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Revenue recognition (joint with FASB)

Date recorded:

The IASB and FASB staff jointly developed a package of four amendments for the Boards to consider (“joint staff proposal”).

  • Amendment 1 provides guidance on the unit of account for the principal versus agent analysis.
  • Amendment 2 provides additional guidance on the nature of the specified good or service that an entity controls before it is transferred to a customer (for example, a right to a good or service)
  • Amendment 3 amends paragraph B37 [606-10-55-39], which includes the existing indicators, to more clearly link the indicators in that paragraph to the notion of control, and to help clarify that the role of the indicators is to assist entities in determining control in accordance with paragraph B35 [606-10-55-37]
  • Amendment 4 revises the existing illustrative examples in the new revenue standard to more clearly demonstrate that the indicators assist in (or support) the evaluation of whether an entity controls a specified good or service in accordance with the notion of control in paragraph 33 [606-10-25-25], and how the indicators assist in the evaluation of the control principle.  This amendment also includes additional illustrative examples to address questions about how to apply the control principle to particular types of transactions.

The IASB and FASB staff recommended that the Boards adopt the joint staff proposal.

FASB DISCUSSION

The FASB Practice Fellow noted that the joint staff proposal set out in the agenda paper included a package of four proposed amendments that together, the staff believed, would substantially resolve the issues stakeholders had raised with respect to the application of the control principle introduced in the new revenue standard for determining whether an entity’s promise was to provide a good or service or to arrange for another party to do so, including its relationship to the indicators provided.  He also noted that the staff believed the proposed amendments would assist entities with some of the long standing practice issues in this area, such as identifying the proper unit of account for the analysis and how to factor in contract specific facts and circumstances into the principal versus agent evaluation.  He highlighted the fact that the staff believed that there were no realistic amendments that could be proposed that would eliminate judgement in this area, and that the staff expected that for some transactions, significant judgement would continue to be required, regardless of what the Boards did in this area.  He further noted that the agenda paper [FASB memo] and proposals had been developed jointly by the IASB and FASB staff, noting that outreach participants had highlighted the importance of retaining converged guidance in this area, and that the staff had factored this into the recommendations, noting that if the FASB and IASB staff had looked at this independently, different conclusions may have been reached; however, the staff decided retaining converged guidance was an important objective that should override other considerations.  He noted that the FASB would be voting on Amendments 1 through 4, and because the IASB had tentatively decided in its May 2015 meeting to propose some amendments (which are Amendments 2 and 4 in the joint staff proposal), the IASB would only be voting on adding Amendments 1 and 3.

Amendment 1

A FASB member observed that paragraph 28(c) of the agenda paper noted that an entity could be a principal for one or more specified goods or services in a contract and an agent for others (so the principal versus agent determination was performed at the performance obligation level rather than at the contract level), and noted that he did not believe this was obvious in the language proposed in paragraph 27 of the agenda paper and suggested that it would be helpful to include this point in either an example or make it clear in the language.  The FASB Practice Fellow responded noting that this point was somewhat implied by the fact that this analysis was to be performed for each specified good or service, and accordingly this should indicate that where there is more than one specified good or service, the answer could be different at each unit of account. 

The FASB Chairman suggested that, because recognition is based on the performance obligation not the contract, this point might be clear when read in the context of the entire Standard i.e. that this determination should be performed at the performance obligation level rather than the contract level.  The FASB Practice Fellow further noted that there had been an example of this in previous versions of outreach, and that it had been the preliminary intention of the FASB staff that an example that demonstrated this would be one of the additional examples the staff would ask for in Amendment 4.  The FASB member noted that inclusion of the example would resolve this issue, and that in the absence of the example, discussion in the Basis for Conclusions on this point would suffice.

Another FASB member noted that proposed wording in Amendment 1 stated that “the specified good could be a right to goods or services”, and noted that he struggled with calling a right to something a good, noting that he believed that the person who purchased the right (i.e. the right to fly somewhere) believed they were purchasing a service, so the right to a service was being transferred rather than a good.  He suggested this could be addressed in drafting. 

Amendment 2

A FASB member commented on the proposed wording in Amendment 2 (in paragraph 29b of the agenda paper) that stated that “an entity that is a principal controls… a right to a service to be performed by the other party, which gives the entity the ability to direct the other party…” and questioned whether what the staff were saying here was that, if an entity was responsible for performing a service, it would be considered a principal even if it did not perform the service itself, and subcontracted the service out to someone else.  The FASB Practice Fellow confirmed that this was what was meant here, and added that this point was best exemplified in “New Example 1 – Office Maintenance Services” included in Appendix A to the agenda paper, the notion being that, if an entity is primarily responsible for the acceptability of a service, the fact that it hires someone else to perform the service on its behalf, does not change the character of the arrangement. 

Another FASB member questioned how the staff came up with the list in paragraph 29(b) of the agenda paper, noting that the list did not appear very complete with respect to the types of goods or services, and who performed in transferring those goods or services.  The FASB Practice Fellow responded, noting that the notion the staff were trying to get at was that this amendment was less about helping everyone in the world identify what they control, but rather, about helping people understand how an entity can control a right to a service.  He noted that to an extent, this was a limited list targeted to address areas where questions were arising, and that it should be made clear that this list was not intended to be a complete list, and that this would be addressed in drafting.

Amendment 3

With respect to the credit risk indicator set out in proposed Amendment 3 (paragraph 34 of the agenda paper), a FASB member observed that this appeared to be an indicator that was only relevant if the credit risk related to the other party’s goods or services, and was therefore, not a generic indicator, and asked the FASB staff to comment on this.  The FASB Practice Fellow responded, and acknowledged that credit risk was not necessarily the strongest indicator of control or very closely linked to the notion of control, but noted that, on balance, the staff decided to retain this indicator as they believed it could be helpful.  He noted that the indicators existed to support the control principle, and that no indicator in and of itself was determinative in any example.  He noted that he did not personally believe credit risk was a really good indicator of control, but noted that it was something that when added in a complementary fashion to other evidence, could provide additional support in coming to a conclusion, which is why the staff had retained it in its present form.  There was further discussion around the fact that this indicator only works in a certain fact pattern (for example, where there is a 3 party relationship, and X is responsible for providing the services to Y, but outsources to Z) but that it was currently included in a list of generic indicators and users may not understand how it was to be applied.  He noted that the proposed language “the entity is exposed to credit risk for the amount… that relates to the other party’s goods or services” read as though there were two parties to the arrangement, and suggested updating the language to state “the other party’s goods or services provided to the customer on the entity’s behalf”, which makes it clear that there are three parties to the arrangement, and removes confusion.

Amendment 4

A FASB member commented on “New Example 2 – Retail Example” as set out in Appendix A to the agenda paper.  He noted that he was comfortable with the outcome, which was consistent with current practice when a retailer takes product, puts it on its shelf but has no obligation to pay until the products have been on sold; but noted that he struggled with the analysis in paragraph N2.2 that stated that the retailer obtains control of the product at the point it is delivered to the store.  He questioned whether control was supposed to be a mirror concept in this example; noting that, he would have thought that the guidance on consignment inventory would have said that the manufacturer had not transferred control of the product to the retailer.  He questioned whether this could be building in an internally inconsistent example, or whether control meant something different in this context than it did for the actual manufacturer of the product, and whether the two were supposed to be reconciled here.  Another FASB member also noted that he did not disagree with the answer, but struggled to see how in an ordinary consignment shop situation an entity would not be the principal, but in this example it was.  The FASB Practice Fellow responded, noting that, in including this example, the staff were trying to send a bit of a signal that there are nuances in these arrangements.   A further FASB member suggested that it might be useful to state in the example that the arrangement does not meet the nature of a consignment arrangement as specified in the application guidance to the new revenue standard, and the reasons for this conclusion.

Other discussion

The FASB Chairman asked the FASB members whether they had any questions or comments on paragraph 38 of the agenda paper, where options considered but rejected by the staff were discussed.  There were no comments or questions from the FASB members.

IASB DISCUSSION

The IASB discussion was focused on Amendments 1 and 3 due to the fact that Amendments 2 and 4 had been discussed and tentative decisions made with respect to said amendments at the IASB only meeting in May 2015.

The general view expressed by a number of IASB members was that they supported the proposed amendments for the sake of convergence with the FASB.  One IASB member stressed the importance of the Boards ending up with, more or less, identical language in their respective Standards if both Boards intended the same outcome.  Several IASB members noted that including the amendments in an exposure draft, would give the IASB a chance to obtain feedback on the amendments, and whether they were clear and well understood by people to ensure they would not result in a number of new questions being taken to the TRG.  A further IASB member noted that she believed that it would be helpful when thinking about the comment period, to think about it with the objective of joint redeliberations with the FASB.

With respect to the indicators proposed in Amendment 3, several IASB members expressed concern that making the proposed changes could lead to knock on effects in other parts of the Standard and misinterpretation.  Several IASB members had drafting comments on the indicators.  One IASB member noted that there were differences in the way the various indicators had been drafted, which could have the effect of indicating that some indicators were more persuasive than others (for example, some only stated that this may indicate), and suggested that each of the indicators should be drafted with as similar a structure as possible.  Another IASB member noted that the indicators should be as precise as possible.

The IASB staff responded to some of the comments made by IASB members, noting that the inclusion of examples or use of the term “may indicate” was to avoid people picking out certain indicators and using them to support their argument that they were a principal when they were not, and reiterated the fact that these are just indicators.

Another IASB member commented on the pricing discretion indicator, noting that the IASB needed to include, either in the Standard, application guidance, or Basis for Conclusions, a comment that as long as agents are operating within their established authority, this should not change the principal versus agent determination.

Another IASB member commented on the phrasing in the first indicator “The entity is primarily responsible for fulfilling the contract, including the acceptability of the specified good or service…”, noting that the phrasing seemed to indicate that acceptability was a requirement in this area, but rather, it was being given as an example of why an entity had control even if it was not taking physical custody. 

A further IASB member highlighted the fact that, as currently written, the indicators were written from the perspective of determining whether the entity is an agent, whereas the proposed amendments changed the perspective to the positive – with a list of indicators that an entity controls the specified goods or services, and is therefore, a principal.  He noted that he believed the current indicators seemed more straightforward and were easier to understand, and questioned whether the new approach would lead to new issues arising.  The IASB Technical Principal responded, noting that the staff believed that changing to the positive was helpful because often things can be read more easily in the positive, but acknowledged the point raised by the IASB member that certain of the indicators worked better in the positive and others in the negative.

With respect to “New Example 2 – Retail Example” included in Appendix A of the agenda paper, several IASB members shared the concerns expressed by FASB members with respect to the tension between the facts and analysis in this example, and the need for rewording if the example was to be retained.  One IASB member stressed the importance of the Boards having identical language if the example was retained, to avoid divergence in outcomes.  Another IASB member suggested that it might be better for this example to be deleted rather than tinkered with, expressing concern that including an example like this could set current practice in concrete when these were very finely balanced judgements that had a lot of nuances.  A further IASB member noted that deleting the example was one option, but also highlighted the fact that the example provided an opportunity for the Boards to think about the proposed five indicators, and whether any additional indicators needed to be developed, given only one indicator was relevant to the conclusion.

Another IASB member noted that a point he believed was critical here, which came out in the examples in the agenda paper in varying degrees, and that the IASB needed to reinforce, was the point that the indicators are meant to complement the evaluation of control, so the first step for a preparer is to go through the analysis of whether control has in fact been transferred, and then look at the indicators to complement that analysis.  He noted that he would like to see examples to ensure this point was driven home.

The FASB Chairman reiterated the comment made by an IASB member with respect to joint redeliberations, and agreed that it would be advantageous for the Boards to carry out their redeliberations at the same time, or as close as possible.

TENTATIVE DECISIONS

FASB

All seven FASB members tentatively agreed (6 in person, 1 by proxy) to add a project to the FASB’s technical agenda to amend the principal versus agent consideration guidance in Topic 606, and to adopt the package of amendments proposed jointly by the FASB and IASB staff, subject to drafting refinements.

IASB

All fourteen IASB members tentatively agreed to retain the tentative decisions from the May 2015 IASB meeting (described as Amendments 2 and 4 in the agenda paper), and to adopt Amendments 1 and 3 as set out in the agenda paper.

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