Question

Mitsubishi Corp. signs a contract to sell a fleet of light-rail-transit (LRT) vehicles to the Region of Waterloo for $450 million. Mitsubishi also contracted to maintain the LRT vehicles for $45 million for the 24 ensuing months after the LRT was delivered.

Instructions

Mitsubishi is a public company and adhere to asset-liability approach (or contracts-based approach) as adopted by IFRS 15. Assuming all the LRT vehicles are delivered at the same time, illustrate the five steps in the revenue recognition process for Mitsubishi.

Answer 1

Answer

On May 28, 2014 the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) issued their final standard on revenue from contracts with customers. The standard, issued as ASU 2014-09 by the FASB and as IFRS 15 by the IASB, outlines guidance for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance.

The updated guidance established a five-step process for recognizing revenue from contracts with customers as follows:

1. Identify the customer contract(s)
2. Identify the performance obligation(s) in the contract
3. Determine the transaction price
4. Allocate the transaction price to the performance obligation(s) in the contract
5. Recognize revenue when (or as) the entity satisfies a performance obligatobligation.

6. Step 1: Identify the contract with the customer

contract with a customer will be within the scope of IFRS 15 if all the following conditions are met: [IFRS 15:9]

• the contract has been approved by the parties to the contract;
• each party’s rights in relation to the goods or services to be transferred can be identified;
• the payment terms for the goods or services to be transferred can be identified;
• the contract has commercial substance; and
• it is probable that the consideration to which the entity is entitled to in exchange for the goods or services will be collected.

Step 2: Identify the performance obligations in the contract

At the inception of the contract, the entity should assess the goods or services that have been promised to the customer, and identify as a performance obligation: [IFRS 15.22]

• a good or service (or bundle of goods or services) that is distinct; or
• a series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer

Step 3: Determine the transaction price

The transaction price is the amount to which an entity expects to be entitled in exchange for the transfer of goods and services. When making this determination, an entity will consider past customary business practices. [IFRS 15:47]

Step 4: Allocate the transaction price to the performance obligations in the contracts

Where a contract has multiple performance obligations, an entity will allocate the transaction price to the performance obligations in the contract by reference to their relative standalone selling prices. [IFRS 15:74] If a standalone selling price is not directly observable, the entity will need to estimate it. IFRS 15 suggests various methods that might be used, including: [IFRS 15:79]

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

Step 5: Recognise revenue when (or as) the entity satisfies a performance obligation

Revenue is recognised as control is passed, either over time or at a point in time. [IFRS 15:32]

Control of an asset is defined as the ability to direct the use of and obtain substantially all of the remaining benefits from the asset. This includes the ability to prevent others from directing the use of and obtaining the benefits from the asset. The benefits related to the asset are the potential cash flows that may be obtained directly or indirectly. These include, but are not limited to: [IFRS 15:31-33]

• using the asset to produce goods or provide services;
• using the asset to enhance the value of other assets;
• using the asset to settle liabilities or to reduce expenses;
• selling or exchanging the asset;
• pledging the asset to secure a loan; and
• holding the asset.