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Revenue Recognition

Date recorded:

(FASB staff participated by video link.)

The objective of this session was for the Board to reach tentative decisions on the main issues relating to the measurements of rights in a contract. Specifically, the Board would be asked to consider how rights in the contract should be measured when the amount of consideration to be paid by the customer:

  • is paid significantly before or after performance by the entity (time value of money);
  • is uncertain; or
  • is paid other than in cash.

Effects of the time value of money

The staff introduced the paper by noting that in developing the proposed revenue recognition model the Boards have ignored the time value of money for simplicity; however, an entity's net contract position may contain a financing element. The staff asked the Board to consider whether and how the carrying amount of an entity's net contract position should reflect the time value of money.

The staff recommended that:

  • a. Conceptually, the carrying amount of an entity's net contract position should reflect the time value of money.
  • b. Practically, the carrying amount of an entity's net contract position needs to reflect the time value of money only if payment by the customer and performance by the entity differ by approximately one year or more.
  • c. The discount rate used to reflect the time value of money should be the rate at which the entity and its customer would have entered into a financing transaction independent of providing goods and services under the contract.
  • d. The interest income or expense on the net contract position should be presented as a component of revenue.

The Board agreed with the staff recommendation that, in concept, the carrying amount of an entity's net contract position should reflect the time value of money. A number of Board members noted that the concept is right; it is just a question of materiality as to whether it affects the financial statements.

In response to the question of when should the time value of money be reflected, the Board disagreed with the staff recommendation that the Board should specify the circumstances in which an entity should reflect the time value of money. A number of Board members were of the view that the time value of money should be reflected, subject to materiality. Another Board member noted that whether the time value of money is material is a function not only of time, but also of the level of interest rate. One Board member also stated that the Board should resist bright line accounting.

Another Board member noted that the only way to judge if something is material is to calculate the numbers. So that Board member would support an IAS 39.AG79 type model being applied, in which short-term receivables and payables with no stated interest rate may be measured at the original invoice amount if the effect of discounting is immaterial. Other Board members agreed with the concept, and requested the staff to develop some guidance on applying materiality on this basis.

The third issue addressed in relation to time value of money was what interest rate should be used. The Board agreed with the staff recommendation that the discount rate should be the rate at which the entity and its customer would have entered into a financing transaction; however, a number of concerns were raised as to the level of detail in the guidance being developed by the staff. The staff were requested to keep any guidance related to this area high level in nature.

The final question addressed in relation to the time value of money was how should the effects of the time value of money be presented in the financial statements? The Board indicated that this issue was better addressed as part of the financial statement presentation project.

Effects of uncertain consideration

The staff introduced the second paper by noting that, in developing the model to date, the Board has assumed that the promised customer consideration amount is fixed. However, in many contracts the promised consideration amount is uncertain.

The staff recommended that:

  • a. At contract inception, the transaction price is the amount of consideration that an entity expects to receive from the customer. The expected consideration is the entity's probability-weighted estimate of consideration from the customer.
  • b. After contract inception, the entity should update the measurement of rights to reflect the current transaction price. Changes in the transaction price should be allocated to all performance obligations. Consequently, the entity recognises those changes in profit or loss only to the extent that they relate to satisfied performance obligations.

The staff then directed a number of questions to the Board for consideration in response to these recommendations.

Question 1

  • Does the Board agree that the transaction price at contract inception is the amount of expected consideration to be received from the customer (that is, at the entity's probability-weighted estimate of customer consideration)?
Question 2
  • Does the Board agree that after contract inception the measurement of rights should be updated to reflect changes in the transaction price?
Question 3
  • If the measurement of rights is updated to reflect changes in the transaction price, does the Board agree that those changes should be allocated to the performance obligations? Consequently, an entity would recognise revenue for changes in the transaction price only when those changes relate to satisfied performance obligations.
Question 4
  • Does the Board think that an expected consideration approach should be constrained to minimise the risk of reversing revenue? If so, does the Board agree that cumulative revenue should be limited to the amount of certain consideration?
Question 5
  • Does the Board agree that a change in the transaction price should be allocated to all performance obligations in a contract? If not, what is the basis for excluding some performance obligations from the allocation of a change in the transaction price?

The Board generally agreed with questions 1, 2 and 3.

In response to question 4, the Board disagreed with the staff recommendation that the expected consideration approach should be constrained to minimise the risk of reversing revenue. One Board member asked where this concept was in the Framework?

Another Board member noted that the expected value already takes into account the considerations being put forward in the proposal, so also disagreed with the staff recommendation. The majority of Board members did not support the staff recommendation; that is, they supported the view that the expected consideration approach should not be constrained.

In response to question 5, a number of Board members expressed concern with the proposals, with one Board member requesting the staff to identify the principle they were applying. Following discussion, the staff was requested to bring back the issue as part of a future discussion on segmenting transactions.

Noncash consideration

The staff introduced the third paper by noting that in developing the proposed revenue recognition model to date the Board had only considered contracts in which customer consideration is in the form of cash. However, customer consideration might be in the form of goods, services, or other noncash consideration.

In relation to noncash consideration the staff recommended that:

  • An entity should measure its right to noncash consideration at the fair value of the promised consideration unless the fair value of the promised consideration cannot be measured reliably or the contract lacks commercial substance.
  • If the fair value of the noncash consideration cannot be measured reliably, but the contract has commercial substance, the entity should measure the promised consideration indirectly by reference to the fair value of the goods and services promised in exchange for the consideration.
  • A contract in which goods or services are exchanged for goods or services that are of a similar nature is not a revenue generating contract if that contract lacks commercial substance.
  • A new revenue standard should not provide specific guidance for particular exchanges involving noncash consideration (for example, barter credit transactions, exchange of advertising services).

The board agreed that, in principle, an entity should measure its right to noncash consideration at the fair value of the promised consideration. The board also agreed with the second recommendation made by the staff that if the fair value of the noncash consideration cannot be measured reliably, but the contract has commercial substance, the entity should measure the promised consideration indirectly by reference to the fair value of the goods and services promised in exchange for the consideration.

In response to a question as to whether a revenue standard should include guidance on when the fair value of an asset received can be measured reliability in the absence of comparable market transactions, the board thought that this issue would be better addressed as part of the fair value measurement project.

The board discussed whether entity should be allowed to recognise revenue in a contract for an exchange of similar goods or services. A number of board members expressed concern as to how this could be applied in practice. It was noted that some guidance already existed in IAS 16. One board member said that if the entity was in the same position before and after the transaction there should be no revenue. Another board member asked the staff to clarify what they meant by the term 'similar'. Following discussion, the staff agreed they needed to consider the issue further and bring the issue back to the board at a later date. No final decisions were made.

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