progress – that is, a time-based measure of progress).
At contract inception, the entity considers the requirements in paragraphs 50–54 of IFRS 15 on estimating
variable consideration and the requirements in paragraphs 56–58 of IFRS 15 on constraining estimates of
variable consideration, including the factors in paragraph 57 of IFRS 15. The entity observes that the promised
consideration is dependent on the market and thus is highly susceptible to factors outside the entity’s influence.
In addition, the incentive fee has a large number and a broad range of possible consideration amounts. The entity
also observes that although it has experience with similar contracts, that experience is of little predictive value
in determining the future performance of the market. Therefore, at contract inception, the entity cannot conclude
that it is highly probable that a significant reversal in the cumulative amount of revenue recognised would not
occur if the entity included its estimate of the management fee or the incentive fee in the transaction price.
At each reporting date, the entity updates its estimate of the transaction price. Consequently, at the end of
each quarter, the entity concludes that it can include in the transaction price the actual amount of the quarterly
management fee because the uncertainty is resolved. However, the entity concludes that it cannot include its
estimate of the incentive fee in the transaction price at those dates. This is because there has not been a change
in its assessment from contract inception – the variability of the fee based on the market index indicates that
the entity cannot conclude that it is highly probable that a significant reversal in the cumulative amount of
revenue recognised would not occur if the entity included its estimate of the incentive fee in the transaction
price. At 31 March 20X8, the client’s assets under management are ¥100 million. Therefore, the resulting
quarterly management fee and the transaction price is ¥2 million.
At the end of each quarter, the entity allocates the quarterly management fee to the distinct services provided during
the quarter in accordance with paragraphs 84(b) and 85 of IFRS 15. This is because the fee relates specifically to
the entity’s efforts to transfer the services for that quarter, which are distinct from the services provided in other
quarters, and the resulting allocation will be consistent with the allocation objective in paragraph 73 of IFRS 15.
Consequently, the entity recognises ¥2 million as revenue for the quarter ended 31 March 20X8.
See 7 below for a discussion of allocating the transaction price.
Applying the constraint is a new way of evaluating variable consideration and it applies
to all types of variable consideration that must be estimated in all transactions.
For a number of entities, the treatment of variable consideration under the standard
could represent a significant change from previous practice.
Under legacy IFRS, preparers often deferred measurement of variable consideration
until revenue was reliably measurable, which could be when the uncertainty is removed
or when payment is received.
Furthermore, legacy IFRS permitted recognition of contingent consideration, but only
if it was probable that the economic benefits associated with the transaction would flow
to the entity and the amount of revenue could be reliably measured. [IAS 18.14, 18, IAS 11.11].
Some entities, therefore, deferred recognition until the contingency was resolved.
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Some entities had looked to US GAAP to develop their accounting policies in this area.
Legacy US GAAP had various requirements and thresholds for recognising variable
consideration. As a result, the accounting treatment varied depending on which US GAAP
standard was applied to a transaction. For example, the revenue recognition requirements
in ASC 605-25 limited the recognition of contingent consideration when the amounts
depended on the future performance of the entity and SAB Topic 13 required that the
transaction price be fixed or determinable in order to recognise revenue.71
In contrast, the constraint on variable consideration in the standard is an entirely new
way of evaluating variable consideration and is applicable to all types of variable
consideration in all transactions. As a result, depending on the requirements entities
were previously applying, some entities may recognise revenue sooner under the
standard, while others may recognise revenue later.
6.2.3.A Applying
the
constraint on variable consideration: contract level versus
performance obligation level
At the January 2015 TRG meeting, the TRG members were asked whether an entity was
required to apply the constraint on variable consideration at the contract level or at the
performance obligation level.
The TRG members generally agreed that the constraint would be applied at the contract
level and not at the performance obligation level. That is, the significance assessment of
the potential revenue reversal would consider the total transaction price of the contract
(and not the portion of transaction price allocated to a performance obligation).72
Stakeholders raised this question because the standard refers to ‘cumulative revenue
recognised’ without specifying the level at which this assessment would be performed
(i.e. at the contract level or performance obligation level). Furthermore, the Basis for
Conclusions could be read to indicate that the assessment should occur in relation to
the cumulative revenue recognised for a performance obligation. [IFRS 15.BC217].
6.2.3.B
Would an entity be required to follow a two-step approach to estimate
variable consideration?
The Board noted in the Basis for Conclusions that an entity is not required to strictly
follow a two-step process (i.e. first estimate the variable consideration and then apply
the constraint to that estimate) if its internal processes incorporate the principles of both
steps in a single step. [IFRS 15.BC215]. For example, if an entity already has a single process
to estimate expected returns when calculating revenue from the sale of goods in a
manner consistent with the objectives of applying the constraint, the entity would not
need to estimate the transaction price and then separately apply the constraint.
A TRG agenda paper also noted that applying the expected value method, which requires
an entity to consider probability-weighted amounts, may sometimes achieve the objective
of the constraint on variable consideration.73 That is, in developing its estimate of the
transaction price in accordance with the expected value method, an entity reduces the
probability of a revenue reversal and may not need to further constrain its estimate of
variable consideration. However, to meet the objective of the constraint, the entity’s
estimated transaction price would need to incorporate its expectations of the possible
consideration amounts (e.g. products not expected to be returned) at a level at which it is
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highly probable that including the estimate of variable consideration in the transaction price
would not result in a significant revenue reversal (e.g. such that it is highly probable that
additional returns above the estimated amount would not result in a significant revers
al).
6.2.4
Reassessment of variable consideration
The standard specifies that at the end of each reporting period, an entity must ‘update
the estimated transaction price (including updating its assessment of whether an
estimate of variable consideration is constrained) to represent faithfully the
circumstances present at the end of the reporting period and the changes in
circumstances during the reporting period.’ The entity accounts for changes in the
transaction price in accordance with paragraphs 87–90 of IFRS 15. [IFRS 15.59].
When a contract includes variable consideration, an entity needs to update its estimate
of the transaction price throughout the term of the contract to depict conditions that
exist at the end of each reporting period. This involves updating the estimate of the
variable consideration (including any amounts that are constrained) to reflect an entity’s
revised expectations about the amount of consideration to which it expects to be
entitled, considering uncertainties that are resolved or new information that is gained
about remaining uncertainties. As discussed in 6.2.3 above, conclusions about amounts
that may result in a significant revenue reversal may change as an entity satisfies a
performance obligation. See 7.5 below for a discussion of allocating changes in the
transaction price after contract inception.
6.3 Refund
liabilities
An entity may receive consideration that it will need to refund to the customer in the
future because the consideration is not an amount to which the entity ultimately will be
entitled under the contract. If an entity expects to refund some or all of that consideration,
the amounts received (or receivable) need to be recorded as refund liabilities.
A refund liability is measured ‘at the amount of consideration received (or receivable)
for which the entity does not expect to be entitled (i.e. amounts not included in the
transaction price).’ An entity is required to update its estimates of refund liabilities (and
the corresponding change in the transaction price) at the end of each reporting period.
The standard also notes that, if a refund liability relates to a sale with a right of return,
an entity applies the specific application guidance for sales with a right of return.
[IFRS 15.55].
While the most common form of refund liabilities may be related to sales with a right
of return, the refund liability requirements also apply when an entity expects that it
will need to refund consideration received due to poor customer satisfaction with a
service provided (i.e. there was no good delivered or returned) and/or if an entity
expects to have to provide retrospective price reductions to a customer (e.g. if a
customer reaches a certain threshold of purchases, the unit price is retrospectively
adjusted). For a discussion of the accounting for sales with a right of return, see 6.4
below. We address the question of whether a refund liability is a contract liability
(and, therefore, subject to the presentation and disclosure requirements of a contract
liability) at 11.1.1.D below.
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6.4
Rights of return
The standard notes that, in some contracts, an entity may transfer control of a product
to a customer, but grant the customer the right to return. In return, the customer may
receive a full or partial refund of any consideration paid; a credit that can be applied
against amounts owed, or that will be owed, to the entity; another product in exchange;
or any combination thereof. [IFRS 15.B20]. As discussed at 5.7 above, the standard states
that a right of return does not represent a separate performance obligation. [IFRS 15.B22].
Instead, a right of return affects the transaction price and the amount of revenue an
entity can recognise for satisfied performance obligations. In other words, rights of
return create variability in the transaction price.
Under IFRS 15, rights of return do not include exchanges by customers of one product
for another of the same type, quality, condition and price (e.g. one colour or size for
another). [IFRS 15.B26]. Nor do rights of return include situations where a customer may
return a defective product in exchange for a functioning product; these are, instead,
evaluated in accordance with the warranties application guidance on warranties
(see 10.1 below). [IFRS 15.B27].
‘To account for the transfer of products with a right of return (and for some services
that are provided subject to a refund), an entity shall recognise all of the following:
(a) revenue for the transferred products in the amount of consideration to which the
entity expects to be entitled (therefore, revenue would not be recognised for the
products expected to be returned);
(b) a refund liability; and
(c) an asset (and corresponding adjustment to cost of sales) for its right to recover
products from customers on settling the refund liability.’ [IFRS 15.B21].
Under the standard, an entity estimates the transaction price and applies the constraint to
the estimated transaction price to determine the amount of consideration to which the
entity expects to be entitled. In doing so, it considers the products expected to be returned
in order to determine the amount to which the entity expects to be entitled (excluding
consideration for the products expected to be returned). The entity recognises revenue
based on the amount to which it expects to be entitled through to the end of the return
period (considering expected product returns). An entity does not recognise the portion
of the revenue subject to the constraint until the amount is no longer constrained, which
could be at the end of the return period. The entity recognises the amount received or
receivable that is expected to be returned as a refund liability, representing its obligation
to return the customer’s consideration (see 6.3 above). Subsequently, at the end of each
reporting period, the entity updates its assessment of amounts for which it expects to be
entitled and make a corresponding change to the transaction price (and, therefore, to the
amount of revenue recognised). [IFRS 15.B23].
As part of updating its estimate, an entity must update its assessment of expected returns
and the related refund liabilities. [IFRS 15.B24]. This remeasurement is performed at the end
of each reporting period and reflects any changes in assumptions about expected returns.
Any adjustments made to the estimate result in a corresponding adjustment to amounts
recognised as revenue for the satisfied performance obligations (e.g. if the entity expects
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the number of returns to be lower than originally estimated, it would have to increase the
amount of revenue recognised and decrease the refund liability). [IFRS 15.B23, B24].
Finally, when customers exercise their rights of return, the entity may receive the
returned product in a saleable or repairable condition. Under the standard, at the time of
the initial sale (i.e. when recognition of revenue is deferred due to the anticipated return),
the entity recognises a return asset (and adjusts the cost of goods sold) for its right to
recover the goods returned by the customer. [IFRS 15.B21]. The enti
ty initially measures this
asset at the former carrying amount of the inventory, less any expected costs to recover
the goods, including any potential decreases in the value of the returned goods. Along with
remeasuring the refund liability at the end of each reporting period, the entity updates the
measurement of the asset recorded for any revisions to its expected level of returns, as
well as any additional decreases in the value of the returned products. [IFRS 15.B25].
IFRS 15 requires the carrying value of the return asset to be presented separately from
inventory and to be subject to impairment testing on its own, separately from inventory
on hand. The standard also requires the refund liability to be presented separately from
the corresponding asset (on a gross basis, rather than a net basis). [IFRS 15.B25].
The standard provides the following example of rights of return. [IFRS 15.IE110-IE115].
Example 28.42: Right of return
An entity enters into 100 contracts with customers. Each contract includes the sale of one product for CU100
(100 total products × CU100 = CU10,000 total consideration). Cash is received when control of a product
transfers. The entity’s customary business practice is to allow a customer to return any unused product
within 30 days and receive a full refund. The entity’s cost of each product is CU60.
The entity applies the requirements in IFRS 15 to the portfolio of 100 contracts because it reasonably expects that,
in accordance with paragraph 4, the effects on the financial statements from applying these requirements to the
portfolio would not differ materially from applying the requirements to the individual contracts within the portfolio.
Because the contract allows a customer to return the products, the consideration received from the customer
is variable. To estimate the variable consideration to which the entity will be entitled, the entity decides to
use the expected value method (see paragraph 53(a) of IFRS 15) because it is the method that the entity
expects to better predict the amount of consideration to which it will be entitled. Using the expected value
method, the entity estimates that 97 products will not be returned.
The entity also considers the requirements in paragraphs 56-58 of IFRS 15 on constraining estimates of
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