Download 9. Exercise Questions

for Accounting Professionals
IAS 18 REVENUE
2011
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IAS 18 REVENUE
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Moscow, Russia
2011 Updated
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IAS 18 REVENUE
CONTENTS
1. Introduction and Definitions
1. Introduction and Definitions ..................................... 3
Aim .......................................................................................................3
Objective ...............................................................................................3
Definitions .............................................................................................4
2. Transaction Identification
11
3. Sale of Goods
11
4. Provision of Services
22
5. Interest, Royalties and Dividends .......................... 26
6. Disclosure
36
7.Specific Examples
36
Aim
The aim of this workbook is to assist you to understand Revenue
according to IFRS.
Objective
Revenue is the subject of International Accounting Standard 18.
IAS 11, 17, 28, 41, IFRS 9 and 11 complement IAS 18.
Revenue is income that is derived from ordinary activities of the
firm.
Income comprises revenue and gains.
Sale Of Goods .................................................................................... 36
Provision Of Services .......................................................................... 48
The timing of recognition of revenue is a key issue of the standard.
Interest, Royalties And Dividends ....................................................... 57
Revenue is recognised when it is probable that future economic
8. Multiple choice Questions
59
9. Exercise Questions
62
benefits will flow to the firm, and the benefits can be measured.
10.Solutions
63
For banks, IAS 32, IFRS 9 and IFRS 7 provide the presentation,
Answers to Multiple Choice Questions: ............................................... 64
Answers to Exercise Questions:.......................................................... 64
recognition, measurement and disclosure of financial instruments.
Other sources of income are subject to IAS 18. Of special importance
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IAS 18 REVENUE
to banks is the treatment of interest, dividends and royalties covered
Multiple element contracts should generally be separated into their
in this workbook.
constituent parts and each part accounted for separately, unless the
The sale of goods (IAS 18) can be distinguished from the sale of
commercial effect of each transaction cannot be understood without
services under construction (IAS 11) and other contracts (mostly IAS
considering the separate components as a single transaction.
18). The seller’s performance under service contracts and
The primary issue in accounting for revenue from the sale of goods
is when revenue should be recognised.
construction contracts is not immediate, and often takes place over
several reporting periods.
Goods are those items produced and/or purchased for resale, and
Revenue recognition involves consideration of whether an asset
has been sold and should be de-recognised; and whether the
revenue from the sale is collectible and measurable.
property held for resale, for example by a property developer.
Revenue should be recognised only when the earning process is
complete.
Consequently different revenue recognition considerations apply.
Definitions
Revenue
Contracts for the sale of goods may be combined with contracts for
services. Undertakings in some industries bundle the sale of goods
and services into one contract.
An example is the provision of software, installation of hardware and
Other than increases from contributions by investors, Revenue is the
gross inflow of benefits from ordinary activities, when those inflows
result in increases in equity.
Fair value
after-sales customer support by an IT undertaking.
The price that would be received to sell an asset, or paid to
transfer a liability, in an orderly transaction between market
participants at the measurement date. (IFRS 13)
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IAS 18 REVENUE
Excluded from revenue are amounts collected on behalf of others,
such as sales taxes, value added tax and money collected on behalf
e) is responsible for the goods while they are stored in its
warehouse, but undertaking B bears the risk of obsolete goods.
Undertaking B retains product liability. B is therefore responsible for
manufacturing defects, and the credit risk rests with B.
of a principal, in an agency relationship.
Agency arrangements
1. Issue
The gross inflows of economic benefits in an agency relationship
include amounts collected on behalf of the principal which do not
result in increases in equity for the undertaking.
Should undertaking B recognise revenue on transfer of goods to
undertaking A?
Background
Undertaking A distributes undertaking B’s products under a
distribution agreement. The terms and conditions of the contract
are such that undertaking A:
a) obtains title to the goods and sells them to third party retailers;
b) stores, repackages, transports and invoices the goods sold to
third party retailers;
c) earns a fixed margin on the products sold to the retailers, but has
no flexibility in establishing the sales price;
d) has the right to return the goods to undertaking B without
penalty; and
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Solution
No. Undertaking A is in substance acting as agent for the principal
undertaking B. Undertaking B does not transfer the risks and
rewards of ownership of the goods to A, and retains continuing
managerial involvement with the goods.
Undertaking A has the option to return the goods and B bears the
product and inventory risks. Undertaking B retains continuing
managerial involvement with the goods by being able to set the
sales price.
Undertaking A should recognise an agency fee or commission
revenue in its income statement. Undertaking B should continue to
recognise the inventory on its balance sheet.
B should only recognise revenue once substantially all the risks and
rewards of ownership have been transferred, which will be when A
sells the goods to a third party.
Whether an undertaking is functioning as an agent or principal is
always dependent on the facts and circumstances of the
relationship.
As a minimum a principal:
a) has a contractual relationship with the customer, that is, the
customer believes it is doing business with the principal;
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IAS 18 REVENUE
b) is able set the terms of the transactions, such as selling price
and payment terms;
c) bears the risk associated with inventory;
d) bears credit risk; and
e) controls the flow of receipts and payments.
2. Agency arrangements
Issue
Revenue from sales to intermediate parties, such as distributors,
dealers or others, for resale is generally recognised when the risks
and rewards of ownership have passed.
Solution
Undertaking A should recognise revenue at the earlier of
undertaking B’s receiving payment from the third party or three
months after the sale, provided that the goods are not returned.
Although legal title of ownership has transferred from undertaking A
to undertaking B, the risks and rewards of ownership have not
passed from A to B for the following reasons:
a) undertaking B has the right to return the clothes and undertaking
A is uncertain about the probability of return; and
b) undertaking B only has to pay undertaking A once the clothes
are sold to third parties or after 3 months if undertaking B does not
return the clothes.
Measurement
When should revenue be recognised in the following example?
Background
Undertaking A manufactures clothing and has one major dealer,
undertaking B. Undertaking A provides undertaking B with an
extended credit line whereby A supplies merchandise to B that can
be sold on to third parties.
B stores the merchandise in its warehouse. Transfer of the legal
title of ownership passes to B when it receives the clothes.
Undertaking B does not have to pay for the merchandise until it
receives the payment from the third party.
After three months, undertaking B can either return the clothes to A
if they are not sold, or pay undertaking A for the merchandise and
keep it.
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Revenue should be measured at the fair value of the consideration
received, or receivable. A cash sale is recognised at the amount of
cash received.
The fair value of revenue receivable from a credit sale is the
present value of the cash receivable. The difference between the
discounted and undiscounted revenue is usually not material for a
short credit period and can be ignored.
However, present value of the revenue is recognised if a longer,
interest-free credit period is given. The discount rate used should
be the customer’s borrowing rate, not the seller’s borrowing rate.
The difference between the fair value and the nominal amount of
the consideration should be deferred in the balance sheet and
recognised as interest revenue using the effective interest method.
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Trade discounts and volume rebates should be subtracted from
revenue.
Once revenue is recognised, any subsequent uncertainty about the
collectability of the revenue is recognised as an adjustment to the
amount receivable rather than as an adjustment to revenue.
Recognition of settlement discounts
Solution
Management should recognise revenue for 991, being the fair value
of the consideration receivable calculated as the gross sales value
of 1,000 reduced by the amount of estimated settlement discounts
of 9 (1,000 x 45% x 2%).
A provision of 9 should also be recognised in order to reflect the
obligation to give the settlement discount to the customers.
Issue
The accounting entries would be as follows:
How should management treat settlement discounts at the date of
sale?
Background
1.
At point of sale
Dr
Trade receivables
Cr
An undertaking sells canned food and has 100 customers. The
delivery of the goods is made on the last day of each month.
Standard payment terms require settlement within 45 days of
delivery.
The undertaking’s policy is to grant a settlement discount of 2% to
customers that pay within 15 days of delivery.
Past experience shows that 45% of the customers normally pay
within 15 days, while the remaining 55% pay after the early
settlement period.
The undertaking will deliver the next batch of canned foods to its
customers on 31 January 20X3. The total invoiced selling price for
all deliveries amounted to 1,000.
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1,000
991
Sales revenue
9
Cr
Provision against
receivables for early settlement
The trade receivables balance is presented net of the provision
against receivables for early settlement on the face of the balance
sheet.
2.
At settlement of the discount
Dr
Provision against receivables for
early settlement
Cr
Trade receivables
9
9
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IAS 18 REVENUE
Where extended credit is given, either interest-free or at an interest
The finance company does not have any recourse to A for bad or
slow payment by the customer.
charge below market rates, future receipts should be discounted to
How much revenue should A recognise and when?
net present value.
Recognition of sales on interest free credit
Issue
Revenue should be measured at the fair value of the consideration
received or receivable.
Solution
Undertaking A will receive 82 from the finance company in respect
of the sale at, or close to, the time of the sale. A should therefore
recognise revenue of 82.
How should an undertaking recognise revenue on the sale of goods
on interest free credit?
Undertaking A should derecognise the receivable of 82 on receipt
of the consideration from the finance company. The finance
company does not have recourse to undertaking A in respect of
slow payment or non-payment by the customer.
Background
Undertaking A is a retailer and offers interest-free credit to a
customer as part of its marketing strategy. The interest-free credit is
provided by a finance company.
Assuming all other terms of the arrangement support the conclusion
that undertaking A has transferred substantially all the risks and
rewards of ownership of the receivable to the finance company,
derecognition is appropriate [IFRS 9].
The legal form of the transaction is that A sells the goods to the
customer at 100 and simultaneously the customer enters into a
finance arrangement with the finance company.
In the following examples, I/B refers to Income Statement and
Balance Sheet (SFP)
This arrangement results in the finance company settling the
customer’s account with the retailer and receiving 100 from the
customer over two years.
The terms of the finance arrangement provide for undertaking A to
receive 82 from the finance company. The finance company
receives 100 from the customer over two years. A does not receive
any further amounts from the customer or the finance company.
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IAS 18 REVENUE
Example:
You exchange corn for two machines. One has a market price of
$400. One has no market price, and you exchange corn worth $375
for this machine. The corn exchanged is in inventory, valued at
$500. Your revenue = $775, and you have new fixed assets worth
$775.
Asset 1
Asset 2
Revenue - Corn Sales
Cost of corn sales
Inventory
Assets exchanged for inventory
I/B
B
B
I
I
I
DR
400
375
CR
775
500
adjusted for any cash payment or receipt, relating to the
transaction.
Advertising barter transactions
Issue
When goods are sold or services rendered in exchange for
dissimilar goods or services, the transaction is considered to
generate revenue.
500
Where goods are exchanged, revenue is created.
Barter transactions
Goods may be sold under barter type arrangements whereby the
consideration is goods rather than cash. Revenue should only be
recognised if the sale represents the completion of the earnings
process.
This is assumed to be the case where the goods or services
exchanges are dissimilar.
The exchange of inventory in different locations by petrol retailers,
for example, is the exchange of similar goods and does not
represent the completion of the earnings process, and
consequently no revenue is recorded.
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Fair value may be determined as the value of the goods given up,
The revenue is measured at fair value of the goods or services
received, adjusted by the amount of any cash, or cash equivalents,
transferred. When the fair value of the goods or services received
cannot be measured reliably, the revenue is measured at the fair
value of the goods or services given up.
That amount is adjusted by the amount of any cash or cash
equivalents transferred.
What is the measurement basis of cost of sales in a transaction
where both parties exchange advertising services?
Background
Undertaking A, an internet undertaking, provides advertising on its
website for a football club. The football club promotes A on the
players’ shirts in return; no cash is exchanged. The fair value of the
advertising A provides is 50,000.
Solution
The measurement basis is the fair value of services that A provides.
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IAS 18 REVENUE
The medium of the advertising is dissimilar in nature. The exchange
will therefore be regarded as a transaction that generates revenue.
Undertaking A will recognise 50,000 as both revenue and cost of
sales, being the fair value of the services provided to the football
club. The revenues should be disclosed as part of the disclosure of
revenues realised from barter transactions.
Exchange of dissimilar goods
The agreement provides for the travel agency to place radio
advertisements to the value of 15,000 and in return the radio
broadcaster advertises on the travel agency’s web page.
The travel agency has previously sold similar web-site advertising
space to others for cash of 10,000.
Solution
The travel agency should recognise advertising revenue of 10,000
and advertising expenses, also of 10,000.
Issue
The exchange of goods or services for dissimilar goods or services
should be regarded as a transaction, which generates revenue.
This is calculated by reference to the value of advertising services
provided and not by reference to the value of services received.
An undertaking should measure revenue at the fair value of goods
or services received in a barter transaction.
The medium of the advertising (broadcasting vs web site
advertisements) is dissimilar in nature. The sale is therefore
regarded as a transaction that generates revenue.
However, if the fair value of the goods or services received cannot
be measured reliably, the revenue should be measured at the fair
value of the goods or services given up.
This general principle is clarified for barter transactions involving
advertising services. The revenue of such transactions should
always be recognised at the fair value of services provided, not the
fair value of services received.
On what basis should management recognise revenue and costs
from a barter transaction?
Background
A travel agency sells low-price holidays. The agency has entered
into an advertising agreement with a radio broadcaster.
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Revenue recognition for barter transactions
Issue
Should management recognise revenue from a barter transaction?
Background
Undertaking A, an internet undertaking, provides advertising on its
website for a football club. The club promotes undertaking A on the
players’ shirts in return. No cash is exchanged between A and the
football club. The fair value of advertising that A provides is 50,000.
Solution
Yes, the medium of the advertising is dissimilar in nature. The
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exchange will therefore be regarded as a transaction that generates
revenue.
Undertaking A will recognise 50,000 as revenue, being the fair
value of the services provided to the football club.
An undertaking should measure revenue at the fair value of goods
or services received in a barter transaction. However, if the fair
value of the goods or services received cannot be measured
reliably, the revenue should be measured at the fair value of the
goods or services given up.
Current revenue = $4400, deferred revenue = $600.
The $600 is considered a payment in advance of service, and will
be recognised as revenue when the services occur, or at the end of
the 6-month period.
Combined transactions, such as a sale and repurchase agreement,
are dealt with as one transaction.
3.
Sale of Goods
This general principle is clarified for barter transactions involving
advertising services. The revenue of such transactions should
always be recognised at the fair value of services provided, not the
fair value of services received and measured in relation to previous
non-barter transactions of similar services with a different counter
party.
2.
Transaction Identification
If a transaction involves a servicing element of the product sold, the
revenue relating to the service is spread over the period of the
service.
A sale is recognised when all the following conditions have been
satisfied:
1. The seller has passed to the buyer the significant risks, and
rewards of ownership of the goods.
2. The seller no longer has effective control over the goods, nor
continuing management involvement normally associated
with ownership.
3. Revenue can be measured reliably.
4. It is probable that the seller will receive economic benefits
from the transaction.
5. Costs related to the transaction can be reliably measured.
An undertaking must make adequate provision for collection risks.
Example:
You sell a car for $5000 and promise to service it twice in 6 months.
The value of each service =$300
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IAS 18 REVENUE
Table: Application of revenue recognition criteria
Revenue recognition can be best understood by reference to a
number of common commercial situations that are described below:
Seller has
transferred
risks &
rewards
Title transferred
with delivery of Y
goods in an
unconditional
sale
arrangement
Title transferred
with delivery of N
goods, in an
agency
arrangement.
Goods are
transferred, but
seller retains
title for credit
protection
purposes
Y
Seller has
relinquished
managerial
involvement
Y
N
Y
Point at which
revenue should
be recognised
On transfer of
goods
When agent’s
right to return
goods is
relinquished
and/or agent has
generated third
party revenue
On transfer of
goods. Credit risk
is not a significant
risk of ownership
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Example:
You sell goods valued at $200, on credit to a customer with a good
credit record.
Recognise $200 as revenue immediately and an account receivable
for $200.
I/B
B
I
Accounts receivable
Revenue
Credit sale
Goods
transferred, sale Y
is unconditional;
however, sale
price is not fixed
until buyer takes
delivery of
goods
Buyer and seller
enter in a
N
layaway sales
arrangement.
Buyer and seller
enter into a bill Y
and hold sale
arrangement
Y
N
Y
DR
200
CR
200
On transfer of
goods
When buyer
takes delivery of
goods
When the buyer
takes title
provided the
conditions for a
bill and hold sale
are met
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IAS 18 REVENUE
Buyer takes
N
delivery of
goods, payment
to be made
subject to
satisfactory
installation
Buyer takes
Will depend
delivery of
on facts and
goods, seller
circumstances
guarantees
product
performance
outside of
normal warranty
provisions
Buyer takes
delivery of
goods, seller
guarantees
product
performance
within normal
warranty
provisions
Buyer takes
delivery of
goods, seller
continues to
share in certain
benefits.
Y
N
When installation
and inspection is
complete
When seller is no
Will depend
longer exposed to
on facts and
circumstances significant risk
and has no further
performance
obligation
Y
When buyer
takes delivery of
goods
Seller transfers
goods to the
N
buyer, seller has
an obligation to
repurchase
goods
Seller transfers
goods to the
N
buyer, seller has
an option to
repurchase
goods at an
amount below
their fair value
N
N
No sale is
recognised, as
substantially all
the risks and
rewards are
retained
When seller
relinquishes
purchase option
Lay-away sales
Issue
At what point in the following transaction should revenue be
recognised?
Will depend
on facts and
circumstances
Will depend on When seller has
facts and
relinquished right
circumstances to significant
benefits
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Background
Undertaking A enters into a sale agreement (lay-away) to sell 10
television sets at a total price of 15,000 (1,500 per television) to a
customer. A has only 5 televisions in stock and set them aside in
its inventory.
A collects a cash deposit of 1,000 from the customer. The
television sets are not released to the customer until the full
purchase price is paid.
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IAS 18 REVENUE
gymnasiums.
The customer has to finalise the purchase in three months or it
forfeits the cash deposit.
Undertaking A must either refund the cash deposit to the customer
or provide a replacement product if the television sets are damaged
or lost.
Solution
Undertaking A should recognise 15,000 as revenue when the 10
television sets are delivered to the customer.
A retains the risk of ownership of the merchandise and does not
have an enforceable right to the remainder of the purchase price
prior to delivery.
The amount of a cash deposit should be recognised as a liability up
to that point.
The customer may in addition to the purchase of the equipment
enter into a servicing agreement for maintenance services provided
on a fee for services basis.
The price of the equipment and the maintenance package is
100,000. The undertaking also provides maintenance services and
equipment sales separately.
The price of maintenance contracts is 10,000 a year, and the cost
of the equipment when sold separately is 95,000.
Undertaking C delivered and installed the equipment on 1 October
20X1. On 1 October 20X1 the customer paid a 20% deposit
(20,000). The outstanding balance of 80,000 is payable in
accordance with the undertaking’s normal credit terms (60 days).
The undertaking has a December year-end.
One contract with separate elements
Issue
The recognition criteria should be applied to separately identifiable
components of a single transaction in order to reflect the substance
of the transaction.
On what basis should management recognise revenue on a
contract with separate elements?
Background
Undertaking C manufactures and supplies fitness equipment to
health clubs, schools and corporate undertakings that run private
Solution
Management should account for the manufacture and supply and
the maintenance support as separate elements of the contract.
The best indicator that a separate element exists in a bundled
contract is that the seller could sell that element unaccompanied by
other elements, and that the revenue and costs for each element
can be separately identified.
The discount of 5,000 that the customer obtains by buying both
components should be allocated to each component in proportion
to the fair value of the component.
Revenue of 90,476 (100,000 x 95,000/105,000) for the sale of the
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IAS 18 REVENUE
equipment should be recognised on 1 October 20X1.
All of the following conditions that are necessary for the recognition
of revenue from the sale of goods are satisfied:
a) undertaking C has transferred significant risks and rewards of
ownership to the buyer;
b) undertaking C has relinquished managerial involvement and
effective control over the goods;
c) the costs incurred or to be incurred can be measured reliably;
d) it is probable that any future economic benefit associated with
the revenue will flow to the undertaking; and
e) the revenue has a cost or value that can be measured reliably.
Revenue of 9,524 (100,000 x 10,000/105,000) that relates to the
maintenance contract should be recognised over the 12-month
period of the contract (2,381 for the year ended 31 December
20X1, and 7,143 for the year ended 31 December 20X2).
The retailer is under no obligation to purchase mittens from F plc
over the three-year term of the contract but F plc is prevented by
the contract from selling mittens to any other retailer.
Can F plc recognise the £500,000 received in cash as revenue on
the date the contract is signed, on the basis that F plc has
completed its contractual performance at that date?
IAS 18 contains the concept of a multiple-element arrangement.
This is a contractual arrangement that consists of two or more
elements that are, in substance, separate, distinct parts of the
contract, one or more of which could be supplied or purchased
without the other parts of the contract.
IAS 18 states that such elements are separately identifiable. The
term separately identifiable is not defined in IAS 18. However, two
elements of a contractual arrangement operate independently
where one could be supplied independently of the other.
The two elements of this contract can be considered to operate
independently. F plc has contracted not to supply mittens to any
other retailer and has received £500,000 in consideration for this.
Recognition of contract signing bonus
In addition, F plc has agreed to sell woolly mittens to the retailer at
their fair value at the date the contract was signed.
F plc is a supplier of woolly mittens. It contracts with a retailer to
supply only that retailer with mittens, at £10 per pair (which is the
fair value for a pair of such mittens at the date the contract is
signed) for a period of three years.
However, although F plc has received £500,000 in cash, it has not
completed its contractual performance entitling it to keep that
consideration.
On signing the contract, F plc receives a non-refundable cash
payment of £500,000.
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Indeed, because F has contracted not to perform (ie, not to supply
mittens to any other retailer), it completes its non-performance over
time and should recognise the £500,000 revenue over the period of
the contract and not on the date the contract is signed.
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IAS 18 REVENUE
The revenue on the sale of each pair of mittens should be
recognised as a sale of goods in accordance with IAS 18.
The circumstances under which B could not accept the equipment
are limited to those in which the equipment does not perform to
published specifications.
Would the answer be different if the fair value of the mittens is
£15 a pair, but F plc sells them for £10 a pair to the retailer?
Yes. IAS 18 requires F plc to recognise the consideration for each
element of the contract at fair value. To the extent that there is
cross-subsidisation between the
elements of the contract, the revenue recognised on the completion
of each element must be adjusted to ensure compliance with the
standard.
Solution
Revenue should be recognised when title to the equipment passes
to undertaking B. The transfer of title coincides with the transfer of
risks and rewards of ownership.
Undertaking A has not retained significant risks of ownership, and
has no further obligations to perform at that point beyond those
specified in the warranty agreement.
The transfer of legal title normally passes the risks and rewards.
Transfer of title
Issue
At what point is it appropriate to recognise revenue in the following
example
date of the agreement;
transfer of title/delivery date;
payment date?
Background
Undertaking A and undertaking B enter into a sale agreement in
which title to a piece of equipment passes to B on delivery.
Payment is due thirty days after delivery. Undertaking A is not
responsible for any post-delivery services other than those imposed
by the terms of the equipment's warranty.
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Undertaking A should recognise a liability for returns based on
previous experience and other relevant factors.
Sales agreement
Issue
A condition to be satisfied before revenue can be recognised from
the sale of goods is that the seller has transferred the significant
risks and rewards of ownership of the goods to the buyer.
The transfer of significant risks and rewards of ownership requires
an examination of the circumstances of the transaction.
Should management recognise revenue on the basis of a oral
approval from a customer’s management?
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IAS 18 REVENUE
Background
Retention of legal title to protect collectability
Undertaking A entered into a contract to supply goods to
undertaking B in November 20X2. A delivered the goods to B
before the December year-end.
Issue
A’s normal business practice and policy is to enter into a written
sales agreement that requires the signatures of the authorised
representatives of A and its customer (undertaking B).
The sale agreement was signed by undertaking A’s authorised
representatives before year-end. The agreement was not signed by
B however, because it is awaiting the requisite approval by its legal
department.
B’s management has orally agreed to the sale, subject to that
approval. B’s management believes that its legal department will
approve the agreement in the first week of 20X3.
Solution
No, undertaking A should not recognise revenue before the
customer has endorsed the sales agreement.
Should a transaction be recognised as a sale if a seller retains the
legal title to protect collectability of the amount due?
Background
Undertaking A operates in a country where it is commonplace to
retain title to goods sold as protection against non-payment by a
buyer. The retention of the title will enable undertaking A to recover
the goods if the buyer defaults on payment.
Subsequent to the delivery of the goods to the buyer (undertaking
B), undertaking A does not have any control over the goods.
Undertaking B makes payments in accordance with the normal
credit terms provided by A.
Product liability is assumed by B. Settlement is due 14 days after
delivery.
Solution
The terms and conditions set out in the sales agreement will be
binding once signed by both undertaking A and undertaking B, and
will form the basis for revenue recognition by undertaking A.
Yes. Undertaking A has sold the goods to undertaking B. The buyer
controls the goods following the delivery and is free to use or
dispose of them as it wishes.
Prior to that event, A will not be able to assess whether it has
transferred the risks and rewards of ownership to B, or has
continuing involvement or effective control over the goods to be
sold.
The most significant risk of ownership, the product risk, has been
transferred to B. A’s retention of legal title does not affect the
substance of the transaction, which is the sale of goods from A to
B.
Normal credit risk derived from sales is not a reason to defer
revenue recognition.
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Undertaking A should therefore derecognise the inventory and
recognise the revenue from the sale.
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IAS 18 REVENUE
The retention of credit risk should not prevent the recognition of
revenue. Credit risk is not a risk of ownership of goods but a risk of
the collection of an amount due.
The effect of credit risk should be reflected in the initial
measurement of the receivable at fair value.
Retention of significant risks means that the sale will not be
recognised. For example:
Solution
A’s management should recognise revenue on the sale of the
goods, with an appropriate adjustment to reflect the risk of returns.
Management should recognise revenue for the 90% of CD players
it does not expect to receive back from customers, and recognise a
provision for the 10% of expected returns.
The entries to recognise the revenue and the provision will be:
1. If the contract allows the goods to be returned and you cannot
reasonably estimate the probability of return, the sale cannot be
recognised until customer acceptance is clear.
Dr
Receivables / cash
Cr
Revenue
Sale of goods with right of return
Cr
Provision
12,000
10,800 (90% x
12,000)
1,200 (10% x
12,000)
Issue
How should an undertaking recognise revenue on the sale of goods
when it provides a right of return?
The entries to recognise the transfer of the goods to the customer
will be:
Background
Dr
Undertaking A is a retailer. It has a standard policy of giving refunds
on returned goods, whether or not the goods are defective,
provided that the goods have not been used.
A sells 100 CD players for 120 each. The cost to A of the CD
players is 90 each. Typically 10% of A’s customers return this type
of product.
Cr
Cost of sales
Inventories
9,000
9,000
The full cost of all 100 CD players is derecognised from inventory
and included in cost of sales. On return of the 10% of CD players
expected, the following entry will be recorded:
How should A account for the 100 CD players sold?
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IAS 18 REVENUE
Dr
Cr
Inventories
Sale subject to installation and inspection
900 (10% x
900)
900
Cost of sales
Issue
Revenue is normally recognised when the buyer accepts delivery,
and installation and inspection are complete.
Management will also consider whether the returned products
should be impaired for damage or obsolescence.
At what point is it appropriate for undertaking C to recognise
revenue in the following example?
Recognition in inventory of the products expected to be returned is
not appropriate because A no longer controls the assets. Neither
should a receivable be recognised because A does not have the
right to receive cash.
Background
Undertaking C manufactures and installs cable TV satellite dishes
at customers’ premises on behalf of cable TV operator B.
Undertaking B placed an order with undertaking C to manufacture
and install 100 dishes at its customers’ premises on 1 August 20X2.
Similarly, management does not reduce the provision by the cost of
the inventory expected to be returned because A’s expected cash
out flow is the full sales price of the product.
Management recognises the refund paid to the customer on return
of the CD as follows:
Dr
Provision
Cr
Cash
1,200
1,200
1. If installation has not been completed, when the installation is an
important part of the contract, recognition does not take place
until installation is complete.
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Undertaking C has the dishes on stock and expects to install them
by the 14 September 20X2. Payment is due 14 days after
installation of the dishes.
Undertaking C expects to complete most of the installations
successfully in one visit.
Solution
Undertaking C should recognise revenue when the installation is
complete. The installation is critical to customer acceptance and
payment from undertaking B.
The sale of goods is often made subject to satisfactory installation,
and the installation is rarely perfunctory or incidental, as it is usually
essential to the functionality of the delivered goods.
2. If the sale is contingent on the buyer deriving revenue from
resale of the goods, recognition is deferred.
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3. If the seller provides exceptional cover against unsatisfactory
performance of the goods (more than is covered by normal
warranty provisions.
Example:
In March, you supply 5 cars at 400 each to your agent. The contract
is a consignment contract and the ownership and risk remains
yours.
In July, the agent sells the cars for 600 each, but you do not receive
the money until August. The agent earns commission at 10% on
sales.
Revenue is recognised in July, when the cars are sold by the agent.
I/B
DR
CR
Consignment inventory-agent
B
2.000
Inventory
B
2.000
Initial supply- March
Cost of sales
I
2.000
Consignment inventory-agent
B
2.000
Accounts receivable
B
3.000
Revenue
I
3.000
Revenue recognition-July
Cost of Sales Commission
Accounts Payable
Commission earned in July 10% x
3000
I/B
I
B
DR
300
CR
300
Where foreign exchange control restricts the transfer of the sales
proceeds, recognition cannot take place until permission (to transfer
funds) is granted.
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Once an amount has been recognised in revenue, any risk of nonpayment is treated as a bad, or doubtful debt.
Where warranties are given to the buyer, the cost of these will be
immediately recognised as an expense.
Sales of extended warranty
Issue
When the outcome of a transaction involving the rendering of
services can be estimated reliably, revenue associated with the
transaction should be recognised by reference to the transaction’s
stage of completion at the balance sheet date.
How should management recognise the sale of an extended
warranty?
Background
Undertaking A sells electrical goods. The goods come with a
manufacturer’s 1-year warranty. Undertaking A also offers
customers the option of purchasing an extended warranty to cover
years 2 to 5.
The sales price of the extended warranty is 100 and A typically
receives valid warranty claims from 4% of customers during the
extended warranty period. The average cost of repairing or
replacing the goods under the warranty is 600 per valid claim.
How should management recognise revenue from the sale of the
extended warranties and the associated costs?
Solution
Management should defer the revenue and recognise it on a
straight-line basis over years 2 to 5, which is the period over which
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the extended warranty is provided.
example if there was a fire in the property.
The costs incurred under the warranty should be charged to cost of
sales as incurred.
Undertaking A does not sell the windows without the warranty and
does not sell warranties for other manufacturers’ products.
Management should not recognise a provision for the expected
costs of the warranty but should monitor the arrangements to
ensure that the expected future cost of the warranty does not
exceed the amount of unamortised deferred revenue.
Each window sells for 1,000 and undertaking A typically repairs 2%
of windows under the warranty. The average cost of a warranty
repair is 350.
The warranty contract will be onerous if, at any time, the expected
future costs of meeting the warranty obligations exceed the
unamortised warranty revenue.
Management should recognise a provision to the extent that the
future warranty costs are estimated to exceed the unamortised
warranty revenue.
Sales of goods with a long warranty
How should management recognise the sales revenue and the
warranty cost?
Solution
Management should recognise revenue of 1,000 when the window
is installed and recognise a provision for warranty costs at the same
time.
The value of the warranty provision recognised should be based on
the costs management expects to incur under the warranty (2% x
350 = 7) and discounted according to the expected pattern of cash
flows over the 15-year warranty period.
Issue
How should management recognise the sale of goods with a long
warranty?
Background
Undertaking A sells and fits prefabricated replacement windows for
houses. The standard sale includes a 15-year warranty.
Undertaking A will repair the window during the warranty period if
there is a defect in the product or the installation.
The warranty does not cover damage caused by other causes, for
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If these cannot be measured reliably, the proceeds received should
be not be recognised as revenue but as liability until the warranty
position is clear.
Reliable measurement of costs incurred
Issue
An undertaking should recognise revenue when:
a) the undertaking has transferred significant risks and rewards of
ownership of the goods to the buyer;
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b) the undertaking does not retain continuing managerial
involvement or control over the goods sold;
c) the amount of revenue can be measured reliably;
d) it is probable that the economic benefits associated with the
transaction will flow to the undertaking; and
e) the costs incurred or to be incurred in respect of the transaction
can be measured reliably.
How should management recognise revenue in respect of a sale of
equipment for which a warranty has been given but for which no
prior experience of warranty costs is available?
Background
Undertaking A has developed a new engine based on the principles
of perpetual motion. Long-term testing of the engine has not been
possible because the technology is so new.
However, the sale of the first such engine has been agreed, and a
one-year warranty for parts and labour has been provided.
In theory, if you had no experience of judging warranty costs the
whole $3.000 would be recognised as a liability until the warranty
position is clear. In practice, a manufacturer would estimate the
warranty liability and recognise the sales immediately.
Related parties
The requirement to measure revenue at fair value applies to nonarm’s length transactions, as well as arm’s length transactions.
Revenue transactions with related parties are recorded at the fair
value of the consideration received.
This is the agreed amount of any monetary consideration and the
fair value of any non-monetary assets received
4.
Provision of Services
Revenue from the provision of services should be recognised by
referring to the stage of completion at the balance sheet date.
The stage of completion, the costs to date, and the costs to
complete the transaction should be reliably measurable.
Management is unable to assess the expected costs of the
warranty, but was prepared to provide the warranty in order to
obtain the first sale.
Solution
Management should not recognise revenue in respect of the engine
sale until the one-year warranty period has expired.
Management is not able to assess the likely total cost of the sale,
and accordingly does not meet the revenue recognition criteria in
respect of reliable measurement of the costs of the sale.
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IAS 18 REVENUE
Example:
You are constructing a building for a client. Project revenue is $20m.
At what point should management recognise revenue in the
following example?
Costs to date are $6m, and you estimate that additional costs to
completion are $10m.
Background
Undertaking G is involved in providing tax services. One of its
activities is to prepare and file value added tax (VAT) returns on
behalf of foreign undertakings.
The client has, so far, only approved $4m of the expenditure, as his
staff is on holiday for the month.
You believe that the $2m ($6-$4m) will be approved). No payment
has been received.
The tax authorities process the returns and submit cash refunds (if
any) to the foreign undertakings via undertaking G. G receives a
commission of 5% of VAT refunded.
Recognise:
$4m as expense (the amount approved)
$5m as (accrued) revenue (4/16*$20m).
The tax authorities accept seventy-five per-cent of claims without
additional service from G. The tax authorities take between three
and nine months to process a return.
$2m is left as work in progress. ($6m-$4m=$2m)
I/B
DR
Cost of sales
I
$4m
Work in progress
B
Accounts receivable
B
$5m
Revenue
I
Revenue recognition
Solution
Management should recognise revenue when the tax authorities
approve the claim.
CR
$4m
$5m
Revenue from the rendering of services may be recognised using
the percentage of completion method only if the transaction costs
and revenue can be measured reliably.
Issue
The fact that 25% of the claims submitted need to be reprocessed
is a rather high percentage of failure, and an indication that G
cannot estimate revenue with sufficient reliability.
When the outcome of a transaction involving the rendering of
services can be estimated reliably, revenue associated with the
transaction should be recognised by reference to the transaction’s
stage of completion at the balance sheet date.
G’s management should disclose a contingent asset in respect of
the commission receivable. The revenue and the corresponding
receivable should be recognised only after the tax authorities have
approved the claim.
Recognition of professional fees 1
The costs incurred in preparing the claim should be expensed as
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IAS 18 REVENUE
incurred. The costs do not meet the definition of an asset because
the flow of economic benefits is contingent on the approval of the
claim as noted above.
Advances and progress payments received from clients may not
Revenue recognition: accounting for TV appearances
Example: Percentage of Completion -i
On day 1 of a $50 million contract, $5 million is received on account.
This should not be fully recognised as revenue until 10% of the work
has been successfully completed.
A celebrity, Miss Crimson, has agreed with a TV company to make
a guest appearance in an episode of a crime thriller to be broadcast
on the TV company’s network.
Miss Crimson is entitled to a fee of £10,000 when her appearance
is filmed and a further £2,000 each time the thriller is repeated on
the TV company’s channels.
How should Miss Crimson record her earnings from this contract?
IAS 18 requires that revenue on a service contract is recognised
when the outcome of the transaction can be measured reliably.
That is, the revenue flow to the undertaking is probable and the
following can be reliably measured: the revenue, the stage of
completion of the transaction and the costs to complete the service.
As the only revenue that can be measured reliably when Miss
Crimson completes her contractual performance is the £10,000
fee, this should be recognised as revenue.
Only when the TV company shows repeats should additional
amounts of £2,000 be recognised.
Revisions to estimates do not mean that the financial outcome of
the transaction cannot be reliably measured.
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reflect the stage of completion.
Cash
Deferred revenue
Recording cash receipt on day 1
I/B
B
B
DR
$5m
Example: Percentage of Completion -ii
10% is now completed, costs total $3m
Cost of sales
I
$3m
Work in progress
B
Deferred revenue
B
$5m
Revenue
I
Revenue recognition –when 10% of
the work is completed
CR
$5m
$3m
$5m
In the early stages of a transaction, it may be that the profitability
cannot be reliably estimated.
If it is likely that only the costs will be recovered, recognise only
enough revenue to equal the costs. (accounting for the project as
breakeven: no profit, no loss).
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Example: Recovery of costs
Project revenue is a total of $100 million. $1 million has been spent
at the period end, and there are problems that indicate that no profit
will be made on the project.
Recognise $1million as accrued revenue and $1million as (actual)
expenses.
Accounts receivable
Revenue
Revenue recognition
Cost of sales
Work in progress
Recognising expenses
I/B
B
I
DR
$1m
I
B
$1m
CR
$1m
$1m
If it is not probable that the costs will be recovered, no revenue is
recognised, and all costs are immediately expensed.
Measurement of revenue - free upgrades
Issue
When the outcome of the transaction involving the rendering of
services cannot be estimated reliably, revenue should be
recognised only to the extent of the expenses recognised that are
recoverable.
How does an undertaking’s commitment to provide additional
upgrades free of charge affect the recognition of revenue for this
contract?
Background
Undertaking A has a contract to deliver a mobile telecom network,
including hardware and software, and to provide specified
additional software upgrades free of charge.
The total contract revenue is 200 million. The cost of completing the
network is estimated to be 150 million; undertaking A has incurred
costs of 120 million to date.
Example: Expensing costs
Project revenue is a total of $80 million. $5 million has been spent
by the period end, and the client has serious financial problems.
The costs of the specified additional upgrades are estimated to be
30 million, for which undertaking A would normally charge 40
million.
Recognise no accrued revenue, and $5 million as (actual)
expenses.
Solution
The upgrade and the contract to deliver the network should be
considered as a single contract that has been negotiated for a
single total fee.
Cost of sales
Work in progress
Recognising expenses
I/B
I
B
DR
$5m
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CR
$5m
The two contracts are treated as one because the commercial
effect cannot be properly understood unless the arrangement is
considered as one contract.
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Undertaking A should recognise revenue on a percentage of
completion basis, as it is able to determine reliably the:
a) amount of contract revenue;
b) costs to complete the contract; and
Example:
You sell $3000 of good that cost $2500s. Experience tells you that
warranty costs will be 2% of revenue.
Recognise the revenue of $3000 immediately and create a
warranty provision for $60 ($3000*2%) and recognise the warranty
expense immediately in the income statement.
c) the stage of completion.
Undertaking A may determine the stage of completion from: the
proportion of costs incurred to date; the percentage of physical
work complete; or services performed to date.
Using costs incurred to date as the basis, undertaking A has
completed 66% (120/180) of the project and should recognise 132
million as revenue (200 x 66%).
To recapitulate:
The three options in calculating Revenue, depending on the level of
knowledge of the transaction’s final outcome are:
1. Anticipating a profit: Percentage of completion method.
2. Anticipating Break-Even: Recovery of costs, only.
3. Anticipating a loss: Non-recovery of costs (but full expensing
of costs).
Cash
Revenue
Sale
Cost of sales
Inventory
Warranty costs
Warranty provision
Warranty provision
I/B
B
I
DR
3.000
I
B
I
B
2.500
CR
3.000
2.500
60
60
Interest should be recognised on a time-proportion basis, reflecting
the effective yield of the asset. (The effective yield takes account
any fees, discount, or premium, at which the financial instrument
was issued.)
Example:
You make a loan of $500m at 12% interest for a year. Interest is
only paid at the end of the period.
Accrue interest receivable of $5m each month.
Please also see IAS 11 Construction Contracts workbook.
5.
Interest, Royalties and Dividends
Revenue should be recognised as follows:
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Accounts receivable
Interest receivable
Revenue recognition each month
I/B
B
I
DR
$5m
CR
$5m
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Example:
You make a $20.000 loan at 10% for 2 years. Interest is applied
annually and paid at the end of each year. Your administration fee is
$400 and paid in advance.
Accruing interest and
recognising fees at the end of
year 1
Effective Interest Rate
The administration fee is treated as deferred revenue $400 and will
be recognised over the 2 year loan period.
Both the nominal and effective interest rates, by definition, are
Cash inflows from this loan are:
to yield the same amount of interest.
Year
0
+400
1
+2000
Nominal rate: Invest $1 at 9.65% compounded quarterly.
2
At the end+2000
of one year:
Total
4400 or 2200 per year.
So the effective interest rate (produces the same amount of cash
flow is 11%.
So 11.00% of 20,000 = $2200 will be recognised as income in each
year.
Year 1 beginning
Loan receivable
Cash
Cash
Deferred revenue fees
Providing loan and receiving
fee
I/B
B
B
B
B
Annually
Accrued Interest receivable
Deferred revenue fees
Interest income
Fee income
I/B
B
B
I
I
DR
20.000
= $1.10
Effective rate therefore is 10%
Effective rate: Invest $1 at i% pa. You receive interest only
once!
CR
Therefore:
= $1.10
20.000
400
400
So a nominal rate of 9.35% quarterly has an effective rate of 10%
i.e you receive with the same amount of interest.
Royalties should be recognised on an accruals basis, based on the
relevant contract.
DR
2000
200
CR
2000
200
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IAS 18 REVENUE
Example:
You sell the US rights to your book at $1 per book.
Payment is to be made every six months in arrears.
The licence entitles the cinema operator to show the film an
unlimited amount of times throughout the period of the agreement.
The cinema operator cannot cancel the licence agreement and the
distributor cannot be required to refund any part of the fee to the
cinema operator in any circumstances.
In month 1, 400.000 copies are sold in the US.
In month 2, 1 million copies are sold.
Accrue royalty income of $400.000 for month 1 and $1million for
month 2.
Accounts receivable
Revenue
Revenue recognition-month 1
Accounts receivable
Revenue
Revenue recognition-month 2
I/B
B
I
DR
$400.000
B
I
$1m
CR
$400.000
$1m
Licence agreement in substance a sale
Issue
Royalties accrue in accordance with the terms of the relevant
agreement, and are usually recognised on that basis, unless the
substance of the agreement suggests it is more appropriate to
recognise revenue on some other systematic and rational basis.
Solution
Revenue should be recognised in full once the licence is granted to
the cinema operator and it is probable that the economic benefits
associated with the transaction will flow to the distributor.
The substance of the agreement is that the film distributor does not
have any remaining obligations to perform under the terms of the
non-cancellable agreement.
The film distributor is also only entitled to the non-refundable fixed
fee and no additional amounts from box office receipts. The
distributor has transferred substantially all the risks and rewards of
ownership to the cinema operator.
The transaction is, in substance, a sale of the licence.
Licence agreements
How should management recognise royalty revenue?
Issue
Royalties shall be recognised on an accrual basis in accordance
with the substance of the relevant agreement.
Background
A film distributor grants a licence for a fixed fee to a cinema
operator in respect of its new film.
When should undertaking A recognise the licence fee in the
following example?
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IAS 18 REVENUE
Background
Undertaking A grants a licence to a customer to use its web-site,
which contains proprietary databases.
The licence allows the customer to use the web-site for a two-year
period (1 January 20X1 to 31 December 20X2). The licence fee of
60,000 is payable on 1 January 20X1.
Solution
The substance of the agreement is that the customer is paying for a
service that is delivered over time. Although undertaking A will not
incur incremental costs in serving the customer, it will incur costs to
maintain the web-site.
The revenue from the licence fees should be accrued over the
period of the agreement that reflects the provision of the service.
How should management recognise royalty revenue?
Background
A film distributor grants a licence to a cinema operator. The licence
entitles the theatre to show the film twice in location A in the
following year in return for a percentage of the box office receipts.
The distributor expects to license the film to other operators in other
locations.
Solution
The film distributor should recognise the revenue on the dates the
film is shown.
The substance of the agreement is that the film distributor will only
be able to measure the amount of revenue from the licence once
the event (when the films are shown) has occurred.
The undertaking has an obligation to provide services for the next 2
years, therefore the fee of 60,000 received on 1 January 20X1
should be recognised as a liability (deferred income).
The nature of the agreement is that the distributor has not sold the
rights but assigned them for a specific period in a specific location.
Each month for the period January 20X1 to December 20X2, an
amount of 2,500 should be released from deferred income and
recognised as income to reflect the service that is delivered.
The revenue-generating event is the licensee’s showing of the film.
This contrasts with situations in which the distributor transfers
substantially all the risks and rewards associated with the film.
Revenue contingent on future event
Dividends should be recognised only when the shareholder has a
Issue
Royalties accrue in accordance with the terms of the relevant
agreement, and are usually recognised on that basis unless the
substance of the agreement suggests it is more appropriate to
recognise revenue on some other systematic and rational basis.
legal right to receive payment.
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IAS 18 REVENUE
Dividends
Issue
What amount should be recognised as dividend income in the
following example, and at what date?
The directors’ declaration of the interim dividend was sufficient to
establish A’s right to receive the dividend. However, A is not entitled
to receive the final dividend until the shareholders approve it.
Undertaking A should recognise a dividend of 100 (2,000 x 0.05) in
respect of the interim dividend on the 2,000 shares purchased in
Background
During the year ended 31 December 20X1, undertaking A made the
following investments in undertaking B (a listed undertaking):
January 20X1.
1 January 2,000 shares, registered on 28 February 20X1;
15 June
5,000 shares, registered on 10 July 20X1;
5 October
3,000 shares, registered on 20 December 20X1
29 December
1,000 shares, registration outstanding.
Example:
You have purchased a preferred share. It will pay 3% dividend each
quarter, 4 weeks after the board declares the dividend.
B’s directors declared an interim dividend on 31 July 20X1 of 0.05
per share, with a last registration date of 30 June 20X1. This
dividend declaration does not require shareholder approval. The
dividend was paid on 30 September 20X1.
At 31 December 20X1, B’s directors proposed a final dividend of
0.15 per share, with a last date of registration of 30 November
20X1. Shareholders approved the proposed final dividend at the
annual general meeting on 31 January 20X2, and the dividend was
paid on 31 March 20X2.
Undertaking A and undertaking B both have a December year-end.
Solution
A’s management should recognise dividend income at 31
December 20X1 in respect of the interim dividend, but should not
recognise dividend income in respect of the final dividend.
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Accrue the dividend receivable when the board declares the
dividend each quarter.
If the directors declared their intention to declare a dividend, no
accrual would be made as no legal rights arise from an intention.
I/B
DR
CR
Accounts receivable
B
$3
Dividend receivable
I
$3
Revenue recognition-following
declaration of dividend
If the board does not declare a dividend, none must be accrued for
this share.
Where unpaid interest, or dividends, had accrued before the
acquisition of a financial instrument, the next receipt of interest, or
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IAS 18 REVENUE
dividend, will be spilt between pre-acquisition and post-acquisition
Dividends from pre-acquisition earnings
periods. The pre-acquisition portion is deducted from the cost of the
Issue
financial instrument. Only the post-acquisition portion is recognised
Dividends that are declared from pre-acquisition net income are
deducted from the cost of the investment.
as revenue.
Example:
You buy a bond for $105 on April 1. It has a face value of $100. It
pays interest of 20% every December 31st. The price you paid
therefore includes 3 months of accrued interest. (The $105 includes
$5 accrued interest.)
Even though you have only owned it for 9 months, you will receive
the full 20% interest on December 31st.
When you receive the interest, it will be spilt between pre-acquisition
($5) and post-acquisition periods ($15). The pre-acquisition portion
($5) is deducted from the cost of the financial instruments.
Investment
Accrued interest on bonds
Cash
Purchase of bond
Cash
Accrued interest on bonds
Interest received
Receipt of interest
I/B
B
B
B
DR
100
5
B
B
I
20
CR
105
5
15
Only the post-acquisition portion is recognised as revenue ($15).
Next year, the whole $20 will be recognised as interest received.
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How should dividends from pre-acquisition earnings be recognised
in the acquirer’s financial statements?
Background
Undertaking A acquired 16,000 ordinary shares of undertaking B 80% of B’s ordinary share capital - as at 31 December 20X1. B’s
retained profit at the date of acquisition amounted to 4,000. B’s
shareholders had declared a dividend of 0.10 per share at 30
November 20X1. The dividend is payable in January 20X1.
Undertaking A paid 19,200 for the investment in undertaking B.
Both A and B have a December year-end.
Solution
The dividend that B’s shareholders declared on 30 November 20X1
arises from pre-acquisition earnings. Undertaking A should
recognise its relevant portion (80%) of the dividend in its separate
financial statements as follows:
Dr Current account - undertaking
B
Cr Investment - undertaking B
1,600
1,600
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IAS 18 REVENUE
The above journal entry will result in A recognising an investment in
undertaking B for an amount of 17,600 (19,200 - 1,600).
In the consolidated financial statements, no further adjustment is
necessary, because the carrying amount of A’s investment in B and
A’s portion of B’s equity has been changed equally.
Undertaking’s B dividend liability has to be eliminated against
undertaking’s A dividend receivable.
Interest and dividends on financial instruments
Undertaking A is applying IFRS 7, Financial Instruments:
Disclosure, and is considering the presentation of interest income,
interest expense and dividend income on financial instruments at
fair value through profit or loss.
Should these items of income and expense be reported as part of
net gains or net losses on these financial instruments or disclosed
separately as part of interest income, interest expense or dividend
income?
IFRS 7 allows an accounting policy choice between these two
treatments. Undertaking A should apply its chosen policy
consistently and disclose the policy adopted.
Interest income is the charge for the use of cash or cash
equivalents or amounts due to the undertaking under IAS 18.
Dividend income is the distribution of profits to holders of equity
investments in proportion to their holdings of a particular class of
capital.
The nature of dividend income is therefore different from interest
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income and it is possible to adopt one treatment for interest income
and interest expense and a different treatment for dividend income.
However, the reporting of interest income should be consistent with
that of interest expense.
IAS 18 requires undertakings to disclose the amount of dividend
income, if significant.
Therefore, if undertaking A reports dividend income from equity
investments as part of net gains or net losses on financial
instruments at fair value through profit or loss (FVTPL), the amount
of dividend income on financial assets at FVPTL should be
disclosed in the notes.
OTHER REVENUE summary
What is other revenue?
The main source of an undertaking’s revenue arises from the sales
of goods and the provision of services.
Other sources such as interest, dividends, royalties and
government grants (see IAS 20) provide another element of
revenue. Items of other revenue are disclosed within sales revenue
or other operating income, depending on the nature of the
undertaking’s operations.
Other revenue should be distinguished from gains that arise from:
fair value gains on the revaluation of PPE, investment property,
financial instruments, foreign exchange gains and gains on sale
and leaseback transactions.
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IAS 18 REVENUE
Initial recognition
The general revenue recognition criteria apply to the recognition of
other revenue. Revenue may be recognised when:
a) it is probable that the economic benefits associated with the
transaction will flow to the undertaking; and
b) the amount of revenue can be measured reliably.
More specific recognition guidance is set out below for key items of
other revenue.
Interest income
An undertaking should recognise interest income using the effective
interest method.
The effective interest rate is the rate that exactly discounts
estimated future cash payments or receipts through the expected
life or duration of the financial instrument to the net carrying amount
of the financial asset or financial liability.
different where the initial carrying amount (fair value) of a financial
asset differs from its face value or amount to be received at
maturity.
Certain transactions may include elements both of interest and
other financial service fees.
For these transactions, an undertaking must differentiate between
fees that are part of the asset’s effective yield, fees that are earned
as services are provided and fees earned on the execution of a
significant act.
Reviewing a borrower's credit rating or registering charges, for
example, are necessary and integral parts of the lending process.
Fees for performing such services should be deferred and
recognised as an adjustment to the effective yield.
Commitment fees should be considered in the effective yield on an
asset when it is probable that the transaction will take place and the
commitment is not a derivative under IFRS 9.
The fee should be recognised as revenue on expiry if the
commitment expires without the transaction having taken place.
The estimated cash flows include all contractual terms of the
financial instrument (for example, prepayment, call and similar
options) but exclude future credit losses.
Dividends
The calculation includes all fees and points paid or received that
are an integral part of the effective interest rate, transaction costs,
and all other premiums or discounts.
Dividend income should be recognised when a shareholder's right
to receive payment is established. Dividends may be recognised at
the date they are declared, depending on local laws.
The actual rate of interest a lender charges may or may not be the
same as or different from the effective rate. These rates are
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Dividends declared by directors but which do not require
Cash dividends
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IAS 18 REVENUE
shareholder approval should be recognised from the date on which
the directors make their irrevocable declaration.
Dividends that are proposed by directors but require approval by
shareholders should not be recognised until the shareholder
approval has been given.
Dividends sometimes arise from pre-acquisition earnings. These
dividends should be deducted from the cost of the undertaking’s
investment.
The costs associated with the supply of these rights are normally
substantially incurred before the period of use commences. The
costs incurred during the period of use are often minimal.
Royalty revenue should be recognised on an accrual basis in
accordance with the substance of the agreement. Revenue is
earned over the course of the contract as the customer accesses
the benefits of the asset.
Typically this will be on a straight-line basis over the life of the
agreement.
Non-cash dividends
Some listed companies arrange for ordinary shareholders to elect
to receive their dividends in the form of additional shares rather
than in cash.
The share equivalent is sometimes referred to as a scrip dividend
or a stock dividend, and consists of shares issued and fully paid up.
The receipt of scrip dividends is in substance the receipt of a cash
dividend, with a simultaneous reinvestment of the proceeds in the
issue of new shares.
Revenue arising from the scrip dividend should be recognised on
the same basis as that for a cash dividend.
Royalties
Royalty revenue arises from the sale of rights to use an intangible
asset, often for a defined period of time. The rights are generally
long-term. Examples include rights to use films and software.
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However, if the receipt of the revenue is contingent on some future
event, the revenue should only be recognised when it is probable
that revenue will be received. This may not be until after the event
has occurred.
The sale of an indefinite right to use an intangible asset with
negligible post sales support, however, would justify immediate
recognition of revenue.
Such a transaction is, in substance, more like a sale of goods and if
no material obligation remains with the undertaking, there is no
reason to defer recognition of the revenue.
Government grants
Government grants may be of a capital nature, such as a
contribution towards the acquisition of an asset, or of a revenue
nature, for example, a contribution to defray an expense, or a
mixture of both.
Grants may be monetary or take the form of a transfer of a non34
IAS 18 REVENUE
monetary asset. Grants should be recognised provided there is
reasonable assurance that the undertaking will comply with their
conditions and the grants will be received.
The basis of recognition should match the grant with the related
costs. Compensation for past expenses or losses or for immediate
financial support should be recognised in income in the period in
which it becomes receivable.
Government grants are sometimes received as part of a package to
which a number of conditions are attached. Management should
evaluate these conditions to determine whether they give rise to
constructive or legal obligations that should be recognised as
liabilities.
dividend should be measured at fair value.
In the case of the government grant this would be the fair value of a
non-monetary asset, and for a scrip dividend the cash equivalent of
the dividend.
Other revenue is usually recognised at its nominal amount, as it is
not normally deferred beyond one accounting period and the impact
of discounting is therefore not material.
Presentation
Insurance recoveries
Items of other revenue are usually presented in the income
statement as other operating income. Government grants related to
income may alternatively be deducted in reporting the related
expense.
A potential insurance recovery is an example of a contingent asset.
Disclosure
Contingent assets are not recognised in the financial statements,
since this may result in the recognition of revenue that will not be
realised.
An undertaking should disclose:
Only when it becomes virtually certain that an insurance claim will
result in an inflow of economic benefits are the asset and the
related revenue recognised in the financial statements.
Initial measurement
Other revenue should be measured at the fair value of the
consideration received or receivable. Interest income should be
recognised using the effective interest method as set out in IFRS 9.
Non-cash revenue derived from a government grant, or a scrip
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a) its revenue recognition policies, including those relating to
items of other revenue;
b) the nature and extent of government grants recognised in
the financial statements;
c) any unfulfilled conditions or other contingencies attaching to
government assistance that has been recognised; and
d) separate disclosure should be made of revenue arising from
the provision of services and royalty revenue.
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IAS 18 REVENUE
6.
Disclosure
Disclosure includes
Accounting policies used for revenue recognition, including
Background
A significant portion (more than 50 per cent) of undertaking A’s
revenues and cost of sales result from barter transactions. These
transactions are properly recognised in the income statement in
accordance with IAS 18.
methods of determining the stage of completion of transactions for
services.
Revenue should be split, to show separately, revenue arising from:
1.
2.
3.
4.
5.
Sale of goods.
Provision of services.
Interest.
Royalties.
Dividends.
1. Revenue from the exchange of goods, or services, should be
identified in each category.
2. Any contingent liabilities, or assets, such as warranty claims
should be identified in each category.
Barter transactions
Issue
Undertakings present additional line items, headings and subtotals
on the face of the income statement when such presentation is of
relevance to the understanding of the financial performance of an
undertaking.
Solution
The nature of barter transactions is significantly different from that
of cash transactions. A significant proportion of A’s total revenue
and total cost of sales relates to barter transactions.
An analysis of revenues and cost of sales on the face of the income
statement is appropriate to highlight attention to the undertaking’s
reliance on such transactions.
7.
Specific Examples
Sale Of Goods
1. “Bill and Hold”
Buyer takes title but delivery is delayed.
The seller recognises Revenue when the buyer takes title, if:
1. delivery will be made
2. the product is identified and ready for delivery
3. delayed delivery is agreed
4. usual payment terms apply.
Should revenues and expenses relating to barter transactions be
disclosed separately?
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IAS 18 REVENUE
Example:
You are about to deliver your monthly consignment of goods, when
your client’s warehouse burns down. He asks you to store them, at
his risk, until he can find alternative storage.
The title to the good and risk has passed to the customer. Revenue
is recognised immediately.
Inventory
Inventory – held on behalf of
customer
Transfer of ownershiip
Accounts receivable
Revenue
Revenue recognition
I/B
B
I
I/B
B
I
DR
CR
100
100
DR
100
100,000 game consoles at 50 each. The wholesaler has a stock of
120,000 consoles at 31 December 20X2.
The contract contains specific instructions with regard to the timing
and location of the delivery. Undertaking W must deliver the
consoles to the customer in the following reporting period at a date
to be specified by the customer.
Undertaking W cannot use the 100,000 consoles to satisfy other
sales orders. Customer A has made a deposit of 15,000 at the time
the contract was signed. Usual payment terms apply.
CR
Solution
The conditions for revenue recognition have been met (as below)
and undertaking W can recognise 100,000 game consoles as sold.
100
The criteria for recognition of revenue in a bill and hold sale are:
Bill and hold sales
Issue
Revenue from bill and hold sales is recognised when the buyer
takes title provided certain conditions are met. Revenue is not
recognised when there is simply an intention to acquire or
manufacture the goods in time for delivery.
a) that delivery has been delayed at the buyer’s request;
b) it is probable that delivery will be made;
c) the item is on hand, identified and ready for delivery and cannot
be used to satisfy other orders;
d) the buyer specifically acknowledges the deferred delivery
instructions in writing; and the seller’s usual payment terms apply.
How should management recognise revenue from a bill and hold
sale?
2. Installation and inspection.
Background
Undertaking W entered into a contract on 31 December 20X2 to
supply video game consoles to customer A. The contract is for
Where the contract specifies delivery, installation and inspection, all
must be completed to recognise revenue.
Exceptionally revenue may be recognised on delivery, if installation
and inspection are short and straightforward.
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IAS 18 REVENUE
Example:
You sell domestic refrigerators to a retail chain.
They must be inspected prior to acceptance, but the inspector is ill.
None have been rejected in the last 2 years.
A 60% deposit is paid when the contract is signed. The deposit is
not refundable. The remaining 40% is paid when the customer
accepts the installation.
Solution
Revenue can be recognised immediately.
Combined sale of goods and installation
Issue
Revenue is normally recognised when the buyer accepts delivery,
and installation and inspection are complete.
When should a retailer recognise revenue for the sale of products
subject to installation?
The retailer should recognise revenue when the customer accepts
the installation of the kitchen.
The recognition of revenue based on stage of completion would not
be appropriate because the earnings process will not be complete
until the kitchen is ready to be used and accepted by the customer.
This is a single-element sale, as the installation is sold together with
the kitchen.
Background
3. On approval, with a limited right of return.
Undertaking A is a retailer that sells and installs kitchen appliances
and units. The products are always sold inclusive of the installation
at the customer’s premises.
Revenue is recognised upon the buyer’s acceptance, or the time for
rejection has passed.
Undertaking A sold a customer a full set of kitchen appliances,
cabinets and worktops.
Example:
You sell curtains to a retailer.
Written notification of rejection must be made within 10 days.
For internal reporting purposes, management divides the sales
price into the following elements:
At the end of 10 days, if none have been rejected, revenue can be
recognised.
Kitchen appliances and materials: 4,500
4. Consignment sales and sales using agents.
Labour required for installation: 1,500
The agent resells the goods before paying the seller. Revenue is
recognised when the goods are resold.
The period of installation is estimated to be four weeks.
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IAS 18 REVENUE
Example:
In April, you supply 5 cars to your agent. The contract is a
consignment contract. In July, the agent sells the cars, but you do
not receive the money until September.
I/B
DR
CR
Consignment inventory-agent
B
500
Inventory
B
500
Initial supply- April
Cost of sales
I
500
Consignment inventory-agent
B
500
Accounts receivable
B
1.000
Revenue
I
1.000
Revenue recognition-July
Recording delivery of books to
client
Cash
Accounts receivable
Deferred Income
Revenue
Revenue recognition on receipt of
cash
B
I
B
B
1.000
1.000
1.000
1.000
6. Payment by instalments followed by delivery.
Recognition of revenue is on delivery. If experience shows that
most clients pay all of their instalments, revenue recognition may
Revenue is recognised in July, when the cars are sold by the agent.
take place when most of the payments have been made, and the
5. Cash-on-delivery sales.
goods are ready for delivery.
Revenue recognition occurs when delivery is complete and cash
has been paid.
Example:
You sell books via the Internet. Clients can pay on receipt of the
books.
Example:
You are building a house costing $60,000. You accept deposits and
progress payments, prior to the house being finished. When it is
finished, 10% of the total price of $100.000 remains unpaid, but you
anticipate receipt in the next few days.
When your agent has received the cash, having delivered the
goods, the revenue can be recognised.
I/B
DR
CR
Cost of sales
I
500
Inventory
B
500
Accounts receivable
B
1.000
Deferred Income
B
1.000
If the work is complete, revenue may be recognised.
I/B
DR
Cost of sales
I
60.000
Work in progress
B
Accounts receivable
B
10.000
Client deposits
B
90.000
Revenue
I
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CR
60.000
100.000
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IAS 18 REVENUE
Revenue recognition on building
completion
Example:
You sell a portfolio of shares in March for $5.000, with a contract to
repurchase them for $5.250 in September (6 months).
7. Payments in advance of manufacture.
Example:
A foreign buyer pays for your goods at the start of each month. They
are shipped in the middle of the month, and he accepts delivery at
the end of each month.
Recognise revenue when the goods are accepted.
I/B
DR
CR
Cash
B
100
Deferred Income - Payments in
B
100
advance
Cash received at start of month
Goods Shipped
B
80
Inventory
B
80
Shipment made- mid month
Deferred Income - Payments in
B
100
advance
Revenue
I
100
Cost of Sales
I
80
Goods Shipped
B
80
Revenue recognition on
acceptance of goods
8. Sales and repurchases of the same items, which are really
financing transactions.
Treat as a financing transaction, rather than recognise revenue.
This is primarily a finance transaction, and no revenue should be
recognised.
Monthly, an interest accrual of 250/6 would be made.
I/B
DR
Cash
B
5000
Investment
B
Cash received, investment ‘sold’
Borrowing cost
I
250
Investment
B
5000
Cash
B
Investment repurchased
CR
5000
5250
Sale with repurchase rights/obligations
Issue
A sale and repurchase agreement is in substance a financing
arrangement and does not give rise to revenue when the seller has
retained the risks and rewards of ownership, even though legal title
has been transferred.
Should an undertaking recognise revenue on the sale of goods
when repurchase rights exist?
Background
The management of undertaking A is considering the following two
alternative transactions:
a) sale of inventory to a bank for 500,000 with an obligation to
repurchase the inventory at a later stage; or
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IAS 18 REVENUE
b) sale of inventory to a bank for 500,000 with an option to
repurchase the inventory any time up to 12 months from the date of
sale.
Sale subject to share of future benefits
The repurchase price in both alternatives is 500,000 plus an
imputed financing cost. The bank is required to provide
substantially the same quality and quantity of inventory as was sold
to it (that is, the bank is not required to return precisely the same
physical inventory as was originally sold to it).
What are the circumstances under which an undertaking retains a
continuing involvement in an asset?
The fair value of the inventory sold to the bank is 1,000,000.
Solution
Management should recognise the transactions as follows:
a) Sale with repurchase obligation: management should not
recognise revenue on the transfer of the inventory to the bank. The
inventory should remain on undertaking A’s balance sheet and the
proceeds from the bank should be recognised as a collateralised
borrowing.
Even though the inventory repurchased from the bank is not the
inventory sold, it is in substance the same asset. The substance of
the transaction is that the sale and repurchase are linked
transactions, and undertaking A does not transfer the risks and
rewards associated with the inventory to the bank.
b) Sale with repurchase option: management should not recognise
revenue unless and until the option is allowed to lapse.
The inventory should remain on undertaking A’s balance sheet and
the proceeds recognised as a collateralised borrowing until A’s right
to repurchase the inventory lapses.
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Issue
Background
Undertaking A owns a hotel resort located in the Bahamas. The
resort includes a casino that is housed in a separate building that is
part of the premises of the entire hotel resort.
The casino’s patrons are largely tourists and non-resident visitors.
Undertaking A operates the hotel and other facilities on the hotel
resort, including the casino.
During the year, the casino was sold to undertaking B.
A and B agree that A will operate the casino for its remaining useful
life. Undertaking A will receive 85% of the net profit of the casino
as operator fees, and the remaining 15% will be paid to undertaking
B. A has also provided a guarantee to B that the casino will have
net profits of at least 10 million.
Solution
Undertaking A should not recognise the arrangement as a sale of
the casino, as it continues to enjoy substantially all of its risks and
rewards and has a continuing involvement in its management.
The transaction is in substance a financing arrangement and the
proceeds should be recognised as a borrowing.
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IAS 18 REVENUE
Sale and repurchase agreement
Undertaking C manufactures trucks. C sells a fleet of trucks to
undertaking D and provides a volume discount of 25% from the
market price of the trucks. The size of the volume discount is typical
for the market.
As part of the sales transaction, C grants D a repurchase option.
This option entitles D to require C to repurchase the vehicles after
six years for 30% of the price paid by D.
The expected economic life of the trucks is 15 years and at the date
of the sales transaction, the repurchase option is expected to be in
the money.
How should undertakings C and D each account for the
transaction?
Accounting by undertaking C: Undertaking C should account for
the transaction as an operating lease under IAS 17, Leases, and
continue to recognise the trucks as PPE.
C has not transferred the significant risks and rewards of ownership
that would be required by IAS 18, in order to recognise a sale. This
is because C retains the residual value risk associated with the
trucks.
Accounting by undertaking D: Undertaking D should also
account for the transaction as an operating lease in accordance
with IAS 17. It should recognise the amount paid net of the
repurchase option price as an operating lease prepayment, which
should be amortised on a straightline basis over the six years to the
option exercise date.
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The repurchase option meets the definition of a receivable under
IFRS 9 and D should measure it at amortised cost.
9. Subscriptions to publications.
Recognise revenue on a straight-line basis over time.
If the product price varies, use the percentage completion method,
by value.
Example:
You sell a 3-year subscription to your monthly magazine.
Recognise the revenue by as 1/36 of the revenue when each
month’s magazine is issued.
I/B
DR
CR
Cash
B
36
Deferred revenue
B
36
Cash received
Deferred revenue
B
1
Revenue
I
1
Revenue recognition on magazine
issue
If the price rises each year, then split the subscription to match the
different price levels of each year.
10. Instalment sales.
Interest portion is recognised as interest earned, using the imputed
rate of interest. The sale price is the present value of the payments
(net of interest). The instalments are discounted by the imputed rate
of interest.
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Example:
You sell a car, costing $8000, for $10.000, payable in instalments
over one year. The rate of interest is 10%. Interest is included in the
price.
Recognise immediately revenue of $9.091(10000/110%) and
interest receivable of $909, matched by an accounts receivable of
$10.000.
The interest receivable of 909 would be recognised monthly over the
year in which it is received.
I/B
DR
CR
Cost of sales
I
8.000
Inventory
B
8.000
Accounts receivable
B
10.000
Interest receivable
I
909
Revenue
I
9.091
Recording sale and interest charge
Sales suspense
Recording conditional sale of
house
Sales suspense
Revenue
Revenue recognition on repair of
roof
B
B
I
100.000
100.000
100.000
Agreements for the Construction of Real Estate - IAS 11 or IAS
18?
Background
In the real estate industry, undertakings that undertake the
construction of real estate, directly or through subcontractors, may
enter into agreements with one or more buyers before construction
is complete.
11. Real estate sales.
Such agreements take diverse forms.
Normally, revenue is recognised when title is transferred.
Review the contract, and national law, to see if the seller has further
substantial obligations to perform to complete the sale.
For example, undertakings that undertake the construction of
residential real estate may start to market individual apartments or
houses while construction is still in progress, or even before it has
begun.
Example:
You sell a house, but have committed your firm to repair the roof.
Your roofer is away for 2 months.
Each buyer enters into an agreement with the undertaking to
acquire a specified unit when it is ready for occupation.
Defer recognition of the sale until the roof is repaired.
I/B
DR
Cost of sales
I
90.000
Inventory
B
Cash
B
100.000
CR
Typically, the buyer pays a deposit to the undertaking that is
refundable only if the undertaking fails to deliver the completed unit
in accordance with the contracted terms.
90.000
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IAS 18 REVENUE
The balance of the purchase price is normally paid to the
undertaking only when the buyer obtains possession of the unit.
Undertakings that undertake the construction of commercial or
industrial real estate may enter into an agreement with a single
buyer. The buyer may be required to make progress payments
between the time of the initial agreement and contractual
completion.
Construction may take place on land the buyer owns or leases
before construction begins.
In addition to the construction of real estate, such agreements may
include the delivery of other goods or services.
Issues
1. Is the agreement within the scope of IAS 11 or IAS 18?
2. When should revenue from the construction of real estate be
recognised?
The following analysis assumes that the undertaking has decided
that it will retain neither continuing managerial involvement to the
degree usually associated with ownership nor effective control over
the constructed real estate to an extent that would preclude
recognition of some or all of the consideration as revenue.
If recognition of some of the consideration as revenue is precluded,
the following discussion applies only to the part of the agreement
for which revenue will be recognised.
Within a single agreement, an undertaking may contract to deliver
goods or services in addition to the construction of real estate (eg a
sale of land or provision of property management services).
Under IAS 18, such an agreement may need to be split into
separately identifiable components including one for the
construction of real estate.
The fair value of the total consideration received or receivable for
the agreement shall be allocated to each component. If separate
components are identified, the undertaking analyses each
component for the construction of real estate in order to determine
whether that component is within the scope of IAS 11 or IAS 18.
The segmenting criteria of IAS 11 then apply to any component of
the agreement that is determined to be a construction contract.
The following analysis also applies to a component for the
construction of real
estate identified within an agreement that includes other
components.
Determining whether the agreement is within the scope of IAS
11 or IAS 18
Determining whether an agreement for the construction of real
estate is within the scope of IAS 11 or IAS 18 depends on the terms
of the agreement and all the surrounding facts and circumstances.
Such a determination requires judgement with respect to each
agreement.
IAS 11 applies when the agreement meets the definition of a
construction contract set out in IAS 11: ‘a contract specifically
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IAS 18 REVENUE
negotiated for the construction of an asset or a combination of
assets …’
An agreement for the construction of real estate meets the
definition of a construction contract when the buyer is able to
specify the major structural elements of the design of the real estate
before construction begins and/or specify major structural changes
once construction is in progress (whether or not it exercises that
ability).
When IAS 11 applies, the construction contract also includes any
contracts or components for the rendering of services that are
directly related to the construction of the real estate.
2. When the agreement is an agreement for the rendering of
services
If the undertaking is not required to acquire and supply construction
materials, the agreement may be only an agreement for the
rendering of services in accordance with IAS 18.
In this case, IAS 18 requires revenue to be recognised by reference
to the stage of completion of the transaction using the percentage
of completion method.
3. When the agreement is an agreement for the sale of goods
In contrast, an agreement for the construction of real estate in
which buyers have only limited ability to influence the design of the
real estate, for example, to select a design from a range of options
specified by the undertaking, or to specify only minor variations to
the basic design, is an agreement for the sale of goods within the
scope of IAS 18.
Accounting for revenue from the construction of real estate
1. When the agreement is a construction contract
When the agreement is within the scope of IAS 11 and its outcome
can be estimated reliably, the undertaking shall recognise revenue
by reference to the stage of completion of the contract activity in
accordance with IAS 11.
The agreement may not meet the definition of a construction
contract and therefore be within the scope of IAS 18. In this case,
the undertaking shall determine whether the agreement is for the
rendering of services or for the sale of goods.
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If the undertaking is required to provide services together with
construction materials in order to perform its contractual obligation
to deliver the real estate to the buyer, the agreement is an
agreement for the sale of goods and the criteria for recognition of
revenue set out in IAS 18 apply.
The undertaking may transfer to the buyer control and the
significant risks and rewards of ownership of the work in progress in
its current state as construction progresses.
In this case, the undertaking shall recognise revenue by reference
to the stage of completion using the percentage of completion
method.
The undertaking may transfer to the buyer control and the
significant risks and rewards of ownership of the real estate in its
entirety at a single time (eg at completion, upon or after delivery).
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IAS 18 REVENUE
In this case, the undertaking shall recognise revenue only when all
the criteria are satisfied.
(ii) the amount of advances received.
Real estate sales
When the undertaking is required to perform further work on real
estate already delivered to the buyer, it shall recognise a liability
and an expense in accordance with IAS 18.
The liability shall be measured in accordance with IAS 37.
When the undertaking is required to deliver further goods or
services that are separately identifiable from the real estate already
delivered to the buyer, it would have identified the remaining goods
or services as a separate component of the sale.
Disclosures
When an undertaking recognises revenue using the percentage of
completion method for agreements that meet the criteria in IAS 18
continuously as construction progresses, it shall disclose:
(i) how it determines which agreements meet all the criteria in IAS
18 continuously as construction progresses;
Undertaking D operates a property development business. This
involves the undertaking purchasing plots of undeveloped land in
residential areas with the intention of building housing complexes
on the land.
In order to obtain financing at an early stage of the process,
undertaking D advertises the developments at a discount well in
advance of building the housing.
Customers who wish to own a property may purchase them before
any building has commenced. The customer pays a 15% deposit
initially, with the remainder payable once the property is completed
and transferred into the customer’s name.
When customers purchase the housing they must choose one of
three designs specified by undertaking D. The customer may
decide the type of tiling, flooring and wall colour of their property.
(ii) the amount of revenue arising from such agreements in the
period; and
Should undertaking D account for the .off plan. sales as
construction contracts under IAS 11, Construction Contracts, or
sale of goods under IAS 18?
(iii) the methods used to determine the stage of completion of
agreements in progress.
IAS 11 is applicable to transactions when an undertaking is
providing a service as opposed to selling goods.
For the agreements that are in progress at the reporting date, the
undertaking shall also disclose:
In order to conclude whether undertaking D is providing a service
that meets the definition of a construction contract, undertaking D
needs to demonstrate that:
(i) the aggregate amount of costs incurred and recognised profits
(less recognised losses) to date; and
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(a) there is a contract; and (b) the contract is specifically negotiated
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IAS 18 REVENUE
for the construction of an asset.
Although there is a contract between undertaking D and customers,
the customers cannot specifically negotiate the significant elements
of construction of the asset.
As an analogy, assume undertaking D sold widgets instead of
property. Undertaking D could enter into sales of widgets before it
had finished production of a batch of stock. In
this case, it would be clear that IAS 18 and not IAS 11 would be the
applicable standard.
As such, undertaking D should account for sales under IAS 18 and
not IAS 11.
The two components of the contract, being the construction of the
pipeline and the operation, should be separated and accounted for
individually. IAS 11, Construction Contracts, should be applied to
the construction element and IAS 18, applied to the operating
element.
The present value of the total fees receivable under the contract
should be allocated to the two components based on relative fair
value.
The revenue on both components should be recognised on a
percentage-of-completion basis.
The construction component will be recognised on the basis of
costs incurred to costs to complete under IAS 11.
Revenue recognition for a pipeline – IAS 11 + IAS 18
Undertaking B has won a contract to construct and operate a gas
pipeline. B will construct the pipeline and the associated
infrastructure necessary to operate it. It will then operate it for 20
years.
B will receive fees under the contract over the 20-year period.
It will receive a reimbursement of construction costs over the five
years following construction plus an annual fee over the 20-year
operating period.
Consequently the profit. that B will earn for the construction of the
pipeline is included within the annual fee it will receive.
How should B recognise the revenue it receives for constructing
and operating the pipeline?
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The operation includes transporting of the gas, tracking use of the
pipeline by customers, invoicing customers, maintenance, etc. The
operation of the pipeline is therefore provided using an
indeterminate number of acts.
The revenue for the operation should therefore be recognised on a
straight-line basis under IAS 18.
The revenue recognised under both standards in advance of the
cash received gives rise to a financial receivable. IAS 11, IAS 18
and IFRS 9, require the receivable to be recognised initially at fair
value.
Consequently the difference between the gross fees receivable
under the contract and the present value of the revenue recognised
should be recorded as interest income using the effective interest
method as required by IAS 18.
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IAS 18 REVENUE
Provision Of Services
current liabilities.
12. Installation fees.
The customer is entitled to demand repayment of the connection
fee at any time by requesting disconnection of the service. The
obligation is therefore a financial liability to pay cash and is
recognised in accordance with IAS 32.
Recognised by the stage of completion.
Example:
You are installing a computer network in 5 identical buildings for a
client, under a single contract.
Recognise 20% of revenue on completion of installation in each
building.
Recognition of connection fees
Undertaking B supplies electricity to industrial customers. It charges
the customer a connection fee before it will connect the customer to
the electricity supply network.
The connection fee is refundable to the customer if the customer
decides it no longer requires the electricity supply. There is no
minimum notice period that the customer must give undertaking B
of its request to disconnect.
Undertaking B may deduct the cost of disconnecting the customer
from the amount refundable. Undertaking B has many longestablished customers that are not expected to request
disconnection in the foreseeable future.
B’s management is considering how it should account for the
connection fees that it receives from its customers.
B’s management should recognise the connection fees received as
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The full amount of the liability must be recognised as a liability in
accordance with IFRS 9. It is not possible to reduce the amount of
the liability based on the expected level and timing of disconnection
requests.
13. Service fees / after sales support included in the price of
the product.
Recognised over the period of the services / support.
Example:
You sell a car for $15.000, including a year’s warranty.
The fair value of the warranty is $1.200.
Under the terms of the warranty the car will be brought to you for
quarterly servicing.
Recognise $13.800 as revenue for the sale immediately, and $300
as service revenue when the car has each service.
Debit: Cash $15.000.
Credit: Revenue $ 13.800, Deferred revenue $1.200
I/B
DR
CR
Cash
B
15.000
Warranty provision
B
1.200
Revenue
I
13.800
Initial sale
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IAS 18 REVENUE
Warranty provision
Revenue
Transfer when each service is
provided
B
I
300
300
14. Advertising commissions.
Example:
A client signs two insurance policies, which will give your firm a
commission of policy (1) $100 and policy (2) $120.
For policy (1) all payments are made immediately and for policy (2)
payments will be made monthly over 1 year.
Example:
In July, as an agent, you book for a client, an advertisement to
appear in both the November and December issues of a magazine.
Your commission is $500.
Recognise $250 each time the advertisement appears.
I/B
DR
CR
Cash (or accounts receivable)
B
500
Deferred revenue
B
500
Record of booking
Deferred revenue
B
250
Revenue
I
250
Transfer each time advertisement
appears
The payments for policy (2) will be collected at the client’s home
each month.
The commission element of each collection will be $10.
Recognise commission of $100 now, and $10 each time payment is
collected.
I/B
DR
CR
Accounts receivable
B
220
Deferred revenue commission
B
120
Revenue commission
I
100
Signing of the policy
Deferred revenue
B
10
Revenue
I
10
Cash
B
10
Accounts receivable
B
10
Transfer when each payment is
collected
15. Insurance agency commissions.
16. Financial service fees- Integral part of the effective yield.
Recognition when received, or receivable. Deferred and recognised
over the life of the policy, if further services are required.
Origination fees relating to initiating a loan, such as credit checking
and loan documentation, should be deferred and recognised as an
adjustment to the effective interest rate. In each period, they are
recognised as fees.
Recognised when the specific advertisement appears.
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IAS 18 REVENUE
Example:
You provide a $10000 loan at 10% for 2 years. Interest is paid at the
end of each year. Your administration fee is $200 and paid in
advance.
I/B
DR
CR
Loan receivable
B
10.000
Cash
B
10.000
Cash
B
200
Deferred revenue
B
200
Providing loan and receiving fee
Accrue interest monthly, and recognise the fees monthly using the
effective interest rate calculation.
The effective yield of the loan is 11%.
(Interest of $2000+ $200 fees) / $10000 loan = 11% p.a.
Loan origination fees
Issue
Financial service fees should be distinguished between fees that
are an integral part of a financial instrument’s effective interest rate,
fees that are earned as services are provided and fees that are
earned on the execution of a significant act.
Should loan origination fees be recognised as an integral part of the
financial instrument’s effective yield, or as fees earned for services
provided?
Interest of 8% that is equal to the market rate is payable annually.
The loan origination fees amount to 2,000 and are paid by B to A on
1 January 20X1.
Solution
Loan origination fees charged by A are an integral part of
establishing a loan. These fees are deferred and recognised as an
adjustment to the effective yield.
The effective yield is the interest needed to discount all the cash
flows (8,000 for 5 years and the principle amount of 100,000) to the
present value of 98,000.
In this case the effective yield obtained by a DCF calculation is
approximately 8.51% and therefore the undertaking recognises a
finance cost at 8.51% on the carrying amount in each period.
The journal entries for the recognition of the transaction are set out
below:
1 January 20X1
Dr
Loan (100,000 less
2,000)
98,000
Cr
Cash
98,000
Background
Undertaking A grants a loan to undertaking B for 100,000 on 1
January 20X1. The loan is repayable at 31 December 20X5.
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IAS 18 REVENUE
Cr
Interest income
[(98,703+397)x8.51]
8,431
31 December 20X1
Dr
Dr
Cr
8,000
31 December 20X5
Cash
Dr
Cash
8,000
Loan
337
Dr
Loan
469
8,337
Cr
Interest income
[(99,100+431)x8.51]
8,469
Interest income
(98,000x8.51%)
31 December 20X2
Dr
Dr
Cr
Cash
8,000
Dr
Cash
100,000
Loan
366
Cr
Loan
100,000
8,366
Interest income
[(98,000+337)*8,51%]
Commitment fees are considered to be fees for the ongoing
31 December 20X3
Dr
Cash
8,000
involvement. They should be deferred and recognised as an
Dr
Loan
397
adjustment to the effective interest rate. Recognition will occur at
Cr
Interest income
[(98,337+366)x8.51%]
8,397
the expiry of the commitment, if the loan is not drawn down.
31 December 20X4
Dr
Cash
8,000
Dr
Loan
431
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IAS 18 REVENUE
Example:
You offer a $10.000 loan facility at 10% for 2 years. Interest is paid
at the end of each year. Your commitment fee is $360 and paid in
advance. The loan is drawn down on the 1st day of year 2.
I/B
DR
CR
Cash
B
360
Deferred revenue
B
360
Loan receivable
B
10.000
Cash
B
10.000
Receiving fee (day 1) and providing
loan (1st day of year 2)
Accrue interest monthly, including the commitment fee using the
effective interest rate.
Background
Undertaking A commits to extend a loan to undertaking B and
charges a commitment fee of 8,000. The commitment period is 2
years. Undertaking A retains the fee if B does not draw down on the
loan facility.
The effective yield of the loan is 13.6%.
(Interest of $1.000+ $360 fees) / $10.000 loan = 13.6%.
Solution
The fee should be amortised and recognised as an adjustment to
the effective yield from when the loan is drawn down. The fees
should be recognised in full at the end of the two-year period if B
did not as expected draw down on the loan.
If the loan had never been drawn down, recognise the fees at the
end of year 2.
Undertaking A cannot settle the commitment net in cash.
Undertaking A did not designate the commitment as a financial
liability through profit or loss and does not expect to sell the
resulting loan.
Undertaking A considers it probable that B will draw down the loan
facility.
Commitment fees to originate a loan
The loan commitment fee arises on a commitment that is not
subject to IFRS 9.
Issue
Financial service fees should be distinguished between fees that
are an integral part of a financial instrument’s effective interest rate,
fees that are earned as services are provided and fees that are
earned on the execution of a significant act.
The fee is compensation for ongoing involvement with the
acquisition of a financial instrument if it is probable that the
undertaking will enter into a specific lending arrangement.
Should the commitment fees to originate a loan be recognised as
part of the financial instrument’s effective yield or as fees earned for
services provided?
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IAS 18 REVENUE
17. Financial service fees - Fees for servicing a loan.
Fees to be recognised when the services are provided.
Example:
You provide a loan for 1 year. You have a service fee of $4.000,
payable in advance. Each quarter, you will audit your client’s
accounts, and review the results, to confirm that there has been no
breach of the covenant contained in the loan contract.
I/B
DR
CR
Cash
B
4.000
Deferred revenue
B
4.000
Loan receivable
B
100.000
Cash
B
100.000
Accruing interest and recognising
fees
Recognise $1.000 of fee income on completion of each review.
Deferred revenue
B
1.000
Revenue
I
1.000
Transfer following each review
Example:
You organise a syndicated loan for $1.000m. You provide 10% of
the funds. You receive 6% interest, while the other syndicate
members receive only 5%.
Loan receivable
Cash
Provision of loans
I/B
B
B
DR
$100 m
CR
$100 m
Each year, you record $5 million as interest receivable, and $1
million as syndication fees.
Cash
B
$6 m
Interest receivable
I
$5 m
Fees-syndication
I
$1 m
Each receipt of interest & fees
19. Admission fees.
Recognition occurs when the event takes place.
Examples are commissions on the allotment of shares, placement
fees relating to loans and loan syndication fees.
Example:
In May, you sell tickets for a concert that will take place in July:
I/B
DR
CR
Cash
B
100
Deferred revenue
B
100
Revenue is recognised on completion, assuming involvement then
ceases. If part of the loan is retained, with a higher effective yield,
the additional yield is the syndication fee, which should be
recognised, when the syndication is completed.
Revenue will be recognised after the concert in July:
I/B
DR
Deferred revenue
B
100
Revenue
I
18. Financial service fees – Fees earned for a specific act.
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CR
100
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IAS 18 REVENUE
20. Initiation, entrance and membership fees.
services at prices lower than those charged to non-members,
revenue is recognised on a basis that reflects the timing, nature and
value of the benefits provided.
Recognition reflects the timing of the services provided.
Example:
To become a student member of an accounting body, you have to
pay $165 registration fee and $180 annual membership.
The $165 can be recognised as the accounting body’s revenue
when you are registered:
Cash
Revenue
Deferred revenue
I/B
B
I
B
DR
345
Background
Undertaking X is a travel agency. It provides its customers with
access to a variety of discounted services in return for an annual
membership fee to be paid up front.
CR
165
180
The membership fee will be recognised at the rate of $15 per
month:
I/B
DR
CR
Deferred revenue
B
15
Revenue
I
15
Recognition of professional fees 2
Issue
Membership fees are recognised as revenue: when there is no
significant uncertainty about collection; if the fee permits
membership only; and all other services or products are paid for
separately; or if there is a separate annual subscription.
If the fee entitles the member to services or publications to be
provided during the membership period or to purchase goods or
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At what point should the undertaking recognise revenue in the
following example?
Customers have the right to cancel the arrangement at any time
and receive a full refund of the fee if they have not used any of the
services.
Based on historical experience, undertaking X is able to predict
cancellation rates in the future within a fairly narrow band.
Undertaking X has over 5 million registered members.
Solution
The fee should be recognised on a basis that reflects the timing,
nature and value of the discounted services that X provides.
For example, where the discounted services must be taken
throughout the period, then undertaking X should recognise
revenue rateably throughout the period.
At the period end, assuming that customers had taken advantage of
all available discounted services, then undertaking X would
recognise the total membership fee.
Alternatively, had the fee entitled a customer to membership only,
and all other products and services are paid for separately at full
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IAS 18 REVENUE
price, then the undertaking should recognise the fee when there is
no significant uncertainty about its collectability.
Undertaking X should recognise a provision for refunds based on
historical experience. The corresponding entry should be to reduce
revenue.
21. Franchise fees – Supplies of equipment and other tangible
assets.
Recognition occurs when the items are delivered, or title passes.
Example:
As part of the contract, your fast-food franchisee must buy cooking
equipment from you costing $15.000. Title passes when the
equipment has been installed, and has been inspected by the local
authorities.
I/B
DR
CR
Cash
B
$15.000
Deferred revenue
B
$15.000
Recording the receipt of cash for the cooking equipment.
Where subsequent fees do not cover the cost of ongoing services,
part of the initial fee should be deferred and recognised when
subsequent services have been provided.
Example:
You run a fast-food franchise business.
You charge an annual franchise fee of $20.000, payable at the start
of the year. You also charge a monthly fee of $1.500 for which you
provide a fixed amount of food with a value of $1.800 each month,
including your standard profit margin of $300. Any additional food is
charged separately.
Recognise only $16400 ($20000-($300*12)=$16400) as fee income
at the start of the year. Consider the remainder as a payment in
advance of the monthly fee, and therefore recognise $1.800 per
month.
Recognise the sale when the inspection has been satisfactorily
completed:
I/B
DR
CR
Deferred revenue
B
$15.000
Revenue
I
$15.000
I/B
Cash
B
Revenue
I
Deferred revenue
B
Recording receipt of the annual franchise fee.
I/B
Cash
B
Revenue
I
Deferred revenue
B
Accounting monthly for the food
22. Franchise fees – Initial and subsequent services.
23. Franchise fees – Continuing.
Recognition reflects the timing of the services provided.
Recognition reflects the timing of the services provided, or the
passage of time, depending on the franchisor’s commitment.
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DR
$20.000
CR
$16.400
$3.600
DR
1.500
CR
1.800
300
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IAS 18 REVENUE
Example:
You run a car dealer franchise network.
$10.000 of the franchise fee, that you charge your franchisees, is for
the training of 20 staff of your franchisee:
Cash
Deferred revenue – training
I/B
B
B
DR
10.000
I/B
I
B
DR
CR
10.000
200,000 for the initial supply of special equipment related to
branding, assistance with site location and staff training; and
600,000 as an advance fee for the access to the franchise.
Of the 200,000:
110,000 represents the sale of assets (with a cost of 75,000), which
are delivered immediately;
90,000 relates to services of assistance and staff training for a
period of 5 months (with a cost of 60,000).
Receipt of Franchise Fee
Revenue
Deferred revenue-training
Each time one is trained, credit
$500 to fees
CR
500
500
Recognition of franchise fees
Issue
Franchise fees are recognised as revenue on a basis that reflects
the purpose for which the fees were charged.
How should a franchisor recognise the initial and subsequent
payments received for the franchise agreement?
Background
A franchisor of a chain of children’s clothes shops grants a
franchise for a period of 4 years. The franchisee pays an initial fee
and continuing franchise fees.
The franchisee will pay an up front fee of 800,000 for the following:
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These assets and services are fully delivered in the first year.
Subsequently, the franchisee will pay a quarterly franchise fee of
100,000 for the use of continuing rights.
Solution
The franchisor should recognise revenue of 110,000 and costs of
75,000 for the sale of the equipment on delivery.
The franchisor should recognise revenue of 90,000 related to the
services based on the stage of completion of the services, as the
costs are incurred, during the period of 5 months.
The franchisor should recognise 600,000 relating to the access to
the franchise as revenue on a straight-line basis over the period of
the contract, that is, 4 years.
The fee is a continuing franchise fee, even though the franchisee
pays the fee up-front.
The subsequent payments of 100,000 should be recognised as the
right is used, that is, on a straight-line basis over the three-months
period covered by the payment.
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IAS 18 REVENUE
24. Franchise fees – Agency Transactions.
If the franchisor orders supplies for the franchisee at no profit, no
Cash
Revenue
Accounts receivable
I/B
B
I
B
DR
6.000
CR
8.000
2.000
revenue, nor cost, is recognised.
Example:
You run a fast-food franchise business.
You insist that your franchisees have a health and safety audit each
year, organised by you, recharged at cost.
I/B
DR
CR
Cash
B
50
Audit costs
I
50
Accounts receivable franchisee
B
50
Audit costs
I
50
Show this as a recharge, rather than revenue.
25. Fees from customised software development.
Recognition is based on the percentage completion method.
Provision should be made for after-sales service.
Example:
You have a contract worth $25000 to produce software.
$5000 of this sum is allocated to after-sales support.
40% of the development has been completed.
The client has paid $6000 so far, and will pay the remainder on
completion.
Recognise 40%($25000-$5000) = $8000 of revenue. The $5000 for
after sales support will be amortised over the period to which it
relates.
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The payment of $6000 has no impact on the revenue recognised.
Such payments improve cash flow.
Interest, Royalties And Dividends
26. Licence fees and royalties.
Recognition is based on the substance of the contract. In general,
they will be spread, on a straight-line basis, over the life of the
project.
If rights are sold for an unlimited time, without further service
involved, then this can be treated as a sale.
Examples:
You sell the rights to your drug to the Ukraine for $10 million for 5
years. Recognise $2 million per year.
I/B
DR
CR
Cash
B
10million
Revenue
I
2million
Deferred revenue
B
8million
Receipt of cash and recognition of
the revenue from year 1.
You sell the rights to your drug in the US for $50 million, for an
unlimited amount of time, but subject to your help in successfully
obtaining the approval of the Federal Drug Agency (FDA) for the
drug.
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Recognise the $50million as a sale only when the drug receives
FDA approval.
IFRIC 13 – Accounting for Customer Loyalty Programmes - IFRS
News September 2007
Customer loyalty programmes are widespread – retailers, airlines,
hotels, telecoms operators and similar businesses are all offering
incentives to gain customer loyalty.
There seem to be almost as many different accounting treatments
as there are programmes.
IFRIC 13, Customer Loyalty Programmes, was published to create
consistency in accounting for customer loyalty plans. The
interpretation is applicable to all undertakings that grant awards as
part of a sales transaction (including awards that can be redeemed
forgoods or services not supplied by the undertaking).
Impact of the interpretation
When a customer buys goods or services and receives a loyalty
incentive (an award credit), this is treated as a multiple element
arrangement.
Revenue earned by the seller under the transaction is consequently
split between the elements –, between the goods or services and
the award credit (at fair value).
The revenue allocated to the award credit is deferred and only
recognised when the award credit is used.
The seller determines a fair value for the award credit (which will
generally be based on the fair value that the customer will receive)
and then estimates the likely number of awards that will be
redeemed.
The fair value of revenue estimated in this way is deferred. The
seller must maintain detailed customer data to estimate the
expected levels of redemption, and keep that estimate up to date.
Changes in the estimate of redemptions after award credits have
been issued affect the rate at which the deferred revenue is
recognised but do not alter the amount of deferred revenue.
The undertaking may be the principal in the scheme or it may be
acting as an agent for the third party running the scheme. The
undertaking is a principal when it has the obligation to satisfy the
awards demanded by participants, and the accounting follows the
model described above.
The undertaking is an agent when it pays the third party for each
award point, and the third party has the obligation to satisfy the
awards requested. The undertaking acting as an agent recognises
commission income, which:
• is the difference between the consideration allocated to the
incentive and the amount payable to the third party supplying the
incentive; and
• is deferred until the third party is obliged to supply the awards and
is entitled to receive consideration for doing so.
What happens if the undertaking is going to make a loss?
What does this mean to those who offer award credits?
When an award credit is issued, it may reduce the margin that an
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undertaking will receive on a subsequent sale of the goods.
However, provided this reduction in margin does not cause the
undertaking to make a loss, the undertaking is not permitted to
recognise a provision for the margin reduction.
If there is expected to be a loss on sale of the later item using the
award credits, the award credit arrangement is accounted for as an
onerous contract and a provision is recognised.
The retailer should treat the coupon as a discount against revenue
when the customers redeem them.
The coupon encourages the customers to spend, rather than being
a cost of promoting the stores. The cost of the newspaper
advertisement should be expensed when the newspaper is
published.
8.
Multiple choice Questions
Accounting treatment of free discount coupons
Choose the answer closest to that you believe to be correct.
Issue
Revenue is the gross inflow of economic benefits during the period
that is generated in the course of the ordinary activities of an
undertaking.
Those inflows should result in increases in equity, other than
increases relating to contributions from equity participants.
How should a retailer account for the distribution of discount
coupons?
Background
A clothing retailer has launched a new promotional campaign. It
publishes a coupon in a national newspaper giving a discount of 5%
off any purchase over 50 in any of the retailer’s stores.
The retailer’s normal gross margin on sales is 60%.
Solution
The retailer should not recognise the distribution of coupons in its
financial statements.
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1. Revenue:
1) Includes gains.
2) Is the gross inflow of economic benefits of the ordinary
activities, when those inflows result in increases in equity,
other than increases relating to contributions from investors.
3) Includes sales taxes and value added tax.
2. Fair Value
1) Is the value for which an asset could be sold, or a liability
extinguished, between willing, independent traders.
2) Is the value agreed between related parties.
3) Is based on historical cost.
3. Trade discounts and volume rebates should:
1) Be ignored.
2) Be subtracted from revenue.
3) Be shown in the balance sheet under equity.
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4. Where interest-free, long-term credit is given,
1) Revenue should not be recognised until cash is received.
2) Future receipts should be discounted to net present value.
3) A bad debt provision should be created.
5. Where goods are exchanged:
1) No bookkeeping is necessary.
2) Cash is never involved.
3) Revenue is created.
6. A Transaction involves after sales service:
1) It is no longer regarded as revenue.
2) The revenue relating to the service is spread over the period
of the service.
3) It is always a credit transaction.
7. Combined transactions, such as a sale and repurchase
agreement:
1) Are dealt with as one transaction.
2) Must be shown separately.
3) Are illegal.
8. When is a sale recognised?
1) Whenever the seller decides to recognise it.
2) At the end of each accounting period.
3) When certain conditions have been satisfied.
1) The best reason to defer revenue recognition.
2) Not a reason to defer revenue recognition.
3) Detailed in the audit report.
10. Retention of significant risks means that:
1) The sale will not be recognised.
2) There is no problem with revenue recognition.
3) Insurance is mandatory.
11. If the sale is contingent on the buyer deriving revenue from
resale of the goods:
1) It should never be recognised as a sale.
2) It should receive shareholder approval.
3) Recognition is deferred.
12. Where foreign exchange control jeopardises the transfer of
the sales proceeds:
1) Recognition cannot take place until permission to transfer
funds is granted.
2) The sale is cancelled.
3) A bad debt provision should be created.
13. Once an amount has been recognised in revenue, any risk
of non-payment is treated as:
1) A reduction in revenue
2) A bad, or doubtful debt expense.
3) A charge to accounts payable.
9. Normal credit risk derived from sales is:
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14. Where warranties are given to the buyer, the cost of these
will be recognised:
1) As an expense.
2) As a reduction in revenue.
3) In the following period.
19. If the costs will probably be recovered, recognise:
1) All revenue.
2) Only that amount of revenue, equal to the costs.
3) No revenue.
20. Interest revenue should be recognised on a:
15. Revenue from the provision of services should be
recognised by referring to the:
1) Original estimates.
2) Payments received in advance.
3) Stage of completion at the balance sheet date.
1) Time-proportion basis, reflecting the effective yield of the
asset.
2) Cash basis.
3) Time-proportion basis, reflecting collection periods.
21. Royalties should be recognised on:
16. The stage of completion, the costs to date, and the costs to
complete the transaction should be:
1) Ignored.
2) Listed in the accounts.
3) Reliably measurable.
17. Revisions to estimates:
1) Mean that the financial outcome of the transaction cannot be
reliably measured.
2) Mean that the financial outcome of the transaction can be
reliably measured.
3) Cancel the transaction.
1) A cash basis.
2) An accruals basis.
3) An actual basis.
22. Dividends should be recognised:
1) On a cash basis.
2) On an accruals basis.
3) When the shareholder has a legal right to receive payment.
18. Advances and progress payments received from clients:
1) Is proof of the stage of completion.
2) May not reflect the stage of completion.
3) Should be booked to accounts payable.
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9.
Exercise Questions
Decide when, and how much, revenue can be recognised in
each of the following situations.
Provide debits and credits for your answer, where revenue is
recognized.
1. You are about to deliver your monthly consignment of goods,
when your client’s delivery service ceases business. He asks you to
store them, at his risk, until he can find alternative transport.
7. A buyer pays for your goods on the 5th of each month. They are
shipped on the 10th of the month, and he accepts delivery on the
15th of each month.
8. You sell a portfolio of shares in January for $10.000, with a
contract to repurchase them for $10.500 in March.
9. You sell a 5-year subscription to your hardware support service,
payable in advance.
10. You sell a machine for $100.000, payable in instalments over
one year. The rate of interest is 10%. Interest is included in the
price.
2. You sell carpets to a retail chain.
They must be inspected prior to acceptance, but the inspector is ill.
None have been rejected in the last 3 years.
11. You sell a hotel, but have committed your firm to repair the
drains. Your repairer is away for 2 months.
3. You sell radiators to a wholesaler. Written notification of rejection
must be made within 30 days.
12. You are installing a telephone network in 20 identical buildings
for a client, under a single contract.
4. In April, you supply 40 computers to your agent. The contract is a
consignment contract. In November, the agent sells the computers,
but you do not receive the money until December.
13. You sell a photocopier for $30.000, including a year’s warranty.
The fair value of the warranty is $2.400. The copier will require
quarterly services.
5. You sell software via the Internet. Clients can pay on receipt of
the software.
14. In July, as an agent, you book a band to appear once in March
and once in May at a dance hall. Your commission is $4.000.
6. You build warehouses. You accept deposits and progress
payments, prior to the warehouse being finished. When it is
finished, 2% of the total payment remains unpaid, but is likely to be
paid soon.
15. A client signs an insurance policy, which will give your firm a
commission of $5.000. Payments will be made monthly over 2
years. The payments will be collected at the client’s home. The
commission element of each collection will be $100.
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16. You provide a $100.000 loan at 12% for 3 years. Interest is paid
at the end of each year. Your administration fee is $3.600 and paid
in advance.
17. You offer a $100.000 loan facility at 15% for 4 years. Interest is
paid at the end of each year. Your commitment fee is $4.800 and
paid in advance. The loan is drawn down on the 1st day of year 3.
24. $30.000 of your franchise fee is for the training of 60 staff of
your franchisee.
25. You insist that your franchisees have a financial and operational
internal audit each year, organised by you, recharged at cost.
26. You have a contract worth $50.000 to produce software.
18. You provide a loan for 4 years. You have a service fee of
$32.000, payable in advance. Each quarter, you will audit your
client’s accounts, and review the results, to confirm that there has
been no breach of covenant (the loan contract).
19. You organise a syndicated loan for $2.000 million. You provide
5% of the funds. You receive 8% interest, while the other syndicate
members receive only 6%.
20. In October, you sell tickets for an exhibition that will take place
in December.
21. To become a member of a car club, you have to pay $100
registration fee and $600 annual membership. How does the car
club recognise its revenue?
$10.000 of this sum is allocated to after-sales support.
20% of the development has been completed. The client has paid
$18.000 so far, and will pay the remainder on completion.
27. You sell the rights to your trademark to the Georgia for
$70 million for 10 years.
28. You sell the rights to your drug in the US and Europe for $100
million, for an unlimited amount of time, but subject to your help in
successfully obtaining the approval of the Federal Drug Agency
(FDA) for the drug.
22. As part of the contract, your car service franchisee must buy
equipment for the service bays from you. Title passes when the
equipment has been installed, and has been inspected by the local
authorities.
23. You charge an annual franchise fee of $80.000, payable at the
start of the year. You also charge a monthly fee of $6.000. You
provide a fixed amount of supplies with a value of $7.200 each
month, including your standard profit margin of $1.200. Any
additional supplies are charged separately.
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10.
Solutions
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Answers to Multiple Choice Questions:
1. 2)
2. 1)
3. 2)
4. 2)
5. 3)
6. 2)
7. 1)
8. 3)
9. 2)
10. 1)
11. 3)
12. 1)
13. 2)
14. 1)
15. 3)
16. 3)
17. 2)
18. 2)
19. 2)
20. 1)
21. 2)
22. 3)
Answers to Exercise Questions:
1. Revenue can be recognised immediately.
Debit: Account receivable. Credit: Revenue.
2. Revenue can be recognised immediately.
Debit: Account receivable. Credit: Revenue.
3. At the end of 30 days, if none have been rejected, revenue can
be recognised.
Debit: Account receivable. Credit: Revenue. (after 30 days)
4. Revenue is recognised in November, when the computers are
sold by the
agent.
Debit: Account receivable. Credit: Revenue. (in November).
5. When your agent has received the cash, having delivered the
software, the revenue can be recognised.
Debit: Cash. Credit: Revenue.
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6. If the work is complete, revenue may be recognised.
Debit: Account receivable, deferred revenue. Credit: Revenue.
7. Recognise revenue when the goods are accepted.
Debit: Deferred revenue. Credit: Revenue.
8. This is primarily a finance transaction, and no revenue should be
recognised.
9. Divide the revenue by 60, and recognise 1/60 of the revenue
each month.
Debit: Cash. Credit: Deferred revenue. (on day 1)
Debit deferred revenue. Credit Revenue. (monthly)
10. Recognise immediately revenue of $90.909 (100.000/110%)
and interest receivable of $9.091, matched by an accounts
receivable of $100.000.
Debit: Accounts receivable $100.000.
Credit: Revenue $90.909, Interest receivable $9.091.
11. Defer recognition of the sale until the drains are repaired.
Debit: Cash. Credit: Deferred revenue.
12. Recognise 5% of revenue on completion of installation in each
building.
Debit: Account receivable. Credit: Revenue. (for each installation)
13. Recognise $27.600 as revenue for the sale immediately, and
$600 as service revenue when the photocopier has each service.
Debit: Cash $30.000. Credit: Revenue $27.600, Deferred revenue
$2.400.
14. Recognise $2.000 each time the band appears.
Debit: Account receivable $2.000. Credit: Deferred revenue $2.000
each time.
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15. Recognise commission of $2.600 now, and $100 each time
payment is collected.
Debit: Account receivable $5.000.
Credit: Revenue $2.600, Deferred revenue $2.400.
16. Accrue interest monthly, and recognise the fees monthly ($100
each month).
Debit: Loan receivable $100.000, Cash $3.600.
Credit: Cash $100.000, Deferred revenue $3.600. (on day 1)
Debit: Account receivable $1.000, deferred revenue $100.
Credit: Interest receivable $1.000, fee income $100. (monthly).
17. Accrue interest monthly in years 3 and 4, and recognise $200 of
fees each month in years 3 and 4.
Debit Account receivable $4.800 Credit: Deferred revenue $4.800.
(on day1)
Debit: Loan receivable $100.000. Credit: Cash $100.000. (on
drawdown)
Debit: Account receivable $1.250, deferred revenue $200.
Credit: Interest receivable $1.250, fee income $200. (monthly after
drawdown)
18. Recognise $2.000 of fee income on completion of each review.
Debit: Cash $32.000. Credit: Deferred revenue $32.000. (on day1)
Debit: Deferred revenue $2.000. Credit: Fee Income $2.000. (after
review)
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19. Each year, you record $6 million as interest receivable, and $2
million as syndication fees.
Debit: Loan receivable $100 million. Credit: Cash $100 million. (on
day1)
Debit: Cash $8 million.
Credit: Interest receivable $6 million, fees $2 million.
(when interest is received)
20. Revenue will be recognised after the exhibition in December.
Debit: Cash. Credit: Deferred revenue (in October).
21. The $100 can be recognised as the car club’s revenue when
you are registered. The membership fee will be recognised at the
rate of $50 per month.
Debit: Cash $700. Credit: Revenue $100, Deferred revenue $600.
22. Recognise the sale when the inspection has been satisfactorily
completed.
Debit: Account receivable. Credit: Deferred revenue. (on day1)
Debit: Deferred revenue. Credit: Revenue. (after inspection).
23. Recognise only $65.600 ($80.000-($1200*12)=$65.600) as fee
income at the start of the year.
Consider the remainder as a payment in advance of the monthly
fee, and recognise it at the rate of $1.200 per month to add to the
monthly fee.
Debit: Cash $80.000.
Credit: Revenue $65.600, Deferred revenue. $14.400. (on day1)
Debit: Deferred revenue $1.200. Credit: Revenue $1.200.
(monthly).
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24. Each time one is trained, credit $500 to fees.
Debit: Deferred revenue $500. Credit: Revenue $500.
25. Show this as a recharge, rather than revenue.
Debit: Accounts receivable. Credit: Recharges-internal audit fees.
26. Recognise 20%($50.000-$10.000) = $8.000 of revenue.
Debit: Cash $18.000.
Credit: Revenue $8.000, Deferred revenue. $10.000.
27. Recognise $7million per year.
Debit: Cash $70 million.
Credit: Revenue $7 million, Deferred revenue. $63 million. (Year 1)
28. Recognise the $100 million as a sale only when the drug
receives FDA approval.
Debit: Accounts receivable $100 million.
Credit: Deferred revenue. $100 million
Note: Material from the following PricewaterhouseCoopers publications has been
used in this workbook:
-Applying IFRS
-IFRS News
-Accounting Solutions
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