Understanding IFRS 15:
International Financial Reporting Standard (IFRS) 15, Revenue from Contracts with Customers, is a critical standard for organizations around the globe. Effective from January 1, 2018, IFRS 15 established the principles that an entity must apply to report information about the nature, amount, timing, and uncertainty of revenue and cash flows arising from a contract with a customer..
This blog will provide an overview of what you need to know about IFRS 15, helping you understand its scope, core principles, and implementation challenges.
The Core Principle
At the heart of IFRS 15 is a single, principle-based, five-step model to recognize revenue. The core principle 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.
CONTRACT IDENTIFICATION
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. IFRS 15 applies to each contract that meets the following criteria:
Contracts can be written, oral, or implied by an entity’s customary business practices. IFRS 15 applies to each contract that meets the following criteria:
- The parties have approved the contract and are committed to fulfilling their obligations.
- The entity can identify each party’s rights regarding the goods or services to be transferred.
- The entity can identify the payment terms for the goods or services to be transferred.
- The contract has commercial substance.
- It is probable that the entity will collect the consideration to which it will be entitled in exchange for the goods or services that will be transferred to the customer.
CONTRACT IDENTIFICATION
A performance obligation is a promise to transfer a good or service to the customer. This step involves identifying each distinct good or service promised in the contract.
TRANSACTION
PRICE
The transaction price is the amount of consideration an entity expects to be entitled to in exchange for transferring promised goods or services to a customer.
ALLOCATION OF PRICE TO OBLIGATIONS
This involves allocating the transaction price to each performance obligation based on the relative standalone selling prices of each distinct good or service.
REVENUE
RECOGINTION
Revenue is recognized when control of the goods or services is transferred to the customer, either over time or at a point in time.
Implementing IFRS 15 can present several challenges:
Complex Contracts Identifying and measuring performance obligations in complex contracts can be challenging.
Variable Consideration Estimating variable consideration, such as performance bonuses or penalties, requires significant judgment.
Licensing Arrangements Determining whether a license provides a right to use or a right to access intellectual property can be complex.
Disclosures IFRS 15 requires extensive disclosures about revenue and contracts with customers, which can be time-consuming to prepare.
Variable Consideration Estimating variable consideration, such as performance bonuses or penalties, requires significant judgment.
Licensing Arrangements Determining whether a license provides a right to use or a right to access intellectual property can be complex.
Disclosures IFRS 15 requires extensive disclosures about revenue and contracts with customers, which can be time-consuming to prepare.
AUDITING IFRS 15
Creating a detailed audit work program for IFRS 15 involves outlining the specific procedures and to follow to ensure compliance and accuracy in financial reporting related to revenue recognition.
Understanding the Entity and Its Environment
Gain an understanding of the entity’s operations, industry, business model, and relevant regulatory environment.
Review entity’s policies, procedures, and controls related to revenue recognition.
Identify key personnel responsible for revenue recognition decisions.
Assess the impact of economic factors and market conditions on revenue recognition.
Review entity’s policies, procedures, and controls related to revenue recognition.
Identify key personnel responsible for revenue recognition decisions.
Assess the impact of economic factors and market conditions on revenue recognition.
Risk Assessment
Identify and assess risks of material misstatement related to revenue recognition under IFRS 15.
Obtain an understanding of internal controls over revenue recognition.
Identify inherent and control risks associated with revenue recognition.
Perform a preliminary assessment of fraud risks related to revenue recognition.
Obtain an understanding of internal controls over revenue recognition.
Identify inherent and control risks associated with revenue recognition.
Perform a preliminary assessment of fraud risks related to revenue recognition.
Revenue Recognition Policies and Procedures
Evaluate the entity’s revenue recognition policies and procedures in accordance with IFRS 15.
Obtain and review revenue contracts, including significant terms and conditions.
Assess how the entity identifies performance obligations.
Evaluate methods used to determine transaction price and allocate it to performance obligations.
Review policies for recognizing revenue over time vs. at a point in time.
Assess policies for estimating variable consideration and constraining estimates.
Evaluate policies for accounting for contract modifications and collectability.
Obtain and review revenue contracts, including significant terms and conditions.
Assess how the entity identifies performance obligations.
Evaluate methods used to determine transaction price and allocate it to performance obligations.
Review policies for recognizing revenue over time vs. at a point in time.
Assess policies for estimating variable consideration and constraining estimates.
Evaluate policies for accounting for contract modifications and collectability.
Testing Revenue Recognition
Test the application of revenue recognition policies and procedures in specific transactions.
Select a sample of revenue transactions and test them against IFRS 15 criteria.
Verify the accuracy of contract modifications and their impact on revenue recognition.
Confirm that revenue is recognized when (or as) the entity satisfies a performance obligation.
Review the appropriateness of revenue recognition methods (over time or at a point in time).
Evaluate the accuracy of estimates related to variable consideration and constraints.
Select a sample of revenue transactions and test them against IFRS 15 criteria.
Verify the accuracy of contract modifications and their impact on revenue recognition.
Confirm that revenue is recognized when (or as) the entity satisfies a performance obligation.
Review the appropriateness of revenue recognition methods (over time or at a point in time).
Evaluate the accuracy of estimates related to variable consideration and constraints.
Disclosure Requirements
Ensure that the entity’s disclosures related to revenue recognition comply with IFRS 15 requirements.
Review financial statement disclosures related to revenue recognition policies.
Assess the completeness and accuracy of disclosures related to significant judgments and estimates.
Confirm that disclosures provide sufficient information about performance obligations, transaction prices, and significant judgments.
Review financial statement disclosures related to revenue recognition policies.
Assess the completeness and accuracy of disclosures related to significant judgments and estimates.
Confirm that disclosures provide sufficient information about performance obligations, transaction prices, and significant judgments.
Management Representations and Assertions
Obtain management representations related to revenue recognition.
Request written representations from management regarding the completeness and accuracy of revenue recognition disclosures.
Obtain representations related to the appropriateness of revenue recognition policies and procedures.
Request written representations from management regarding the completeness and accuracy of revenue recognition disclosures.
Obtain representations related to the appropriateness of revenue recognition policies and procedures.
Conclusion and Reporting
Formulate conclusions based on audit findings related to revenue recognition.
Prepare audit documentation reflecting the audit work performed and conclusions reached.
Report any identified deficiencies in internal controls over revenue recognition.
Provide a summary of findings related to revenue recognition and any required adjustments.
Communicate audit results to management and those charged with governance.
Prepare audit documentation reflecting the audit work performed and conclusions reached.
Report any identified deficiencies in internal controls over revenue recognition.
Provide a summary of findings related to revenue recognition and any required adjustments.
Communicate audit results to management and those charged with governance.
Additional Considerations
Consider the use of specialists or experts when evaluating complex revenue recognition issues.
Document the rationale behind conclusions reached and judgments made during the audit process.
Stay updated on any emerging issues or interpretations related to IFRS 15.
Document the rationale behind conclusions reached and judgments made during the audit process.
Stay updated on any emerging issues or interpretations related to IFRS 15.
For additional information and how to implement IFRS 15, call Baker Tilly to assess how we can assist you.