Treatment of Some Special Nature Transactions as per Ind AS 115 / IFRS 15


Treatment of Contract costs

  • Incremental costs of obtaining a contract
  • Costs to fulfil a contract

Incremental costs of obtaining a contract

An entity shall recognise as an asset the incremental costs of obtaining a contract with a customer if the entity expects to recover those costs (for example, a sales commission).

Costs to obtain a contract that would have been incurred regardless of whether the contract was obtained shall be recognised as an expense when incurred

As a practical expedient, an entity may recognise the incremental costs of obtaining a contract as an expense when incurred if the amortisation period of the asset that the entity otherwise would have recognised is one year or less.

Costs to fulfill a contract

If the costs incurred in fulfilling a contract with a customer are not within the scope of another Standard (for example, Ind AS 2, Inventories, Ind AS 16, Property, Plant and Equipment or Ind AS 38, Intangible Assets), an entity shall recognize an asset from the costs incurred to fulfill a contract only if those costs meet all of the following criteria:

  1. the costs relate directly to a contract or to an anticipated contract that the entity can specifically identify
  2. the costs generate or enhance resources of the entity that will be used in satisfying (or in continuing to satisfy) performance obligations in the future; and
  3. the costs are expected to be recovered.

Assets created from contract costs or costs to fulfill a contract shall be amortised on a systematic basis that is consistent with the transfer to the customer of the goods or services to which the asset relates. Such assets created shall also be tested for any impairment loss.

Sale with a right of return

To account for the transfer of products with a right of return (and for some services that are provided subject to a refund), an entity shall recognise all of the following:

  • revenue for the transferred products in the amount of consideration to which the entity expects to be entitled (therefore, revenue would not be recognized for the products expected to be returned);
  • a refund liability; and
  • an asset (and corresponding adjustment to cost of sales) for its right to recover products from customers on settling the refund liability.

Warranties

If a customer has the option to purchase a warranty separately, the warranty is a distinct service, an entity shall account for the promised warranty as a performance obligation and allocate a portion of the transaction price to that performance obligation.

If a customer does not have the option to purchase a warranty separately, an entity shall account for the warranty in accordance with Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets.

Principal versus agent considerations

An entity is a principal if the entity controls a promised good or service before the entity transfers the good or service to a customer, the entity recognizes revenue in the gross amount of consideration to which it expects to be entitled in exchange for those goods or services transferred.

An entity is an agent if the entity's performance obligation is to arrange for the provision

of goods or services by another party. the entity recognizes revenue in the amount of any fee or commission to which it expects to be entitled in exchange for arranging for the other party to provide its goods or services. An entity's fee or commission might be the net amount of consideration that the entity retains after paying the other party the consideration received in exchange for the goods or services to be provided by that party.

Customer options for additional goods or services

Customer options to acquire additional goods or services for free or at a discount come in many forms, including sales incentives, customer award credits (or points), contract renewal options or other discounts on future goods or services. If the option provides a material right to the customer, the customer in effect pays the entity in advance for future goods or services and the entity recognises revenue when those future goods or services are transferred or when the option expires.

Customers' unexercised rights

Upon receipt of a prepayment from a customer, an entity shall recognise a contract liability. An entity shall derecognise that contract liability (and recognise revenue) when it transfers those goods or services and, therefore, satisfies its performance obligation.

In some cases, customers may not exercise all of their contractual rights. Those unexercised rights are often referred to as breakage. Entity shall recognise breakage amount as revenue when the likelihood of the customer exercising its remaining rights becomes remote or negligible.

Non-refundable upfront fees

Entity charges a customer a non-refundable upfront fee Examples include joining fees in health club membership contracts, activation fees in telecommunication contracts, setup fees. In normal situation, upfront fee is an advance payment for future goods or services and, therefore, would be recognised as revenue when those future goods or services are provided.

Licensing

A licence establishes a customer's rights to the intellectual property of an entity. In addition to a promise to grant a licence to a customer, an entity may also promise to transfer other goods or services to the customer. In this case an entity shall account for the promise to grant a licence and those other promised goods or services together as a single performance obligation.

If the promise to grant the licence is distinct from the other promised goods or services in the contract and, therefore, the promise to grant the licence is a separate performance obligation

An entity shall determine whether the performance obligation (which includes the promised licence) is a performance obligation that is satisfied over time or satisfied at a point in time.

Repurchase agreements

A repurchase agreement is a contract in which an entity sells an asset and also promises

or has the option (either in the same contract or in another contract) to repurchase the asset. The repurchased asset may be the asset that was originally sold to the customer, an asset that is substantially the same as that asset, or another asset of which the asset that was originally sold is a component.

Repurchase agreements generally come in three forms:

  1. an entity's obligation to repurchase the asset (a forward);
  2. an entity's right to repurchase the asset (a call option); and
  3. an entity's obligation to repurchase the asset at the customer's request (a put option).

A forward or a call option

Entity shall account for the contract as either of the following:

  1. a lease in accordance with Ind AS 17, Leases, if the entity can or must repurchase the asset for an amount that is less than the original selling price of the asset; or
  2. a financing arrangement if the entity can or must repurchase the asset for an amount that is equal to or more than the original selling price of the asset.

When comparing the repurchase price with the selling price, an entity shall consider the time value of money.

If the option lapses unexercised, an entity shall derecognize the liability and recognize.

A put option

If an entity has an obligation to repurchase the asset at the customer's request (a put option) at a price that is lower than the original selling price of the asset, entity shall consider if the customer has a significant economic incentive to exercise that right, the entity shall account for the agreement as a lease in accordance with Ind AS 17.

If the customer does not have a significant economic incentive to exercise its right at a price that is lower than the original selling price of the asset, the entity shall account for the agreement as if it were the sale of a product with a right of return

If the repurchase price of the asset is equal to or greater than the original selling price and is more than the expected market value of the asset, the contract is in effect a financing arrangement.

If the repurchase price of the asset is equal to or greater than the original selling price and is less than or equal to the expected market value of the asset, and the customer does not have a significant economic incentive to exercise its right, then the entity shall account for the agreement as if it was the sale of a product with a right of return

When comparing the repurchase price with the selling price, an entity shall consider the time value of money. If the option lapses unexercised, an entity shall derecognize the liability and recognize revenue.

Consignment arrangements

A product that has been delivered to another party may be held in a consignment arrangement if that other party has not obtained control of the product. Accordingly, an entity shall not recognize revenue upon delivery of a product to another party if the delivered product is held on consignment.

Bill-and-hold arrangements

A bill-and-hold arrangement is a contract under which an entity bills a customer for a product but the entity retains physical possession of the product until it is transferred to the customer at a point in time in the future. An entity shall determine when it has satisfied its performance obligation to transfer a product by evaluating when a customer obtains control of that product

For a customer to have obtained control of a product in a bill-and-hold arrangement, all of the following criteria must be met:

  1. the reason for the bill-and-hold arrangement must be substantive (for example, the customer has requested the arrangement);
  2. the product must be identified separately as belonging to the customer;
  3. the product currently must be ready for physical transfer to the customer; and
  4. the entity cannot have the ability to use the product or to direct it to another customer.

If an entity recognizes revenue for the sale of a product on a bill-and-hold basis, the entity shall consider whether it has remaining performance obligations.

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CA Kushal Soni 
on 31 May 2018
Published in Accounts
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