In this session, I discuss IFRS 14 Step 4 allocating transaction price to performance obligations.
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Revenue recognition under U.S. Generally Accepted Accounting Principles (U.S. GAAP) is governed by the Financial Accounting Standards Board (FASB) through its Accounting Standards Codification (ASC) Topic 606, "Revenue from Contracts with Customers." ASC 606 provides a comprehensive framework for recognizing revenue in a wide range of transactions and industries. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
The revenue recognition process under ASC 606 involves the following five steps:
Identify the contract(s) with a customer: A contract is an agreement between two or more parties that creates enforceable rights and obligations. Contracts can be written, oral, or implied by an entity’s customary business practices.
Identify the performance obligations in the contract: A performance obligation is a promise in a contract to transfer a distinct good or service (or a bundle of goods or services) to the customer. A good or service is distinct if the customer can benefit from it on its own or together with other resources that are readily available to the customer, and if the entity’s promise to transfer the good or service is separately identifiable from other promises in the contract.
Determine the transaction price: The transaction price is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties (e.g., sales tax). The transaction price can include fixed amounts, variable amounts, or both.
Allocate the transaction price to the performance obligations in the contract: If a contract has more than one performance obligation, the entity allocates the transaction price to each performance obligation in an amount that reflects the amount of consideration to which the entity expects to be entitled in exchange for satisfying each performance obligation.
Recognize revenue when (or as) the entity satisfies a performance obligation: Revenue is recognized when a performance obligation is satisfied, which occurs when control of the promised good or service is transferred to the customer. Control can transfer over time or at a point in time.
ASC 606 applies to all contracts with customers, except for those that are within the scope of other standards (e.g., leases, insurance contracts, and financial instruments). The standard requires enhanced disclosures about the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.
The adoption of ASC 606 has had significant impacts on many entities' revenue recognition practices, particularly in industries such as software, real estate, and telecommunications, where revenue recognition practices were significantly affected due to the specific nature of the performance obligations and the timing of their satisfaction.
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