzers (a total of 320 identical kitchenwhizzers). The price for the additional 80 kitchenwhizzers is $70,400 ($880 per kitchenwhizzer). The price for the additional kitchenwhizzers reflects their standalone price at 31 August.
Should Kitchenwhiz Wholesalers Ltd treat the contract modification as a separate contract or as part of the existing contract?
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Refer Example 15.1 H&P page 573

Variation 2: Contract modifications
A contract modification is treated as part of the existing contract if the modification does not satisfy the para 20 criteria for treatment as a separate contract (para 21).
If the BigChef contract were subsequently modified to a total of only 160 kitchenwhizzers for the year (instead of 240).
If the additional 80 kitchenwhizzers agreed on 31 August to be sold to BigChef were priced at $500 when their standalone price at that time is $880. The $500 price is reduced to compensate BigChef for faults in the 150 kitchenwhizzers it had already bought.
Should Kitchenwhiz Wholesalers Ltd treat the contract modification as a separate contract or as part of the existing contract?
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Objective 3b
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Variation on Step 3: Determine the transaction price
Significant financing component
(LO 15.3 pp 576-578)

Variation 1: Significant financing component
Some contracts contain a financing component that might be beneficial to either the entity or its customer.
Adopted from KPMG Revenue Issues In-Depth page 81
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Variation 1: Significant financing component
If the timing of payments agreed to by the parties to the contract provides the customer or the entity with a significant benefit of financing, transaction price is split into separate amounts for the goods or services and interest (para 60).
To determine if significant financing benefit exists consider:
1. Difference between total consideration (including provision
of interest) and cash selling price.
2. Time between transfer of goods and services and later payment.
3. Interest rate in relevant markets (para 62).
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Variation 1: Significant financing component
Revenue for sale of goods or services is the cash selling price the customer would have paid (para 61).
Interest is recognised separately for consideration paid

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