Financial Reporting

IND AS 115: Revenue Recognition and Contracts with Customers   

Recognition of Revenue from customer contracts under IND AS 115 is one of India’s most significant accounting policies. IND AS 115 has a direct impact on the company’s financial performance. Simply, IND AS 115 is accounting literature that ensures a perspective aspect of financial reporting for both construction contracts and non-construction contracts.

A Historical Overview of IND AS 115

The Institute of Chartered Accountants of India (ICAI) issued the IND AS 115, the Indian Accounting Standard, to recognise revenue from customer contracts.  On 28th of March 2018, the Ministry of Corporate Affairs (MCA) notified and considered IND AS 115 as a new revenue recognition standard superseding the IND AS 11 and AS 18.

The Indian Accounting Standard 115 requires companies to recognise revenue when the control of goods or services is transferred to the customers.

What are the Objectives of IND AS 115?

Some of the objectives of issuing the Indian Accounting Standard 115 are as provided below:

• Report the nature, amount, and timing of contractual revenue to the users of financial statements;
• Report the nature, amount, and timing of the cash flows to the users of financial statements;
• Depict the uncertainty of revenue from customers’ contracts;
• Specify standard accounting treatment for individual or portfolio of contracts;
• Ensures comparability of revenue across entities, industries, and global markets;
• Recognise revenue to outline the transfer of promised goods or services.

What is the Scope of IND AS 115?

A contract with a customer is partially within the scope of the Indian Accounting Standard 115. Further, the scope of IND AS 115 ensures the broad application of all customer contracts to the entities. The following are some of the contracts not applicable to the entities:

• Lease contracts (under IND AS 17);
• Insurance contracts (under IND AS 104);
• Non-monetary exchange b/w entities in the same line of business;
• Financial instruments and other contractual rights or obligations (under IND AS 109 & 110).

Principles of Revenue Recognition Model Under IND AS 115

The core principles model, as defined under Indian Accounting Standard 115, recognises revenue from contracts with customers when an entity transfers the control of goods and services to customers. Further, the following are the principles of the 5-step revenue recognition model as provided under the Indian Accounting Standard:

1.   Identification of Contracts with Customers

Identifying contracts with customers is one of the recognised principles of IND AS 115. The following criteria must be considered for accounting a contract under the Indian Accounting Standard:

• Approval of the contract by parties to the contract-legally enforceable;
• Parties to the contract are committed towards their obligations;
• Identification of rights of every party and payment for contract;
• The contract must have a commercial substance;
• Probable collection of due consideration by the entity;
• Combination of contracts entered at the same time and with the same customer;
• Modification in the scope or price approved by the parties to the contract.

2.   Identification of Separate Performance Obligations

Next, the entities must access the goods and services promised in the contract to identify the separate performance obligations by customers. The following are the promises to transfer to a customer:

• Distinct goods or services, including sale of goods produced by an entity;
• A series of distinct goods or services that have similar patterns of transfer to customers;
• Goods or services that are combined into a single performance obligation;
• The transfer of goods or services separately identified;

Further, when satisfied with the performance obligation, the entity will recognise revenue by transferring promised goods or services to customers, having control over the assets.

3.   Determination of Progress of Satisfaction

The objective of determining progress satisfaction is to ensure consistent measurement of the progress of each performance obligation over time. Based on the nature of goods or services, the following are the methods used for measuring the progress towards complete satisfaction of the performance obligation:

·      Output Method

The output method recognises revenue based on the value of customers of goods or services transferred. Some examples of output methods are the units produced or delivered, time elapsed, milestones achieved, survey of performance completed to date, and appraisals of results achieved.

·      Input Method

The input method recognises revenue based on the entity’s efforts or inputs to satisfy performance obligations. Some examples of input methods are the cost incurred relative to total expected costs, resources consumed, labour hours expended, and time elapsed.

4.   Determination of Transaction Price

The entity shall recognise the transaction price allocated to that performance obligation as revenue when the performance obligation is satisfied. Additionally, the entity, while determining the transaction, must consider the following effects as provided below:

• Variable amount consideration;
• Constraining estimates of variable considerations;
• Existence of a significant financing component;
• Non-cash consideration;
• Consideration payable to the customer.

5.   Allocation of Transaction Price to Performance Obligation

The main objective of the allocation of the transaction price is to allocate the transaction price to each performance obligation identified in a contract on a relative stand-alone selling price basis. The following are the suitable approaches or methods used for estimating the stand-alone selling price (as observable or estimated price) of goods or services:

• Adjusted market assessment approach;
• Expected cost plus a margin approach;
• Residual approach (only in limited circumstances).

6.   Recognition of Revenue Upon Satisfaction of Performance Obligations

The entities are authorised to recognise revenue from contracts with customers under IND AS 115 only upon the satisfaction of the identified performance obligation. Simply, the revenue recognition based on the performance obligation is either satisfied over a period of time or at a point of time. Further, the performance obligation is held to be satisfied over time in any of the following circumstances:

• When customers simultaneously benefit as entity platforms or
• When customers control the assets as the entity creates or enhances them or
• When the entity’s performances do not create an asset with an alternative use.

Other Principles of Revenue Recognition Under IND AS 115

Some of the other principles used for revenue recognition under Indian Accounting Standard 115 are provided below:

1. Contracts Costs

Contract Costs are the costs used to obtain a contract. The costs included in the cost requirement of IND AS 115 are incremental costs of obtaining a contract with a customer recognised as an asset and the costs incurred to fulfil a contract generally recognised as an expense or an asset (in some cases).

2. Presentation

Upon the contract’s performance, either party is authorised to present the contract in the balance sheet as a contract asset or contract liability. Further, the entity shall present any unconditional rights to consideration separately as a receivable.

3. Disclosure

The entities are also authorised to disclose qualitative and quantitative information to enable an understanding of the nature, amount, timing, and uncertainty of revenue and cash flow arising from contracts with customers. The following are the crucial information required to be disclosed:

• Contract with customers;
• Significant judgements and changes in judgements;
• Disclosure of disaggregated revenue;
• Asset recognised from the costs to obtain or fulfil a contract.

Conclusion

Implementing the new Indian Accounting Standard 115 is considered a convergence of the revenue recognition policy that globally accepts IFRS 15. The present IND AS 115 results in the identification of performance obligations, timing of revenue recognition, measurement of performance obligations, and making relevant disclosures regarding disaggregated revenue. The instant shift towards the new revenue recognition accounting standard has a significant impact on the entity’s data, system, and processes. Are you looking to adopt new accounting standards for revenue recognition? Visit www.enterslice.com to stay ahead and participate in the transformation.

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