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Revenue recognition (IASB and FASB)

Date recorded:

The Boards were asked to consider questions raised in response to the 2011 revised exposure draft (2011 ED) related to proposed disclosure requirements as well as the proposed transition method, including consideration to early adoption and the effective date.

Disclosure

The staff recommended a series of potential amendments to existing disclosure proposals. Such amendments were recommended in an attempt to balance two competing priorities heard as part of constituent outreach – enabling users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers without overburdening preparers.

Disaggregation of revenue

Paragraphs 114-116 of the 2011 ED outline requirements to disclose disaggregated revenue. While users generally supported the disclosure of disaggregated revenue information, preparer feedback suggested too much disaggregation could be overwhelming to accumulate and review. The IASB and FASB staff held disclosure and transition workshops in which this topic was discussed. While preparers were understanding of the critical need for disclosure of disaggregation of revenue, they suggested that more flexibility should be provided in disaggregation requirements to allow preparers to ‘tell the story’ of the business. From that feedback, the staff recommended that disaggregation of revenue disclosures should be retained and work should be done to clarify and enhance the objective of the disclosure.

The staff distributed a supplemental paper to the Boards outlining proposed amendments to the disclosure requirements in paragraphs 114-116 of the 2011 ED. The staff proposal recommended that the objective of the disclosure should be to provide an additional, more disaggregated level of revenue beyond that which may be provided by reportable segments in compliance with Topic 280 Segment Reporting or IFRS 8 Operating Segments if management uses that information in managing its business or analysing revenue. The staff believed this information may be necessary to understand the different economic factors that affect the way in which revenue is generated. To achieve this objective, the staff suggested further guidance about the level at which to disaggregate revenue information.

Board members were generally supportive of the recommendation to retain the disaggregation of revenue disclosures. However, many were concerned with the interaction of the proposals with Topic 280 or IFRS 8. Many saw the primary objective of the disclosure – to depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors – as potentially in conflict with a link to the disaggregation under Topic 280 or IFRS 8. Building on this point, several Board members believed the ‘anchor’ to the proposal should be on providing adequate information to financial statement users to understand the economics of the business as opposed to what management reviews (i.e., the Topic 280/IFRS 8 reference make the principle too conditional).

This overriding concern led to multiple suggestions on how best to structure the proposals, including the appropriateness of examples and implementation guidance to support the overriding principle. While some preferred that the principle be provided without providing examples or guidance (which may suggest a checklist mentality on what information is required to be disclosed), others suggested that the staff’s proposed implementation guidance appropriately flushed out necessary considerations by preparers in providing appropriate information to financial statement users to understand the economics of the business (beyond strictly the management view in Topic 280/IFRS8). After a lengthy debate, the FASB Chair proposed a revision to the supplement prepared by the staff. Those edits to the staff supplement included:

  • Eliminating the proposed addition to paragraph 114 to link the disaggregation of revenue to management’s view (i.e., de-emphasise strictly management’s view).
  • Revising the proposal of paragraph IGX1 to de-emphasise strictly a management view. Instead, the proposal would state that an entity should consider how revenue should be aggregated considering disclosures presented outside of the financial statements (e.g., earnings release, investor presentations, etc.), information reviewed by management in evaluating the financial performance of operating segments and other relevant analysis is which the entity or its users evaluate performance or resource allocation.
  • Requiring qualitative disclosures of variations between the disclosed disaggregation of revenue and segment and/or GAAP revenue. The staff noted it would develop potential wording on this point as multiple Board members expressed concern on the level of information required to be disclosed in ‘reconciling’ disaggregated revenue to other information contained in the financial statements.

When put to a vote, both Boards tentatively agreed with the FASB Chair proposal.

Reconciliation of contract balances and analysis of remaining performance obligations

The Boards then considered possible amendments to disclosures in paragraphs 117 (reconciliation of contract balances) and 119-121 (analysis of remaining performance obligations) of the 2011 ED.

Constituent feedback to paragraph 117 of the 2011 ED revealed many criticisms regarding the usefulness of the disclosure in its present form (from users) and cost-benefit concerns (from preparers). While preparers and users rarely disputed the relevance of disclosing the information, limited support was seen for the proposed form and scope of the reconciliation.

Considering this feedback, the staff recommended that the Boards replace the reconciliation of contract balances disclosure as proposed in the 2011 ED (which prescribed a tabular reconciliation) with the following:

a)      A narrative explanation of the changes in contract balances, comprising the following types of information:

    1. The opening and closing balances for an entity’s contract assets and contract liabilities (this would be disclosed as quantitative data).
    2. A description of an entity’s contracts and typical payment terms (already required by paragraph 118 of the 2011 ED) and an explanation of the effect that those factors typically would have on the entity’s contract balances.
    3. An explanation of the significant changes in the opening and closing balances of contract assets and liabilities.

b)      Disclosure of revenue recognised in the period that arises from the amounts allocated to performance obligations satisfied in previous periods.

Several Board members saw the narrative explanation in (ii) and (iii) above are extraneous. They feared the requirement would result in boilerplate disclosures and would fail to provide sufficient information to explain any change in the contract balances that might materially affect a user’s analysis of the entity’s cash generation cycle. In response, the staff noted that it was their intention that the disclosure requirements would be articulated in greater detail in the final standard. Specifically, for (ii), they noted that the disclosure would be intended to explain to users of the entity’s financial statements the factors that create the timing difference between payment and performance, as well as the circumstances and likely timeframe in which that timing difference is expected to reverse. Regarding (iii), disclosures would be expected to focus on non-routine changes (as opposed to just timing of payments, etc). The staff provided examples of significant changes including changes to contract balances arising from business combinations; cumulative catch-up adjustments to revenue (and the corresponding contract balance) arising from a change in the measure of progress, a change in the estimate of the transaction price or a contract modification; impairment of a contract asset; and a change in the timeframe for a right to consideration becoming unconditional or for a performance obligation to be satisfied that has a material effect on the contract balances.

Other Board members outlined other proposed disclosures including disclosure of amounts recognised in revenue for contract liability balances (i.e., an extension of the disclosure in b) above to provide further detail regarding deferred revenue balances (the amount and amounts recognised in the period related to previous deferrals)) and disclosure of the amount of billed receivables/trade receivables if not disclosed elsewhere in the financial statements.

A few Board members saw a narrative disclosure as inadequate to explain the extent and reasons for changes in the entity’s contract assets and contract liabilities over the reporting period. They suggested quantitative disclosure of contract assets and contract liabilities could be limited to certain types of contracts (such as long-term service or construction contracts), or when there is a significant timing difference between payment and performance.

However, when put to a vote, the Boards tentatively supported the staff recommendation, subject to the following:

  • Clarifying the disclosure requirements in (ii) and (iii) above to highlight non-routine information (similar to the verbal staff clarification noted above);
  • Requiring disclosure information related to deferred revenue, as outlined above; and
  • Requiring disclosure information related to billed receivables/trade receivables, as outlined above.

The Boards then discussed clarification to the remaining performance obligations disclosure (paragraphs 119-121 of the 2011 ED). Considering constituent feedback, where some concerns were expressed regarding the scope of the disclosure and its interaction with other requirements, the staff recommended that the Boards clarify in the remaining performance obligations disclosure that:

  1. Renewals are not included in the disclosure of remaining performance obligations.
  2. The amount of the transaction price that is allocated to the remaining performance obligations is not subject to a revenue reversal.
  3. An entity is not precluded from disclosing contracts less than 12 months.

One Board member preferred that the proposal in b) above be expanded to include a requirement to disclose either the unconstrained amount of contract consideration or a qualitative disclosure of the potential upside associated with the constraint (i.e., highlight the amount of consideration which, subject to the revenue constraint in Step 3 of the proposed model, has not been recognised). In opposition, another Board member preferred that disclosure of unconstrained amounts not be provided as it confuses the principle of the model.

Two Board members expressed concern that the proposed disclosure did not include ‘backlog’ information. These Board members noted a number of requests from constituents to include ‘backlog’, which considers remaining performance obligations under the 2011 ED, but also includes other, less firm commitments, executory contracts, projections and work that is not yet completed under “framework arrangements”. However others noted that the Boards considered this topic when developing the 2011 ED but rejected this idea because it would have included revenue that is outside the scope of the proposed requirements.

When put to a vote, the Boards tentatively supported the staff recommendation, subject to the addition of a qualitative disclosure of the potential upside associated with the revenue constraint.

Contract costs, onerous performance obligations and qualitative information

The Boards then considered possible modifications to the proposed disclosure requirements in the 2011 ED relating to the disclosures about assets recognised from the costs to obtain or fulfil a contract with a customer (paragraphs 128-129 of the 2011 ED), onerous performance obligations (paragraphs 122-123 of the 2011 ED) and qualitative disclosures about performance obligations (paragraph 118 of the 2011 ED) and significant judgments (paragraphs 124 – 127 of the 2011 ED).

Considering feedback expressed during outreach activities, the staff recommended a number of edits to existing disclosure requirements including:

  1. Modifying the contract costs disclosure in paragraph 128 of the 2011 ED and retaining paragraph 129 of the 2011 ED. The modification to paragraph 128 would remove the requirement in the 2011 ED to provide a reconciliation of the beginning and ending asset balances. Instead, entities would be required to disclose the ending asset balances, the amount of amortisation and the amortisation method used.
  2. Removing the proposed disclosure requirements for onerous performance obligations in paragraph 122 and 123 from the 2011 ED and relying on the existing guidance for presentation and disclosure related to the onerous test, which include IAS 37 Provisions, Contingent Liabilities and Contingent Assets and Topic 605-35-45-1 and 605-35-45-2, Revenue Recognition.
  3. Retaining the qualitative disclosures in paragraphs 118 and 124 – 127 of the 2011 ED, adding a qualitative disclosure about the constraint (e.g., outlining how the entity determined the minimum amount of revenue that would not be subject to a significant revenue reversal and was therefore recognised) and ensuring that an entity’s policy footnote includes an entity’s election of a practical expedient.

In relation to a) above, one Board member requested that the required disclosure regarding changes in contract cost balances also reflect amounts capitalised (as opposed to just the ending asset balance and amount of amortisation). She believed it was necessary to specifically highlight significant non-routine changes, such as changes to contract balances arising from business combinations. However, others were uncertain as to what would constitute a non-routine or unusual change, while also noting that any material changes in contract costs would be subject to general disclosure requirements. While the FASB initially supported some form of qualitative disclosure regarding significant non-routine changes in contract, given concerns expressed by the IASB as to how non-routine or unusual would be defined, both Boards tentatively supported the staff recommendation in a) as outlined above.

In relation to b) above, both Boards tentatively supported the staff recommendation in b) without debate.

In relation to c) above, Board members expressed mixed views on requiring an entity to disclose which practical expedients have been used. Some Board members saw the election of a practical expedient as an accounting policy election which required disclosure. Others believed use of a practical expedient was not consistent with an accounting policy election. After an extended debate, the Boards acknowledged some of the ‘practical expedients’ in application of the model took the form of practical expedients (paragraphs 6 and 121 of the 2011 ED) while others took the form of policy elections (paragraphs 60 and 97 of the 2011 ED). The Boards tentatively agreed that disclosure should be required for policy elections only.

Another Board member suggested qualitative disclosure should be required related to judgements and estimates in capitalising contract acquisition costs. Board members tentatively supported this addition.

Finally, given all of the discussions regarding the revenue constraint throughout the Board meeting, one Board member requested that the proposals aggregate constraint disclosures to ensure preparers and users understand how the information fits together. Board members tentatively supported this amendment.

Absent the above amendments to the proposals in c) above, both Boards tentatively supported the staff recommendation in c).

Interim requirements

The Boards discussed possible refinements to the proposals in the 2011 ED that specify the disclosures about revenue and contracts with customers that an entity should include in its interim financial statements. Attempting to strike a balance between requests for additional interim information (primarily from U.S.-based users, but to some degree, users from other jurisdictions) with cost concerns expressed by preparers in providing this information timely, the staff provided the Boards with multiple alternatives including making no changes to the interim requirements in Topic 270 Interim Reporting and IAS 34 Interim Financial Reporting [Alternative A], amending Topic 270 and IAS 34 only to require the disaggregation of revenue disclosure in the interim financial statements (given the perceived significance of that particular disclosure) [Alternative B] or amending Topic 270 and IAS 34 to require the revised 2011 ED quantitative revenue disclosures (e.g., disaggregation of revenue, balance of contract assets and liabilities and an explanation of any significant movements in those balances and remaining performance obligations disclosure) [Alternative C]. The staff ultimately recommended that the Boards retain the logic from the 2011 ED, which required an entity to provide, at a minimum, the same quantitative revenue disclosures in interim financial statements as those required in annual financial statements.

Board views were mixed on this topic.

Several IASB members supported Alternative A given a desire to not override the existing interim requirements. They questioned whether the proposals in Alternatives B and C would result in the delayed issuance of financial statements, while also questioning why an amendment should be made to the interim requirements for this project but not for others. More directly, they did not see interim financial statements as an extension of annual filings. Rather, they believed the purpose of interim financial statements was to highlight significant changes since the latest annual financial statements.

Most of the remaining IASB members supported Alternative B. They appreciated the usefulness of information in Alternative C but did not want to completely override interim requirements. They saw Alternative B as a compromise to highlight what is considered a very significant disclosure to many analysts and users, without being overly burdensome to preparers.

The FASB, on the other hand, had mixed support amongst Alternatives B and C. While the support for Alternative B was based on similar ideas as those expressed by the IASB, many FASB members supported Alternative C given consideration to jurisdictional requirements. Specifically, they noted the U.S. earning models are based on quarterly information, and thus, required similar information on an interim basis as that which is provided on an annual basis. Many noted they were not overly concerned with a convergence difference between U.S. GAAP and IFRSs in this area given the different jurisdictional requirements.

When put to a vote, the IASB tentatively supported Alternative A and the FASB tentatively supported Alternative C. The IASB Chair asked the IASB if it was willing to support Alternative B to bridge the gap slightly between U.S. GAAP and IFRSs requirements. With a second vote, the IASB tentatively supported Alternative B, acknowledging that a convergence difference still existed.

Transition, effective date and early application

The Boards then discussed possible improvements to the requirements for transition and early adoption in the 2011 ED. The Boards also discussed the effective date of the new standard.

Transition

Attempting to balance user requests for retrospective application (for purposes of trend information) with preparer concerns about the costs of applying the requirements retrospectively, the staff suggested four possible alternatives to the transition requirements of the proposed revenue model:

  • Retrospective application with optional practical expedients as proposed in the 2011 ED [Alternative A]
  • Retrospective application as proposed in the 2011 ED with enhanced optional practical expedients (to broaden the practical expedient in paragraph 13(a)/C3(a) of the 2011 ED such that all completed contracts (i.e., contracts for which the entity has fully performed its obligations as of the date of initial application of the revenue standard, as determined under the legacy revenue guidance) would not be required to be restated) [Alternative B]
  • Retrospective application as proposed in the 2011 ED with enhanced practical expedients (consistent with Approach B above except that an entity would be prohibited from restating the comparative periods in its financial statements to avoid a mixed-measurement basis) and modified presentation (presentation of comparative periods under legacy revenue guidance with separate disclosure in the year of transition of all line items prepared under legacy revenue guidance) [Alternative C]
  • Optional prospective application [Alternative D]

The staff paper provided the following depiction of the different alternatives:

2013feb-revrec-notes-1

The staff recommended Alternative C.  The requirement in the 2011 ED that an entity apply the revenue standard retrospectively in accordance with Topic 250 Accounting Changes and Error Corrections or IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors would be retained, but the practical expedient in paragraph 133(a)/C3(a) of the 2011 ED would be expanded to allow entities to apply the standard as follows:

  • An entity should apply the revenue standard to all contracts in existence as of the start of the annual reporting period beginning on or after the effective date (i.e., the current year) and to all contracts entered into after that date;
  • The entity should recognise the cumulative effect of initially applying the revenue standard as an adjustment to the opening balance of retained earnings for the current year; and
  • For the current year, an entity should disclose how all of the financial statement line items of the current year have been affected as a result of applying the revenue standard rather than legacy revenue guidance.

Many Board members expressed support for the staff recommendation (believing it best balanced the cost for preparers with the benefits of trend information). However, several others outlined alternative approaches out of concern that Alternative C did not promote comparability and could lead to revenue being double-counted across years if the timing of revenue recognition differed between legacy GAAP and the new standard. Of the other alternatives outlined, the one that garnered the most support was effectively a change in the definition of a completed contract (compared with Alternative B). Specifically, this Board member suggested that contracts for which the entity has fully performed its obligations before the beginning of the earlier comparative period presented, as determined under the legacy revenue standard, would not require restatement. Otherwise, contracts would require retrospective restatement. He acknowledged that this approach did not provide as much relief as Alternative C, but he believed it responded to the comparability issue while still providing some relief to preparers. Several Board members questioned whether this alternative provided any relief to preparers as compared to retrospective application.

When put to a vote, the FASB tentatively supported the staff recommendation (Alternative C, with full retrospective application permitted). The IASB was split between the staff recommendation and the alternative approach outlined above. After discussing the alternatives again, the IASB re-voted – this time narrowly supporting the staff recommendation (Alternative C, with full retrospective application permitted).

Effective date and early application

Considering constituent feedback to the 2011 ED which requested additional time to prepare for transition if the Boards decide that the revenue standard would be applied retrospectively, the staff recommended an effective date for annual reporting periods beginning on or after 1 January 2017 (assuming the revenue standard is issued in the first half of 2013). Consistent with previous tentative decisions, the FASB staff proposed to prohibit early application while the IASB staff proposed to permit early application.

Several IASB members, commenting on the recent tentative decision to provide additional transitional relief, believed 2017 was too far in the future. They commented that the IASB typically provides 18 months between issuance and the mandatory effective date of a standard and questioned why more than three years was required in this case.

However, other Board members believed the extended timeline for mandatory application was necessary. They commented on the time required to educate people and update systems. One IASB member noted that she was comfortable with an effective date of 2017, but she believed the IASB should not permit early application in order to avoid comparability issues throughout the market. Many Board members supported this view, but some questioned why the IASB would not permit early application here when it permits early application in other standards.

When put to a vote, both Boards tentatively supported an effective date of annual reporting periods beginning on or after 1 January 2017 (assuming the revenue standard is issued in the first half of 2013) without permitting early application. However, it was suggested that the IASB may need to revisit its decision to not permit early application in a separate IASB only meeting.

Next steps

The staff noted that the Boards have completed their substantive redeliberations of the 2011 ED. In future months, the staff intend to bring to the Boards remaining and any new “sweep issues”. In addition, the staff will complete the steps required by each respective Boards’ due process, including an analysis of the costs and benefits of the final revenue standard and its potential effects.

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