Question

RE Construct, property developer, builds a residential complex consisting of 50 apartments. Apartments have a similar size and proportions – however, they can be customized to clients’ needs.

RE Construct enters into 2 contracts with 2 different clients (A and B). Both clients want to buy almost identical apartments and agree with total price of RM100,000 per apartment. The payment schedule is as follows:

• Upon the signature of a contract, clients pay deposit of RM10,000 each.
• Milestone: 1 year prior planned completion, RE Construct will deliver progress reports to clients and clients need to pay RM50,000 each.
• Completion: Upon the completion of the construction, the legal ownership to apartments is transferred to clients and they pay the remaining amount of RM40,000 each.

Assumed period of construction is 2 years from the date of contract. RE Construct has the right to retain the payments from any client in the situation when that client defaults on the contract before its completion.

The contracts with clients A and B are NOT identical. Further contractual terms specify that:

• No other specific terms in the contract with client A.
• The contract with client B specifies that RE Construct cannot transfer or direct the apartment to another client and in return, the client B cannot terminate the contract.

If the client B defaults on the contract before its completion (in other words, does not make payments in line with the schedule), RE Construct has the right for all contractual price if RE Construct decides to complete the contract.

Answer 1

 

Revenue from contract with client A – at the point of time

The contract with client A does NOT meet the third criterion.

The reason is that RE Construct builds an apartment that can be easily sold or transferred to another client in case of default.

Even when this would be prevented (by writing specifically in the contract), RE Construct has NO enforceable right to payment for performance completed to date.

RE Construct will keep ONLY the progress payments in the case of client’s default and they may not cover entity’s cost for work completed to date.

As a result, RE Construct would recognize revenue at the point of time – that is when the apartment is transferred to the client A (upon the completion in the year 2).

 

Revenue from contract with client B – over time

The contract with client B MEETS the third criterion.

The reason is that RE Construct cannot direct the constructed asset for the alternative use, because the contract with client B does not permit transfer of the apartment to another client.

Also, RE Construct has enforceable right to payment for performance completed to date.

Therefore in this case, RE Construct recognizes revenue over time – that is, over 2 years of construction of apartment based on some output or input method.

To make it simple, let’s say that 1 year prior completion, RE Construct incurred 45% of total cost for building an apartment and another 55% is incurred in the second year of construction.

As a result, RE Construct recognizes the revenue:

• In the year 1: RM45,000 (45% of RM100,000)
• In the year 2: RM55,000 (55% of RM100,000)

The comparison of the revenue profiles for contract A and contract B under MFRS 15 is in the following table:

Date	Revenue (Contract A)	Revenue (Contract B)
Year 1	0	45,000
Year 2	100,000	55,000
Total	100,00	100,000

 

 

 

Revenue from contract with client A – at the point of time

The contract with client A does NOT meet the third criterion.

Revenue from contract with client B – over time

The contract with client B MEETS the third criterion.

As a result, RE Construct recognizes the revenue:

• In the year 1: RM45,000 (45% of RM100,000)
• In the year 2: RM55,000 (55% of RM100,000)