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Revenue Recognition GAAP and IFRS Presentation

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Devyani Bakshi

on 18 January 2015

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Transcript of Revenue Recognition GAAP and IFRS Presentation

Revenue Recognition GAAP and IFRS Presentation

The History of GAAP
• In 1936, when professional development in Canada was almost equivalent to that of America, the Terminology Committee of the Canadian Institute of Chartered Accountants (CICA) was formed
• There was a desire for a sense in uniformity in the use of accounting terms and similarity in reports of economic activities. Users of financial information needed to be able to comprehend and compare the financial reports of different companies and this was only possible when both the companies adhered to the same set or rules and principles to report their economic activates.
It was estimated that GAAP would be:
• Useful to present to potential investors and creditors and other users in making rational investment, credit, and other financial decisions
• Helpful to present to potential investors and creditors and other users in assessing the amounts, timing, and uncertainty of prospective cash receipts about economic resources, the claims to those resources, and the changes in them

• In 1939, the CICA established a joint research program with Queen’s University to establish an Accounting and Auditing Research Committee
• The aim of the AARC committee was to improve the quality and judgment used in accounting auditing. They also provided guidelines for communicating understandable financial information and economic facts used in auditing procedures.
• 1973, the AARC was divided into two new committees: the Accounting Research Committee (ARC) and the Auditing Standards Committee (ASC)

Intro to Revenue Recognition
My Opinion on the Transition
I think the transition from GAAP to IRFS can have a quite positive impact upon strengthening the conceptual framework of accounting. The modern market is global and so IFRS provides users of that financial information (creditors, investors, etc.) with the means to understand and compare international companies. In doing so, the financial reports are better able to provide relevant and comparable information for interested users. In addition, the detail in IFRS Revenue Recognition prevents companies from manipulating revenue for personal gain. This was more common whilst GAAP was present.
Why the perceived need for IFRS?
The beginning of a global capital markets required investors to compare firms across countries if they were to build efficient and well-balanced portfolios. To achieve that goal, financial statements remain a critical resource for investors, and the use of a common set of accounting standards by firms across countries should simplify the task of analysts, investment managers and investors. In that regard, the perceived need for harmonization and comparability in financial statements has led to the introduction of international financial reporting standards (IFRS) as the main outline for financial reporting in most countries around the world. Canada has joined those countries in 2011 for organizations that are publicly accountable.
According to the International Accounting Standards Board, the adoption of global accounting standards, such as IFRS, ease financial statement comparability across countries, thus aiding global investing.

Revenue Recogniton in GAAP
Revenue Recognition in IFRS
Contract revenue
should include:
The initial amount of revenue agreed in the contract; and
Variations in contract work, claims and incentive payments:
the extent that it is likely that they will result in revenue; and
They are capable of being reliably measured

Contract revenue is measured at the fair value of the contract.
Contract costs
shall comprise:
costs that relate directly to the specific contract;
costs that are related to the contract activity; and
other costs as are specifically chargeable to the customer under the terms of the contract.

The Difference Between GAAP and IFRS for Revenue Recognition
History of GAAP Continued
• The ARC invited other organizations to include up to six proposed members into the committee. Their goal in this expansion was to expand the scope of accounting and auditing research.
• In 1982 the ARC changed its name to the Accounting Standards Committee (ASC) and in 1991 to the Accounting Standards Board (AcSB).
• Prior to 1968, the Research Committee issued bulletins on financial disclosure, accounting principles, terminology, reporting and auditing procedures.
• In 1968, these bulletins were merged together to form a major part of the CICA Handbook which contained final Generally Accepted Accounting Principles (GAAP).
• Since 1968, the Handbook has been constantly updated by inclusion of approved exposure drafts on various current topics.
• The handbook is currently updated by a number of groups, including the AcSB for profit and not for profit organizations, the Public Sector Accounting Standards board for the public sector, and the Auditing Standards Board for the auditing sections.
• The AcSOC (Accounting Standards Overview Council) worked with the AcSB to ensure that the public’s interests were protected and that the AcSB took into account the interest of business companies when making the
accepted principles.
The History Behind the Revenue Recognition Principle
When the CICA first released their Handbook, the revenue recognition principle was briefly outlined
The ambiguity in the principle allowed many users to take advantage of it.
There have been many high-profile cases (e.g. Nortel Networks, Enron, Xerox, and AOL Time Warner cases, among other) that highlight improper use of the revenue recognition principle.
Until the early 2000s, there was not a lot of guidance about revenue recognition, so this made it easier to interpret this principle in ways that was never intended. Additional guidance was introduced in 2000 in the U.S. and in 2003 in Canada to stop abusive revenue recognition practices and to help accountants determine when to recognize revenue.
Point of Sale Method
Point of sale is the most common basis of revenue recognition, where revenue is recognized when good or services are sold.
During Production...
-Recognizes revenue on a long-term contract based on reasonable estimates of the progress towards completion.
Completion of Production
The completed-contract method should be used only if percentage-of-completion is not applicable or if the contract involves extremely high risks. Under this method, revenues, costs, and gross profit are recognized at the completion of the contract because revenue or costs cannot be reasonably estimated.
IAS 18- Revenue
Interest, royalties, and dividends

For interest, royalties and dividends, only if the economic benefits will go to the enterprise and the amount of revenue can be measured reliably, revenue should be recognized as follows:
(a) interest:
using the effective interest method as described in IAS 39
(b) royalties:
on an accruals basis in accordance with the substance of the relevant agreement
(c) dividends:
when the shareholder's right to receive payment is established

Disclosure [IAS 18.35]
accounting policy for recognizing revenue
amount of each of the following types of revenue:
sale of goods
-rendering of services
-within each of the above categories, the amount of revenue from
exchanges of goods or services

*Note: IAS 18 will be superseded by IFRS 15 Revenue from
Contracts with Customers as of 1 January 2017

IFRIC 13 touches on accounting by outlining entities that grant loyalty award credits to customers who buy other goods or services. Specifically, it explains how such entities should account for their obligations to provide free or discounted goods or services ('awards') to customers who redeem award credits.
IFRIC 15 standardizes accounting practice for the recognition of revenue by real estate developers for sales of units before construction is complete.

IFRIC 15 provides guidance on how to determine whether an agreement for the construction of real estate is within the scope of IAS 11 Construction Contracts or IAS 18 Revenue and, accordingly, when revenue from the construction should be recognized:

When the buyer is able to specify the major structural elements of the design of the real estate before construction begins:

- IAS 11 applies.
-If not, IAS 18 applies.

IFRS will save money. As more companies go global, they won't have to spend money doing two sets of books.
Being principles-based, IFRS allows less leeway in how companies can portray their financial performance.
IFRS will make cross-border investments easier.
Still in the process of being perfected so changes and revisions are being made.
Inconsistencies in IFRS such as how research costs are explained and its tendency to allow higher earnings statements need to be worked out.
Small and middle-sized firms may be unfairly hit with extra costs.
Evidence of an Arrangement
Evidence of an arrangement must exist.

Under IFRS, there is no requirement of written or formal evidence of an arrangement. However, it would be difficult to audit the details of a sale transaction without evidence.

Bills and Hold Arrangement
In order to recognize revenue:
-the risks of ownership have passed to the buyer;
- the customer must have made a commitment to purchase the goods,
with documentation
- there must be a fixed schedule for delivery and the date of delivery must be reasonable
- the ordered goods must have been separated from the seller’s inventory
- the product must be complete and ready for shipment.

: Under IFRS, revenue is recognized when the buyer takes title, provided:
-it is probable that delivery will be made;
-the item is on hand, identified and ready for delivery to the buyer at the time the sale is recognized;
-the buyer specifically acknowledges the deferred delivery instructions;
and the usual payment terms apply.

*The criteria are similar to Canadian GAAP; however,
IFRS is much less detailed.

Long Term Contracts and Construction Contracts
Under IFRS, the use of the Completed Contract method is prohibited. Revenue from long term contracts and construction contracts must be recognized using Percentage of Completion method or the Cost Recovery method if percentage of completion cannot be used reliably.

*The guidance in Canadian GAAP is very
limited; in contrast, under IFRS
more guidance is provided.

Based on Jim Harvey's speech structures
Revenue from the sale of goods should be
recognized when the following conditions are met:
- the seller transfers to the buyer the significant
risks and rewards of ownership, so that the seller no longer has effective control of the goods
- reasonable assurance exists regarding the
allowance and returns of goods
- ultimate collection of payment is
reasonably assured

Revenue from the sale of goods shall be
recognized when all the following conditions are met:
- the significant risks and rewards of ownership
of the goods has been transferred to the
- the seller keeps neither involvement or effective control over the goods sold;
- the amount of revenue can be measured
- it is likely that the economic benefits
Resulting from the transaction will go to the seller
- the costs incurred or to be incurred in respect to the transaction can be measured reliably.

Option to use Percentage of Completion or Completed Contract method
The basic principle of IFRIC 18 is that when the item of property, plant and equipment transferred from a customer, the recipient must recognize the asset in its financial statements. If the customer continues to control the transferred item, it would not be defined as an asset.
The deemed cost of that asset is its fair value on the date of the transfer.
If there are separately identifiable services received by the customer in exchange for the transfer, then the recipient should split the transaction into separate components as required by IAS 18.
If there is only one component identified, revenue
is recognized when the service is performed.

Transition and Effective Date- IFRS 15
Revenue should be recognized when all of the guidelines below are met:
1. There is evidence that an arrangement exists between two parties
2. Delivery has occurred or services have been provided
3. The seller’s price is fixed or can be determined
4. It is reasonably certain that the cash will be collected (not outlined but use in practice in Canada)

The four guidelines for revenue recognition can be met at various points in the production cycle.
1. At point of sale
2. During production
3. At completion of production
4. Upon collection of cash

Percentage of Completion Method :
1. To calculate Percentage of Work Completed in the period: Costs Incurred in current period ÷ Total Estimated Costs for the Contract
2. To calculate Revenue recognized for the period: Percentage of Work Completed in the period x Total Revenue for the Contract
3. To calculate Gross Profit for the current period:
Revenue recognized (for the current period ) -Costs incurred (in the current period )

*When estimates are changed for the contract, the data for the percentage-of-completion method is only changed for current and future years. The percentage that is complete is revised according to the new total estimated costs.
Completed Contract Method:
Collection of Cash

Installment method
allows revenue recognition when cash is collected. Each cash collection consists of a partial recovery of the cost of goods sold and partial gross profit from the sale.

Cost recovery method
is used when there is an extremely high probability of uncollectable payments. Under this method no profit is recognized until cash collections exceed the seller's cost of goods sold.
Interest, Royalties, and Dividends
For interest, royalties and dividends, if it is likely that the economic benefits will go to the enterprise and the amount of revenue can be measured reliably, revenue should be recognized as follows:

on a time proportion basis •
: on an accruals basis •
when the shareholder's right to receive payment is established.

BDO Dunwoody LLP. “Issue 1- Revenue Recognition”. Canadian GAAP- IFRS Comparison Series. Toronto: Dunwoody Press, 2014. Print.
Deloitte. “IAS 18-Revenue”.
International Financial Reporting Standards.
Web. 14 Jan 2015. <http://www.iasplus.com>
Deloitte. “IFRS 15- Revenue from Contracts with Customers”. Bringing Clarity to an IFRS World. Deloitte LLP, 2014. Print. 14 Jan. 2015.
Hessler, Mark. The Revenue Recognition Principle. Accounting Tools, 2003. Web. 15 Jan. 2015.
KPMG. “Revenue Recognition.”
International Financial Reporting Standards (IFRS
). 2015. Web. 14 Jan. 2015. <http://www.kpmg.com/ca/>
Obidullah, Jan. “Revenue Recognition Principle”.
Accounting Explained
. 2014. Web. 16 Jan 2015. <http://www.ifrs.org/current-projects>
PWC. “Revenue Recognition: Effectively Managing Accounting Change”.
Accounting Advisory
. Web. 15 Jan. 2015.<http://www.pwc.com/>
---. “Revenue Recognition Principle.”
Accounting Coach.
2013. Web. 16 Jan. 2015. <http://www.accountingcoach.com/>

IAS 18
• IFRS became mandatory in Canada for fiscal periods beginning after January 1, 2011.
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