Question

Case 4: Technology and Software development

ManyBits is a software company who entered into contract with a client C on 1 July 2015. Under the contract, ManyBits is obliged to:

• Provide professional services consisting of implementation, customization and testing of software. Client C has bought software license from the third party.
• Provide post-implementation support for 1 after the customized software is delivered.

Total contract price is RM55, 000.

ManyBits assessed its total cost for fulfilling the contract as follows:

• Cost of developers and consultants for implementing and testing the existing software: RM43,000;
• Cost of consultants for post-delivery support: RM2,000;
• Total estimated cost of fulfilling the contract: RM45,000.

As of 31 December 2015, ManyBits incurred the following costs of fulfilling the contract:

• Cost of developers and consultants for development, implementation and testing the customized modules: RM13,000.

How should ManyBits recognize revenue from this contract under MFRS 18 and MFRS 15?

Answer 1

MFRS 118

MFRS 18 requires recognizing revenue from similar services using the stage of completion including post-delivery services.

It means that ManyBits treats software development and post-delivery services as one big service for the purpose of accounting the revenue.

Let’s say that ManyBits calculates the stage of completion based on costs incurred for fulfilling the contract.

At the end of 2015, total incurred cost was RM13,000, which is 29% of total estimated cost of RM45,000.

Therefore, under MFRS 18, ManyBits’ revenue from this particular contract in the year 2015 is 29% (stage of completion) x RM55,000 (total contract price) = RM15,950.

 

MFRS 15

 

The main challenges are therefore:

• Identification of the individual performance obligations(e.g. sale of license + customization + post-delivery support) and allocating transaction price to them.
• Assessment of the progress towards meeting the contract.
• Assessment of the licenses for the products sold by software vendors or developers.

IFRS 15 recognizes 2 types of licenses: license to use and license to access. The accounting treatment is different for both of them and you should be able to identify which license is in question.

MFRS 15 states very precise and detailed guidance on whether the goods or services promised under the contract are distinct and whether they can be considered separate performance obligations or not.

Let’s say that software customization services and post-delivery support meet the definition of distinct performance obligations and as a result, they need to be treated separately.

How?

We need to look at them as at separate components, and allocate total transaction price of RM55,000 to them based on their relative stand-alone selling prices.

Note: contract price is not necessarily the same as transaction price, but let’s not complicate it now.

Let’s say that ManyBits’ normal charge for the support services is 10% of the package price, no matter what the “package” is – whether some ready-made license or customized software.

That would imply that the relative split between customization service and post-delivery service is 100:10, which is:

• RM50,000 (RM55,000/(100+10)*100) for software development or customization service, and
• RM5,000 (RM5,000/(100+10)*10) for post-delivery support.

In the year 2015, ManyBits measures the progress towards the completion of the performance obligation separately, based on inputs for the fulfilling the contract (costs in this case).

Internal cost estimations show that ManyBits estimated total cost for the contract of RM45,000, thereof RM43,000 for the salaries of software developers and RM2,000 for the salaries of consultants providing post-delivery support (based on man-days).

Let’s measure the progress towards the completion of both individual performance obligations as of 31 December 2015:

• Software development services: RM13,000 (incurred cost)/RM43,000 (total estimated cost) = 30%
• Post-delivery services: RM0 (incurred cost)/RM2, 000 (total estimated cost) = 0%

 As a result, revenue recognized from this contract in the year 2015 is:

• Software development services: 30% x RM50,000 (revenue allocated to software development) = RM15,000;
• Post-delivery services: 0% x  RM5,000 (revenue allocated to post-delivery service) =RM0.
• Total revenue from the same contract under MFRS 15: RM15,000.

For the simplicity, you can revise the calculations in the following table:

Performance obligation	Estimated total cost (A)	Incurred cost to 31-Dec-X1  (B)	Progress % (C)=(B)/(A)	Allocated transaction price (D)	Revenue recognized in 20X1 (D)*(C)
Professional services	43 000	13 000	30%	50 000	15 000
Post-delivery support	2 000	0	0%	5 000	0
Total	45 000	13 000	n/a	55 000	15 000

 

 

 

MFRS 118 - Therefore, under MFRS 18, ManyBits’ revenue from this particular contract in the year 2015 is 29% (stage of completion) x RM55,000 (total contract price) = RM15,950.

 

MFRS 15 - As a result, revenue recognized from this contract in the year 2015 is:

• Software development services: 30% x RM50,000 (revenue allocated to software development) = RM15,000;
• Post-delivery services: 0% x  RM5,000 (revenue allocated to post-delivery service) =RM0.

Total revenue from the same contract under MFRS 15: RM15,000.