The Financial Accounting Standards Board (FASB) has released an
exposure draft aimed at improving parts of the revenue recognition standard associated with identifying performance obligations, and accounting for revenue from licenses. The proposal has come out well before the standard it aims to modify has even come into effect, with an effective date of 2017 that might even be extended by a year if
another recent FASB proposal is approved.
The amendments related to identifying performance obligations arose from questions about the five-step process outlined in the new revenue recognition standard:
Step 1: Identify the contract(s) with a customer.
Step 2: Identify the performance obligations in the contract.
Step 3: Determine the transaction price.
Step 4: Allocate the transaction price to the performance obligations in the contract.
Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation
The FASB noted in the draft that, "before an entity can identify its performance obligations in a contract with a customer, the entity first identifies the promised goods or services in the contract." The FASB said that it intends to reduce the costs and complexities of doing so through adding the following guidance:
1. An entity would not be required to identify goods or services promised in a contract with a customer that are immaterial in the context of the contract
2. An entity would be permitted to account for shipping and handling activities that occur after the customer has obtained control of a good as an activity to fulfill the promise to transfer the good rather than as an additional promised service.
Under the new standard, performance obligations must be connected to distinct goods or services. To make it easier to determine whether goods and services are distinct, the FASB proposed that an entity would determine whether the nature of its promise in the contract is to transfer each of the goods or services or whether the promise is to transfer a combined item (or items) to which the promised goods and/or services are inputs. The proposal would also revise the related factors and examples so they align with the improved articulation of the separately identifiable principle.
The proposed licensing guidance, meanwhile, is meant to aid in determining whether an
entity’s promise to grant a license provides a customer with either a right to access the entity’s intellectual property (which is satisfied over time) or a right to use the entity’s intellectual property
(which is satisfied at a point in time). The proposed guidance says that an entity's promise to grant a customer a license to intellectual property with significant standalone function does not include supporting or maintaining that intellectual property during the license period. Instead, it will be seen as a right to use the intellectual property as it exists at the time the license is granted. This promise to provide the right to use the intellectual property will be satisfied
when the customer is able to use and benefit from the license, as the entity's promise in granting the license is solely to make the underlying intellectual property available for the customer's use and benefit.
If, on the other hand, the promise to grant a license does not have significant standalone functionality, the entity's promise to the customer is to both grant the right to use and benefit from the intellectual property, and to support and maintain the intellectual property. Consequently, this license is satisfied over time.
Entities will need to consider the nature of its promise in granting a license that is not a separate performance obligation to apply the other guidance in the standard to a single performance obligation that includes a license and other goods or services.
The proposed guidance would also clarify that:
1. An entity would not split a sales-based or usage-based royalty into a portion subject to the guidance on sales-based and usage-based royalties and a portion that is not subject to that guidance.
and
2. The guidance on sales-based and usage-based royalties would apply to a sales-based or usage-based royalty whenever the predominant item to which the royalty relates is a license of intellectual property.
Comments on the proposal are due June 30.