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Journal Entry — Revenue — Redeliberations Near Completion

Published on: Feb 01, 2013

At their joint meeting this week, the FASB and IASB continued redeliberating their November 2011 exposure draft (ED) Revenue From Contracts With Customers. During the meeting, the boards discussed the following topics: (1) scope (collaborative arrangements and financial services contracts), (2) repurchase agreements, (3) the effect of the revenue recognition model on asset managers, and (4) transfers of assets that are not an output of an entity’s ordinary activities.

Scope (Collaborative Arrangements and Financial Services Contracts)

In response to questions raised by constituents about whether all collaborative arrangements would be excluded from the scope of the proposed revenue model, the boards noted that a party to a collaborative agreement could represent a customer and that therefore certain collaborative arrangements would be within the scope of the proposed revenue standard. The boards agreed that an entity would be required to assess (1) the structure and purpose of the arrangement to determine whether the transaction is for the sale of goods or services as part of the entity’s normal business activities and (2) whether the counterparty represents a customer (as defined in paragraph 10 of the ED). If the counterparty meets both criteria, the collaborative arrangement would be within the scope of the proposed standard.

The boards also discussed circumstances in which a contract would fall partially within the scope of the revenue model and partially within the scope of another standard (e.g., certain financial services contracts). The ED specifies that for parts of a contract that are governed by other standards, an entity should (1) apply the recognition and measurement concepts of the other standard and (2) apply the revenue model to the remainder of the contract (see paragraph 11 of the ED). The boards tentatively decided not to change paragraph 11 of the ED but rather to clarify the application of this guidance by adding implementation considerations or an example.

Repurchase Agreements

The boards tentatively decided to do the following to clarify various aspects of the ED’s model for repurchase agreements:

  • To avoid a narrow interpretation of the guidance, remove the word “unconditional” from the description of the repurchase rights or obligations.
  • Incorporate the guidance in ASC 470-401 on accounting for processing costs in the determination of the repurchase price in an arrangement to “sell a product to a contract manufacturer and [repurchase] the product as part of a larger component for a higher price.”
  • Provide examples of contracts with guaranteed minimum resale value and of equipment sold and subsequently repurchased subject to an operating lease.
  • Include guidance that nonsubstantive terms should not be considered in an entity’s assessment of whether it has a significant economic incentive not to exercise an option.

As noted in the agenda paper for the meeting, the boards tentatively decided that if “a put option (with a repurchase price less than the original sales price) is included in a sale-leaseback transaction, and the customer (lessor) has a significant economic incentive to exercise the put, then the contract should be accounted for as a financing.” This is consistent with the boards’ tentative decision in the leases project.

Effect of the Revenue Recognition Model on Asset Managers

A number of asset managers have expressed concerns to the boards (namely those entities that manage alternative asset portfolios) about the proposal in the ED to supersede the guidance in EITF Topic D-96,2 specifically on the accounting for performance-based incentive fees under Method 2.3 However, the boards tentatively decided not to amend the guidance in the ED. Accordingly, asset managers would be required to follow the constraint guidance4 on recognizing revenue from these fees (essentially precluding recognition of revenue in a manner similar to Method 2 in EITF Topic D-96).

Further, the boards decided not to amend the contract-cost guidance to address specific concerns related to accounting for up-front commission fees associated with a ‘back-end load’ fund. Rather, the FASB agreed to retain the fulfillment-cost guidance in ASC 946 for these arrangements (which would have been superseded by this project).

Transfer of Assets That Are Not an Output of an Entity’s Ordinary Activities

The boards tentatively decided to confirm the proposed consequential amendments that clarify that transfers of assets that are not an output of an entity’s ordinary activities (such as the sale of property, plant, and equipment or intangible assets) would be within the scope of certain aspects of the revenue model. Specifically, the criteria for existence of a contract, measurement, and control principles in the proposed revenue model would be applied to these transfers, and the accounting guidance currently used to account for these transactions (e.g., ASC 360-20) would be superseded

[1] For titles of FASB Accounting Standards Codification (ASC or the “Codification”) references, see Deloitte’s "Titles of Topics and Subtopics in the FASB Accounting Standards Codification."

[2] EITF Topic No. D-96, “Accounting for Management Fees Based on a Formula.”

[3] Under Method 2, an entity recognizes performance-based fee revenue in the amount that would be due under the contract at any point in time as if the contract was terminated at that date.

[4] During their November 2012 joint board meeting, the boards tentatively decided to revise the constraint guidance so that revenue would only be included in the transaction price when an entity has a “high level of certainty” that the amount of revenue recognized would not be subject to future reversals. See Deloitte’s November 20, 2012, journal entry for more information.

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