INTRODUCTION

I. This Statement deals with the bases for recognition of revenue in the income statements of enterprises. The Statement is concerned with the recognition of revenue arising in the course of the ordinary activities of the enterprise from:

- the sale of goods,

- the rendering of services, and

- the use by others of enterprise resources yielding interest, royalties and dividends

 

2. This Statement does not deal with the following specialised aspects of revenue recognition:

(a) Dividends arising from investments which are accounted for under the equity method (see Statement of Standard Accounting Practice - 3.24, Consolidated Financial Statements).

(b) Revenue arising from construction contracts (see Statement of Standard Accounting Practice - 3.13, Accounting for Construction Contracts).

(c) Revenue arising from lease agreements (see Statement of Standard Accounting Practice - 3.26, Accounting for Leases).

(d) Revenue arising from government grants and other similar subsidies.

(e) Revenue of insurance companies arising from insurance contracts.

3. Examples of items not encompassed within the definition of "revenue" for the purpose of this Statement are:

(a) Realised gains resulting from the disposal of, and unrealised gains resulting from the holding of, non-current assets.

(b) Unrealised holding gains resulting from the change in value of current assets, and the natural increases in herds and agricultural and forest products.

(c) Realised or unrealised gains resulting from changes in foreign exchange rates and adjustments arising on the translation of foreign currency financial statements.

(d) Realised gains resulting from the discharge of an obligation at less than its carrying amount.

(e) Unrealised gains resulting from the restatement of the carrying amount of an obligation.

Definitions

4. The following terms are used in this Statement with the meanings specified:

Revenue is the gross inflow of cash, receivables or other consideration arising in the course of the ordinary activities of an enterprise from the sale of goods, from the rendering of services, and from the use by others of enterprise resources yielding interest, royalties and dividends. Revenue is measured by the charges made to customers or clients for goods supplied and services rendered to them and by the charges and rewards arising from the use of resources by them. It excludes amounts collected on behalf of third parties such as certain taxes. In an agency relationship, the revenue is the amount of commission and not the gross inflow of cash, receivables or other consideration.

Completed contract method¹ is a method of accounting which recognises revenue in the income statement only when the sale of goods or the rendering of services under a contract is completed or substantially completed.

Percentage of completion method¹ is a method of accountingwhich recognises revenue in the income statement proportionately with the degree of completion of goods or services under a contract.

Fair value is the amount for which an asset could be exchanged between a knowledgeable, willing buyer and a knowledgeable, willing seller in an arm’s length transaction.

5. Revenue recognition is mainly concerned with when revenue is recognised in the income statement of an enterprise. The amount of revenue arising on a transaction is usually determined by agreement between the parties involved in the transaction. When uncertainties exist regarding the determination of the amount or its associated costs, these uncertainties may influence the timing of revenue recognition.

Sale of Goods

6. A key criterion for determining when to recognise revenue from a transaction involving the sale of goods is that the seller has transferred to the buyer the significant risks and rewards of ownership of the asset sold. An example of a significant risk of ownership that may be retained by a seller would be liability for unsatisfactory performance not covered by normal warranty provisions. If the seller retains significant risks of ownership, it is normally inappropriate to recognise the transaction as a sale. Where only a non-significant risk of ownership is retained by the seller, this will not normally preclude the recognition of revenue, for example, when title is retained by the seller solely to protect the collectability of the amount due.

7. Assessing when the risks and rewards of ownership are transferred to the buyer with sufficient certainty requires an examination of the circumstances of the transaction. In most cases, transfer of the legal title either results in or coincides with the passing of possession or the transfer of the risks and rewards of ownership to the buyer, such as in the case of most retail sales. In other cases the passing of legal title may occur at a different time from the passing of possession or of the risks and rewards of ownership.

8. The following considerations are relevant in deciding whether significant risks and rewards of ownership have been transferred to the buyer:

(a) whether any significant acts of performance remain to be completed;

(b) whether the seller retains any continuing managerial involvement in, or effective control of, the goods transferred to a degree usually associated with ownership;

(c) whether the payment of the debt relating to the goods transferred is dependent on the derivation of revenue by the buyer from the goods.

9. At certain stages in specific industries, such as when agricultural crops have been harvested or mineral ores have been extracted, performance may be substantially complete prior to the execution of the transaction generating revenue. In such cases when sale is assured under a forward contract or a Government guarantee or where a homogeneous market exists and there is a negligible risk of failure to sell, the goods involved are often valued at net realisable value. Such amounts, while not revenue as defined in this Statement, are sometimes recognised in the income statement and appropriately described.

Rendering of Services

10. Revenue from service transactions is usually recognised as the service is performed, either by the percentage of completion method or by the completed contract method.

(a) Percentage of completion method - Performance consists of the execution of more than one act. Revenue is recognised proportionately by reference to the performance of each act. The revenue recognised under this method would be determined on the basis of sales value, associated costs, number of acts or other suitable basis. For practical purposes, when services are provided by an indeterminate number of acts over a specific period of time, revenue is recognised on a straight-line basis over the specific period unless there is evidence that some other method better represents the pattern of performance.

(b) Completed contract method - Performance consists of the execution of a single act. Alternatively, services are performed in more than a single act, and the services yet to be performed are so significant in relation to the transaction taken as a whole that performance cannot be deemed to have been completed until the execution of those acts. The completed contract method is relevant to these patterns of performance and accordingly revenue is recognised when the sole or final act takes place.

 

The use by others of enterprise resources yielding interest, royalties and dividends.

11. The use by others of such enterprise resources gives rise to:

(a) interest - charges for the use of cash resources or amounts due to the enterprise;

(b) royalties - charges for the use of such assets as patents, trademarks and copyrights;

(c) dividends - rewards from the holding of investments not accounted for under the equity method of accounting.

12. Interest accrues, in most circumstances, on a daily basis determined by the principal outstanding and the rate applicable. A discount or premium on debt securities held is treated as though it were interest accruing over the period to maturity.

13. Royalties accrue in accordance with the terms of the relevant agreement and are usually recognised on that basis unless, having regard to the substance of the transactions, it is more appropriate to recognise revenue on some other systematic and rational basis.

14. Dividends from investments not accounted for under the equity method of accounting are not recognised in the income statement until a right to receive payment is established. (See Statement of Standard Accounting Practice - 3.24 Consolidated Financial Statements, for the situation where investments are accounted for under the equity method of accounting).

15. When interest, royalties and dividends from foreign countries require exchange permission and a delay in remittance is anticipated, revenue recognition may need to be postponed.

Effect of Uncertainties on Revenue Recognition

16. Recognition of revenue requires that the revenue is measurable and that at the time of sale of the rendering of the service it would not be unreasonable to expect ultimate collection. A reasonable expectation of ultimate collection does not, of itself, ensure such a collection.

17. Where the ability to assess the ultimate collection with reasonable certainty is lacking at the time of sale or the rendering of the service, revenue recognition is postponed. In such cases, it may be appropriate to recognise revenue only as cash is received. Where there is no uncertainty as to ultimate collection, revenue is recognised at the time of sale even though cash payments are made by installments.

18. When the uncertainty relates to collectability and arises subsequent to the time of sale or the rendering of the service, it is more appropriate to make a separate provision to reflect the uncertainty rather than to adjust the amount of revenue originally recorded.

19. Uncertainties relating to the measurement of revenue may involve one or more of the following issues:

(a) Consideration

An essential criterion for the recognition of revenue is that the minimum consideration receivable for the sale of goods, the rendering of services or from the use by others of enterprise resources be reasonably determinable. When such consideration is not determinable within reasonable limits, the recognition of revenue is postponed.

(b) Costs (including warranties)

In most situations total costs (including warranties and other associated costs to be incurred after shipment of the product or performance of the service) can reasonably be determined and accrued and, accordingly, revenue recognition is not postponed. When, however, costs to be incurred cannot reasonably be determined, revenue recognition is postponed.

(c) Returns

If an enterprise is exposed to significant and predictable amounts of goods being returned, it may be sufficient to provide therefor. Where, however, an enterprise is exposed to significant and unpredictable amounts of goods being returned, it may be that the criteria for recognition of revenue have not been fully met and, accordingly, revenue recognition is postponed.

20. When the uncertainty relates to the measurability of the amount of revenue arising from a transaction, it is usual not to recognise such revenue until the uncertainty is removed. In such a case, provided there is reasonable assurance that at least the costs clearly identifiable with the transaction will be recovered, it is appropriate to defer such costs for later matching with the revenue.

Non-Monetary Consideration

21. For an exchange of non-monetary assets, the fair value of the value of the assets or services exchanged is normally used to determine the amount of revenue involved. Where the fair value of the assets on one side of the transaction is determinable, that fair value is used in determining the amount of revenue involved in an exchange of dissimilar assets. Exchanges of similar non-monetary assets or services, such as swap transactions, are not regarded as transactions which generate revenue.

Statement of Standard Accounting Practice - 3.15 comprises paragraphs 22-2 7 of this Statement. The Standard should be read in the context of paragraphs 1-21 of this Statement and of the Explanatory Foreword 3.1 to preface to Statement of Standard Accounting Practice.

 

22. Revenue from sales or service transactions should be recognised when the requirements as to performance set out in paragraphs 23 and 25 are satisfied, provided that at the time of performance it is not unreasonable to expect ultimate collection. If at the time of sale or the rendering of the service it is unreasonable to expect ultimate collection, revenue recognition should be postponed.

23. In a transaction involving the sale of goods, performance should be regarded as being achieved when the following conditions have been fulfilled:

(a) the seller of the goods has transferred to the buyer the significant risks and rewards of ownership, in that all significant acts have been completed and the seller retains no continuing managerial involvement in, or effective control of, the goods transferred to a degree usually associated with ownership; and

(b) no significant uncertainty exists regarding:

1. the consideration that will be derived from the sale of the goods;

24. In a transaction involving the rendering of services, performance should be measured either under the completed contract method or under the percentage of completion method, whichever relates the revenue to the work accomplished. In any case, such performance should be regarded as being achieved when no significant uncertainty exists regarding:

(a) the consideration that will be derived from rendering the service, and

(b) the associated costs incurred or to be incurred in rendering the service.

25. Revenues arising from the use by others of enterprise resources yielding interest, royalties and dividends should only be recognised when no significant uncertainty as to measurability or collectability exists. These revenues are recognised on the following bases:

(a) Interest: on a time proportion basis taking account of the principal outstanding and the rate applicable;

(b) Royalties: on an accrual basis in accordance with the terms of the relevant agreement;

(c) Dividends from investments not accounted for under the equity method of accounting: when the shareholder’s right to receive payment is established.

 

Disclosure

26. In addition to the disclosures required by Statement of Standard Accounting Practice 3.2, Disclosure of Accounting Policies, and Statement of Standard Accounting Practice - 3.10. Information to be Disclosed in Financial Statements, an enterprise should also disclose the circumstances in which revenue recognition has been postponed pending the resolution of significant uncertainties.

Effective Date

27. This Statement of Standard Accounting Practice becomes operative for financial statements covering periods beginning on or after 1 July, 1983.

APPENDIX

This appendix is illustrative only and does not form part of the accounting standard set forth in this Statement. The purpose of the appendix is to illustrate the application of the Standard to a number of commercial situations in an endeavour to assist in clarifying application of the Standard.

A    Sale of Goods

1. "Bill and hold" sales, i.e.delivery is delayed at buyer’s request but buyer takes title and accepts billing.

• Revenue should be recognised notwithstanding that physical delivery has not been completed so long as there is every expectation that delivery will be made. However, the item must be on hand, identified and ready for delivery to the buyer at the time the sale is recognised rather than there being simply an intention to acquire or manufacture the goods in time for delivery.

 

2. Shipped subject to conditions:

(a) installation and inspection i.e. goods are sold subject to installation, inspection, etc.

• Revenue should normally not be recognised until the customer accepts delivery and installation and inspection are complete. In some cases, however, the installation process may be so simple in nature that it may be appropriate to recognise the sale notwithstanding that installation is not yet completed (e.g. installation of a factory tested television receiver normally only requires unpacking and connection of power and antennae);

• In other cases, the inspection may only be performed for purposes of final determination of contract prices (e.g. shipnients of iron ore, sugar, soya beans, etc.) and it may be appropriate to recognise the estimated amount of the revenue at the date of shipment or other suitable time.

(b) on approval

• Revenue should not be recognised until the shipment has been formally accepted by the buyer or the time period for rejection has elapsed.

(c) guaranteed sales i.e. shipment is made giving the buyer an unlimited right of return

• Recognition of revenue in such circumstances will depend on the substance of the agreement. In the case of normal retail sales (e.g. chain store offering "money back if not completely satisfied") it may be appropriate to recognise the sale but to make a suitable provision for returns based on previous experience. In other cases, the substance of the agreement may amount to a sale on consignment, in which case it should be treated as indicated below.

(d) consignment sales i.e. a shipment is made whereby the recipient undertakes to sell the goods on behalf of the shipper

• Revenue should not be recognised until the goods are sold to a third party.

(e) cash on delivery sales

• Revenue should not be recognised until cash is received by the seller or his agent.

3. Lay away sales i.e. those sales where the purchaser makes a series of instalment payments to the seller, and the seller delivers the goods only when the final payment is received.

• Revenue from such sales should not be recognised until goods are delivered. However, when experience indicates that most such sales are consummated, revenue may be recognised when a significant deposit is received.

• Revenue from such sales should not he recognised until goods are delivered to the buyer.

• For such transactions that are in substance a financing arrangement, the resulting cash inflow is not revenue as defined and should not be recognised as revenue.

• Revenue from such sales can generally be recognised if significant risks of ownership have passed; however, in some situations the buyer may in substance be an agent and in such cases the sale should be treated as a consignment sale.

• Revenue received or billed should be deferred and recognised either on a straight line basis over time or, where the items shipped vary in value from period to period, revenue should be based on the sales value of the item shipped in relation to the total sales value of all items covered by the subscription.

• When the consideration is received in instalments, revenue attributable to the sales price exclusive of interest should be recognised at the date of sale. The interest element should be recognised as revenue, proportionately to the unpaid balance due to the seller. If collection is not reasonably assured, revenue should be recognised as cash instalmentds are received.

• When property is sold, revenue is usually recognised when the buyer takes possession. However, the buyer’s down payment or other commitment may be insufficient to provide assurance of the eventual completion of payment. Although the security of the vendor is usually assured by the ability to foreclose the property or to apply other remedies in the event of default by the buyer, it would be inappropriate to recognise revenue in full at the time of the sale. In these circumstances the transaction should be accounted for as cash instalments are received.

• Trade discounts and volume rebates received are not encompassed within the definition of revenue, since they represent a reduction of cost. Trade discounts and volume rebates given should be deducted in determining revenue.

 

B - Rendering of services

• In cases where installation fees are other than incidental to the sale of a product, they should be recognised as revenue only when the equipment is installed and accepted by the customer.

2. Servicing fees included in the price of the product

• Where the selling price of a product includes an identifiable amount for subsequent servicing, for, say, a warranty period, it will normally be appropriate to defer the relevant portion of the selling price and to recognise it as revenue over the appropriate period.

• Revenue should be recognised when the service is completed. For advertising agencies, media commissions will normally be recognised when the related advertisement or commercial appears before the public, as opposed to production commission, which will be recognised when the project is completed. Insurance agencies commissions should be recognised on the effective commencement or renewal dates of the related policies. In some circimstances the commission may be adjusted depending upon the claims experience in respect of the policies written by the agent. In cases where it is expected that the policy will need servicing during its life, the commission or a relevant part thereof may be recognised over that period.

• A financial service may be rendered as a single act or may be provided over a period of time. Similarly charges for such services may be made as a single amount or in stages over the period of the service or the life of the transaction to which it relates. Such charges may be settled in full when made or added to a loan or other account and settled in stages. The recognition of such revenue should therefore have regard to:

(a) whether the service has been provided "once and for all" or is on a "continuing" basis;

(b) the incidence of the costs relating to the service;

(c) when the payment for the service will be received.

• In general, commission charged for arranging or granting loan or other facilities should be recognised when a binding obligation has been entered into. Commitment, facility or loan management fees which relate to continuing obligations or services should normally be recognised over the life of the loan or facility having regard to the amount of the obligation outstanding, the nature of the services provided and the timing of the costs relating thereto.

5. Admission fees

• Revenue from artistic performance, banquets and other special events should be recognised when the event takes place. When a subscription to a number of events is sold, the fee should be allocated to each event on a systematic and rational basis.

• Revenue should be recognised over the period of instruction.

7. Initiation, entrance and membership fees

• Revenue recognition from these sources will depend on the nature of the services being provided. If the fee permits only membership, and all other services or products are paid for separately, or if there is a separate annual subscription, the fee should be recognised when received. If the fee entitles the member to services or publications to be provided during the year, it should be recognised on a systematic and national basis having regard to the timing and nature of all services provided.

8. Franchise fees

• Generally, franchise fees may cover the supply of any combination of initial and subsequent services, equipment and other supplies, know-how etc. Frequently, the determination of such matters, and the allocation of the franchise fee thereto, is difficult and requires considerable judgement. As a general guidance, however, the following methods of fee recognition may be appropriate: