Revenue recognition - collectibility and uncertain consideration
The boards continued their discussion on collectibility from their meeting on March 21, 2011. The staffs presented the boards with three questions and recommendations.
For the first question, the boards discussed the elements that make up a contract. It was determined that having the ability to pay was not consistent with the general criteria for existence of a contract. The boards agreed there was no support for adding this criteria to the contract guidance.
For the second question, the boards concluded there was no support for adding a recognition threshold for collectibility in the final standard. However, the boards' later discussion on uncertain consideration raised uncertainty if they will reassess this tentative decision.
For the third question, the boards discussed whether impairment losses should be presented separately from revenue for both an entity's initial estimate of losses and subsequent adjustments to that estimate. Several board members noted that they conceptually agreed with the guidance in the exposure draft (ED); however, they appreciated the concerns that respondents raised (e.g., did not like netting within revenue for initial estimates and the presentation of subsequent adjustments through a separate line item). The boards tentatively agreed that the best solution was having a gross revenue line and then a separate line item adjacent to revenue to show both the initial estimate and subsequent adjustments. These two line items would then total to present a net balance.
The boards' discussion focused on three topics relative to uncertain consideration: (1) existence of a right to consideration, (2) measurement, and (3) constraining revenue.
The boards did not reach any tentative decisions regarding these topics; however, identified areas for additional discussion as well as cross-cutting issues that need to be considered with the leasing project.
Existence of a Right to Consideration
The first paper discussed by the boards dealt whether the right to an uncertain amount of consideration should exist before an entity would be required to measure that right. The staffs proposed that the final standard should clarify that a right to consideration must exist before an entity can estimate that right (and thus, recognise revenue).
Related to this issue, the staffs provided a summary of a royalty agreement whereby an entity's future cash flows from a sale are subject to that customer reselling to an end-customer and paying the entity a percentage of that sale (e.g., a royalty agreement). While the staffs felt the easiest way to recognise revenue for this usage-based royalty contract would be when the entity's customer makes sale to the end-customer (i.e., a recognition requirement), they proposed that the pattern of revenue recognition should be included as a measurement issue rather than a recognition issue to be consistent with the tentative decisions reached in the lease project.
The boards express various views on this issue and continued to discuss this issue in the context of the other two topics; however, they did not reach any tentative decisions.
The staffs reported on their analysis of three models to measure (uncertain) consideration in a contract with customer: probability-weighted, maximum amount more likely than not to occur, and management's best estimate. This analysis led to their recommendation of a principle that, when the amount of consideration is uncertain, an entity should estimate the consideration as the (maximum amount) more likely than not to be received from the customer. However, when the consideration is frequently occurring and homogenous, an entity should used a probability-weighted method to determine the transaction price.
Board members individually expressed support for probability-weighted and more likely than not-based models based on various examples. However, the staffs' recommendation generated significant discussion by the boards on specific scenarios and potential issues with the staffs' recommendations. The boards subsequently determined that this issue could not be resolved in isolation but needed to be considered in the context of the other two topics.
The staffs' first recommendation was to clarify that an entity should constrain the amount of cumulative revenue recognised to date rather than the amount of consideration allocated to all performance obligations. This was in response to two concerns when the amount is constrained to all performance obligations:
The boards seemed to support the idea of fixing these unintended consequences. However, after further discussion with the other issues in this topic, the issues identified related to constraining revenue remain open.
Next, the staffs suggested that amendments should be made to paragraphs 38 and 39 of the ED. They proposed to amend paragraph 38 to include a condition to supplement an entity's experience of "other persuasive evidence, such as evidence from extensive testing procedures, to support the estimate transaction price" (this was intended to include new product offers or new entities into the conditions). The staffs proposed to either clarify in the factors listed in paragraph 39 or provide implementation guidance for scenarios of uncertain revenues dependent upon action of a customer or third party (e.g., film license dependent on movie theatre's customers, royalties from reseller on per-unit shipped). There were many concerns raised and views shared by the boards. Some of those concerns included establishing a threshold for uncertain revenues of "reasonably assured" or "virtually certain" (trying to define each and consider if each should be included as part of the measurement threshold for uncertainty), inconsistencies with tentative decisions reached in the lease project for lessor accounting, and inconsistency in practice for applying the principles being discussed.
There were no tentative decisions reached. Due to the cross-cutting issues, the boards' decided it may be useful to redeliberate this topic at the same time as the lessor accounting model at a future meeting.