IAS 16 and IAS 38 — Contingent pricing of property, plant and equipment and intangible assets
In 2011, the Committee discussed a request to clarify the accounting for contingent pricing in the outright purchase of a single item of property, plant and equipment (PPE) or intangible asset. The issues outlined in the submission included (i) when to recognise the liability for contingent prices and (ii) whether subsequent changes to the contingent price should be recognised in profit or loss or as an adjustment to the cost of the asset purchased.
At the time, the Committee noted a lack of specific guidance in IFRSs for contingent pricing in a non-business combination-related transaction. Although taking the issue onto its agenda with a view to develop an interpretation, the Committee elected to defer further work on this project until the IASB concluded its discussions on the accounting for variable payments as part of the leases project.
At this meeting, the staff outlined the tentative decisions reached by the IASB regarding the accounting for the variable payments as part of the leases project (while also summarising tentative decisions taken by the IASB on variable consideration as part of its revenue recognition project), and proposed a basis for accounting for contingent payments for the purchase of a single asset that is consistent with the proposals in both of these projects; that being:
- to exclude contingent payments that are not reasonably certain from the initial measurement of the cost of PPE or intangible asset and the financial liability.
- to account for the remeasurement of the liability each reporting period (i) as an adjustment to the cost PPE or intangible asset to the extent that it relates to future reporting periods and (ii) to profit or loss to the extent that it relates to the current or previous reporting periods.
In response to the staff proposal, many Committee members requested further clarity as to the tentative proposals in the leasing project. Specifically, the Committee members sought clarity as to the conceptual basis for excluding variable payments from the measurement of the lessee’s liability to make lease payments unless the variable lease payments are structured in such a way that they are in-substance fixed lease payments or based on an index or rate derived payment. They saw this as a practical expedient as opposed to providing a conceptual basis. Committee members also questioned whether any application guidance had been developed for purposes of bifurcating recognition of changes to the lessee’s liability between profit or loss (for changes arising from current periods) and adjustments to the right-of-use asset (for changes relating to future periods). They noted that guidance in this area would be particularly important in an asset acquisition environment where contingent payments may benefit a number of future reporting periods. However, the staff noted that no application guidance has been developed by the IASB.
Another Committee member noted that the definition of cost in IAS 16 states that it is the amount of cash or cash equivalents paid or the fair value of the other consideration given to acquire an asset at the time of its acquisition... He therefore questioned whether this definition suggested that all contingent consideration should be included in the recognition of the cost of an acquired asset; a conclusion which may not be aligned to the staff’s analogised proposals given that the ‘reasonably certain’ requirement to recognise contingent payments and related classification of the remeasurement of the acquisition liability may result in certain payments being recognised directly in profit or loss without recognition in the cost of the acquired asset at any stage.
One Committee member then expressed concern that the staff proposals would result in an ‘ever- changing’ asset balance, and in many cases, the asset balance would exhibit significant variability between periods as contingencies become reasonably certain. Other Committee members acknowledged this concern, but noted that only changes in the acquisition liability relating to future periods would be recognised as an adjustment to the right-of-use asset (as liability changes arising from current or past periods would be recognised in profit or loss) which should limit changes in the cost of the acquired asset. They also noted that contingencies in an asset purchase environment would not be expected to extend a significant number of reporting periods beyond the period of acquisition (based on past experience). Therefore, most Committee members did not foresee the issue of an ‘ever-changing’ asset balance to be a significant issue.
Listening to some of the concerns expressed by Committee members, two Committee members questioned whether an analogy to the IASB’s leasing project was the best approach. They expressed other alternatives including:
- an analogy to IFRS 3 Business Combinations which would require the cost of the asset to include the fair value of the contingent consideration at the date of purchase, with subsequent changes to the contingent consideration being recognised in profit or loss.
- an analogy to IFRIC 1 Changes in Existing Decommissioning, Restoration and Similar Liabilities which would require the cost of the asset to include an estimate of the contingent consideration at the date of purchase, with subsequent changes to the liability adjusted against the cost of the asset.
However, the majority of the Committee expressed support for the direction proposed by the staff. They acknowledged, however, that proposing a basis of accounting that is consistent with proposals currently being deliberated may result in a need to re-examine this project at a later date (i.e. at completion of the leasing and revenue projects). Therefore, the Committee directed the staff to continue monitoring developments in the IASB’s leasing and revenue recognition projects with a view to provide a more developed proposal regarding contingent payments for the purchase of a single asset to a future Committee meeting. Assuming the proposals remain aligned with the IASB’s leasing project, the Committee intends to align the timing of issuance of a proposal with the release of the IASB’s revised exposure draft on leasing (i.e. second half of 2012).