Revenue is defined as income arising during an entity’s ordinary activities.

Income is defined as increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that increase equity, other than those relating to contributions from equity participants.

What is the distinction between revenue and income? Income is a comprehensive term encompassing revenue and gains, covering all advantages such as asset enhancements or liability settlements, except for contributions from equity participants. Revenue, a component of income, emerges from the sale of goods or services within an entity’s core ongoing activities, often referred to as its ordinary operations. Transactions outside these ordinary activities don’t qualify as revenue; for instance, gains from selling an entity’s property, plant, or equipment are excluded. Distinguishing revenue from other forms of income can be complex, contingent upon the particular circumstances of each transaction. Activity A car dealership maintains a fleet of demonstration cars for potential customers to test drive. These cars are utilized for over a year before being sold as used vehicles. The dealership operates in both new and used car sales. Question Is the sale of a demonstration car accounted for as revenue or as a gain? Answer The car dealership is in the business of selling new and used cars. The sale of demonstration cars is therefore revenue, since selling used cars is part of the dealership’s ordinary activities.

Definitions

IFRS 15 provides the following definitions for terms used in the Standard.

• A contract is defined as “an agreement between two or more parties that creates enforceable rights and obligations”.
• A contract asset is defined as “an entity’s right to consideration in exchange for goods or services that the entity has transferred to a customer when that right is conditioned on something other than the passage of time (for example, the entity’s future performance)”.
• A contract liability is defined as “an entity’s obligation to transfer goods or services to a customer for which the entity has received consideration (or the amount is due) from the customer”.
• A customer is defined as “a party that has contracted with an entity to obtain goods or services that are an output of the entity’s ordinary activities in exchange for consideration”.
• Income is defined as “increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that increase equity, other than those relating to contributions from equity participants”.
• A performance obligation is defined as “a promise in a contract with a customer to transfer to the customer either:

(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”.

• Revenue is defined as “income arising in the course of an entity’s ordinary activities”.
• The stand-alone selling price of a good or service is defined as “the price at which an entity would sell a promised good or service separately to a customer”.
• The transaction price for a contract with a customer is defined as “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”.

Scope

The initial step in implementing the revenue standard involves determining the presence of a contract with a customer that falls within the standard’s scope

The unit of account is an individual contract with a customer. A portfolio approach could be used as a practical expedient so that an entity might apply the standard to a portfolio of contracts (or performance obligations). A portfolio approach might be acceptable if an entity reasonably expects that the effect of applying a portfolio approach to a group of contracts or a group of performance obligations would not differ materially from considering each contract or performance obligation separately. An entity should use estimates and assumptions that reflect the size and composition of the portfolio when using a portfolio approach. Determining when the use of a portfolio approach is appropriate will require judgment and consideration of all of the facts.

There are no industries completely excluded from the scope of the revenue standard. However, the revenue standard specifically excludes from its scope certain types of transactions:

• Leases in the scope of IAS 17 / IFRS 16.

• Insurance contracts in the scope of IFRS 4.
• Financial instruments and other contractual rights or obligations in the scope of IAS 39 / IFRS 9, IFRS 10, IFRS 11, IAS 27, and IAS 28.

• Non-monetary exchanges between entities in the same line of business to facilitate sales to current or future customers.

Evaluation of non-monetary exchanges Determining whether certain non-monetary exchanges are in the scope of the revenue standard could require judgement and depends on the facts of the arrangement. Activity Entity A operates as a road salt supplier. Fluctuations in demand due to adverse weather conditions can sometimes exceed Entity A’s available supply, prompting shortages on short notice. To mitigate this risk, Entity A engages in a reciprocal agreement with a road salt supplier in a different region. Under this arrangement, each party agrees to supply road salt to the other during local adverse weather events, as occurrences affecting one region seldom impact the other simultaneously. No additional considerations are exchanged between the parties. Question Is the contract in the scope of the revenue standard? Answer No, this arrangement falls outside the scope of the revenue standard. The standard explicitly excludes non-monetary exchanges within the same line of business aimed at facilitating sales to customers or potential customers from its scope.

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Interaction between insurance and revenue guidance IFRS 15 contains a provision exempting insurance contracts falling under the scope of IFRS 4. However, this exemption doesn’t extend to other contract types that insurance entities may issue, such as asset management and claims handling contracts, which fall outside the insurance guidance scope. Contracts may overlap, with some aspects falling under insurance guidance and others under the revenue standard. Determining this requires managerial judgment. If a contract wholly falls under insurance guidance, activities to fulfill it, like insurance risk mitigation or cost containment, should be treated accordingly.

Management needs to identify whether the contract counterparty is a customer since contracts that are not with customers are outside the scope of the revenue standard.

Revenue from transactions or events that do not arise from a contract with a customer is not in the scope of the revenue standard and should continue to be recognized by other standards. Such transactions or events include, but are not limited to:

• Non-exchange transactions, such as donations or contributions.
• Changes in the fair value of biological assets, investment properties, and the inventory of broker-traders.

Can an entity recognize revenue from a non-monetary transaction between entities in the same line of business that is excluded from the scope of IFRS 15? Entities are not permitted to recognize revenue resulting from a non-monetary transaction that is subject to the scope exception in IFRS 15. As explained in IFRS 15, the party exchanging inventory with the entity in a transaction of this nature meets the definition of a customer and, in the absence of this specific scope exclusion, the entity might recognize revenue once for the exchange of inventory and do so again for the sale of inventory to the end customer. The Board concluded that this outcome would be inappropriate because (1) it would gross up revenues and expenses and thereby make it difficult for the users of financial statements to assess the entity’s performance and gross margins, and (2) the counterparty in such an exchange transaction could be viewed as acting as a supplier rather than as a customer.

Contracts with some components within and some components outside the scope of the revenue standard

Certain contracts comprise elements falling within the scope of the revenue standard alongside components covered by other standards. For instance, a contract might encompass a vendor-provided financial guarantee or a property lease, in addition to a commitment to deliver goods or services. When faced with such scenarios, an entity must initially refer to separation or measurement guidance provided in other relevant standards if they specify how to segregate contract components.

The guidance outlined in the revenue standard is applied to initially separate and/or measure contract components only if no other standard offers specific guidance on separation or measurement.

Some contracts include components that are in the scope of the revenue standard and other components that are in the scope of other standards. For example, a contract could include a financial guarantee given by the vendor or a lease of property, plant, and equipment in addition to a promise to provide goods or services. An entity should first apply the separation or measurement guidance in other applicable standards if the other standards specify how to separate one or more parts of the contract. An entity applies the guidance in the revenue standard to initially separate and/or measure the components of the contract only if another standard does not include separation or measurement guidance.

Accounting for contracts partially in scope of the revenue standard Before determining that an arrangement falls within the scope of the revenue standard, management must review all other possibly applicable accounting literature. If an arrangement is wholly covered by other guidance, it should be accounted for accordingly under that guidance. However, if another standard only pertains to a portion of the contract, management must undertake separation of the contract.

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How is the total consideration/transaction price allocated between a service and a lease when the contract durations are different? Communications and others Both IFRS 15 and IFRS 16 require the total consideration/transaction price to be determined and allocated to the different components of a contract. This can create an accounting issue where: ·        a contract contains a non-lease and a lease component; ·        the consideration/transaction price depends on the duration of the contract; and ·        the application of the IFRS 15 and IFRS 16 guidance results in different contract durations. Activity An entity engages in a single contract with a customer, offering services alongside the right to utilize specific equipment throughout the contract’s duration, with the equipment expected to be returned at the contract’s end. Initially, the contract spans 12 months, with an automatic extension of another 12 months if the customer doesn’t terminate it. Both the service and lease components of an extended contract are extended. The arrangement provides an economic incentive for the customer to extend the contract up to 24 months. The customer pays a monthly fee of C40, covering both the service and equipment usage rights. Assuming a stand-alone selling price (SSP) of C50 for the service and C5 for the equipment for a monthly period.  Question How is the total consideration for the contract determined and how is it allocated to the service and the lease component? Answer The total consideration is established according to the contract term. The lease duration spans 24 months due to the customer’s economic incentive to extend the contract for this duration. Conversely, the service contract’s duration is dictated by enforceable rights, specifically the uncancellable contractual period of 12 months. Neither IFRS 15 nor IFRS 16 provides guidance on determining and allocating total consideration or transaction price when contract durations vary. Since the contract can only be extended in its entirety, we propose two acceptable approaches to determine the duration of each component. An entity may allocate total consideration or contract price based on either the lease term (24 months) or the non-cancellable contractual period (12 months). Calculation based on 12 months The total consideration is C480 (12 months × C40) and is allocated in the manner illustrated in the table below: Monthly SSP SSP for contract duration Percentage of total SSP Allocated consideration Lease C5 C5 × 12 = C60 C60/C660 = 9% 9% × C480 = C43 Service C50 C50 × 12 = C600 C600/C660 = 91% 91 % × C480 = C437 Total C660 C480 The lease term is assumed to be two years, and additional consideration is included in minimum lease payments to determine the classification of the lease. In this fact pattern, it is assumed that the additional consideration equals the one allocated to the lease component in months 1–12. Months 1–12 Months 13–24 Total Lease C43 C43 C86 Service C437 None C437 Total C480 C43 C523 Calculation based on 24 months The total consideration is C960 (24 months × C40) and is allocated in the manner illustrated in the table below: Monthly SSP SSP for contract duration Percentage of total SSP Allocated consideration Lease C5 C5 × 24 = C120 C120/C1,320 = 9% 9% × C960 = C86 Service C50 C50 × 24 = C1,200 C1,200/C1,320 = 91% 91% × C960 = C874 Total C1,320 C960 The figures provided earlier are allocated for the purpose of allocation only. To decide the amount of revenue to recognize, the entity must assess the period during which the contract parties possess enforceable rights and obligations. In this instance, the service contract duration remains at 12 months. In this example, the allocation of the transaction price remains unaffected by the contract extension. However, if the extension involves a reduced price, the entity must consider material right guidance and assess whether a portion of the transaction price should be allocated to the material right.

The transaction price, as defined, excludes the portion of contract consideration that is initially measured under other guidance.

Sale or transfer of non-financial assets

Certain principles of the revenue standard extend to recognizing gains or losses from the transfer of specific non-financial assets and in-substance non-financial assets that aren’t outputs of an entity’s usual operations, like property, plant, and equipment sales or transfers. While gains or losses from such sales typically don’t meet the revenue definition, the entity should utilize revenue standard guidance concerning control transfer, transaction price measurement, and variable consideration constraints to determine when and how much gain or loss to recognize.

Identifying the customer

A customer refers to the party engaging with an entity to procure goods or services that constitute the entity’s typical outputs, in exchange for consideration.

Contracts involving both parties sharing risks and benefits in an activity, like asset development, are unlikely to fall within revenue guidance as the counterparty typically doesn’t meet the customer definition.

Understanding relationships within collaboration or partnership agreements is crucial to discern whether the contract, in its entirety or partially, aligns with a customer contract. Some parts might involve sharing risks and benefits outside the revenue standard scope, while others pertain to goods or services sales, falling within the revenue standard ambit.A customer is the party that contracts with an entity to purchase goods or services that are the output of the entity’s ordinary activities, in exchange for consideration.

A contract with a counterparty to participate in an activity where both parties share in the risks and benefits of the activity (such as developing an asset) is unlikely to be in the scope of the revenue guidance because the counterparty is unlikely to meet the definition of a customer.

Relationships in a collaboration or partnership agreement should be understood, to identify whether all or a portion of the contract is, in substance, a contract with a customer: a portion of the contract might be the sharing of risks and benefits of an activity, which is outside the scope of the revenue standard; other portions of the contract might be for the sale of goods or services from one entity to the other, and are therefore in the scope of the revenue standard.

Identifying the customer (collaborative arrangement) Entity B signs an agreement with entity C to share equally in the development of a specific drug candidate. Question Is the arrangement in the scope of the revenue standard? Answer The categorization varies. If the entities collaborate solely to develop the drug, it’s improbable for the arrangement to fall within the revenue standard’s scope. However, if the essence of the agreement involves entity B selling its compound to entity C and/or providing research and development services, aligning with entity B’s usual activities, it’s likely within the revenue standard’s purview Entities ought to assess the presence of other relevant guidance, like IFRS 11, particularly in cases where the arrangement constitutes a collaboration rather than a customer contract.

When pinpointing the customer, the assessment should encompass comprehending the essence of the relationship among all transaction participants. In cases where another party contributes goods or services to a customer, the entity must ascertain whether it acts as a principal (where its promise entails directly delivering the specified goods or services) or an agent (where its promise entails arranging for the other party to provide those goods or services).

When identifying the customer, the analysis should include understanding the substance of the relationship of all parties involved in the transaction. Where another party is involved in providing goods or services to a customer, the entity should determine whether the entity is a principal (that is, the nature of its promise is a performance obligation to provide the specified goods or services itself) or the entity is an agent (that is, the nature of its promise is to arrange for the other party to provide those goods or services).

Accounting for entitlement imbalances resulting from under-lift and over-lift of mineral resources of products Entity A operates as a joint operator in an oil field, entitled to 50% of the generated output and accountable for 50% of the incurred costs throughout the field’s lifespan. Following IFRS 11:20, Entity A acknowledges a 50% stake in jointly held assets and 50% of the collectively incurred liabilities and expenses. This encompasses recognizing 50% of the joint operation’s inventory, which accumulates during the extraction, production, and transportation process, covering depreciation of property, plant, and equipment (representing oil reserves), along with direct and indirect overhead absorption. Due to the oil field’s operational nature, parties involved take possession of oil batches or “liftings” at varying intervals. Consequently, Entity A’s actual output share in a reporting period may diverge from its 50% entitlement (and cost obligation) over the field’s lifespan. This disparity is rectified through subsequent liftings, without any customary cash settlements. In the initial production period, 100 barrels of oil are extracted. Entity A claims 48 barrels, selling them to third-party customers for a total consideration of CU48, while the remaining 52 barrels are obtained by other joint operation participants. Hence, by the reporting date, Entity A holds an “underlift” position, entitling it to two barrels from future liftings. In line with IFRS 15, Entity A records revenue as the principal from its oil sales to customers. Recognition of revenue Entity A should only record revenue for its sales of oil to third-party customers. It does not recognize revenue or other income for the output it is entitled to but has not yet received from the joint operation and sold. As per IFRS 11, a joint operator must recognize “its revenue from the sale of its share of the output arising from the joint operation.” Subsequently, IFRS 11 mandates that revenues be accounted for in line with the applicable IFRS Standards, such as IFRS 15. Consequently, a joint operator’s recognized revenue reflects the output it has received from the joint operation and sold, rather than the production of output. Hence, in the initial production period from the field, Entity A records revenue of CU48, representing the transfer of output to its customers during the reporting period. Right to greater share of future liftings Entity A must recognize an asset representing its current economic entitlement to additional oil, indicating its right to a greater share of future liftings. This asset, termed the “underlift” asset, should be measured on the same basis as the physical inventory relinquished at the point of lifting by other joint operators, both upon initial recognition and subsequently until settled via a future lifting. Depending on its inventory accounting policy, Entity A will value its underlift asset either at net realizable value (if the IAS 2:3(a) scope exemption for agricultural and mineral product producers is applied) or at the lower of cost and net realizable value (if not). If, in subsequent periods, Entity A takes more than 50% of the field’s output, resulting in equal cumulative liftings between the parties, it will derecognize the underlift asset. However, if Entity A continues to take more than 50% of the output, creating an “overlift” position where it is entitled to a lesser share of future liftings, it should recognize a liability representing its current obligation to transfer an economic resource by allowing other operators to take more of the future output. This liability should be valued either based on Entity A’s inventory and underlift balances or, referencing IAS 37, at the market value of the overlifted oil quantity. As discussed earlier, Entity A’s revenues should solely reflect its sales of oil to third parties. Any profit or loss impact resulting from underlift or overlift positions should be included within its production costs.

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Substitution rights and application of IFRS 15 When an entity grants a customer access to a specific asset for a duration but retains a substantive right to substitute the asset during that period, IFRS 16 specifies that the arrangement does not constitute a lease. Instead, it falls within the scope of IFRS 15. For instance, Entity X lends a piece of machinery to Entity Y for three years, with annual payments, despite the machinery typically having a useful life of 20 years. Entity X does not provide ongoing services to Entity Y. With a substantive substitution right, Entity X controls the asset’s use, rendering the arrangement non-lease. Thus, Entity X should account for the transaction following IFRS 15 requirements. According to IFRS 15, Entity X is deemed to offer a service of providing access to the asset to Entity Y over time, as it retains the right to reclaim the machinery anytime. Therefore, each day Entity X extends usage to Entity Y, it provides another day of service. Consequently, Entity X records revenue from the arrangement over the three-year period, typically using a straight-line method, and adheres to IFRS 15 disclosure requirements. This approach remains valid regardless of the arrangement’s duration, even if it aligns with the machinery’s expected useful life.