Financial reporting Flashcards
Process to recognize revenue - IFRS
IFRS 15
- Identify the contract
- Identify performance obligations
- Determine transaction price
- Allocate the transaction price
- Recognize revenue
Revenue recognition criteria - ASPE
ASPE 3400
- Performance has been achieved - risks and rewards of ownership have transferred to buyer
- Reasonable assurance exists regarding measurement of consideration
- Ultimate collection is reasonably assured
Revenue Recognition (IFRS) - Identify a contract 5 attributes of a contract + 2 assessments
IFRS 15
- The contract has been approved by all parties
- The rights regarding goods & services to be transferred can be identified
- The payment terms can be identified
- The contract has commercial substance
- Ultimate collection is reasonable assured, considering only the customer’s ability & intention to pay
- Assess if it must combine 2 or more contracts
- Assess if it includes contract modifications
Revenue Recognition (IFRS) - Identify the contract Contract combination criteria
Combination of contracts - IFRS 15:
A vendor shall combine 2 or more contracts entered into at or near the same time with the same customer (or related parties) and account for the contracts as a single contract if one or more of the following criteria are met:
1. The contracts are negotiated as a package with a single commercial objective
2. The amount of consideration to be paid in one contract depends on the price or performance of the other contract
3. The goods/services promised in the contracts are a single performance obligation
Revenue Recognition (IFRS) - Contract modification & criteria for a new contract
Contract Modifications - IFRS 15
A contract modification is a change in the scope/price of a contract that is approved by the parties to that contract. In order to impact revenue recognition, the modification must result in new or a change to rights and obligations.
A contract modification shall be treated as a separate contract if both of the following criteria are met:
- The change in the scope of the contract is due to the addition of distinct goods or services
- The price of the contract is increased by the amount of the vendor’s stand-alone selling price of the additional promised goods or services and any appropriate adjustments to that price to reflect the circumstances of the particular contract.
Revenue Recognition (IFRS) - Accounting treatment for a contract modification wherein the remaining goods and services are distinct
Termination - IFRS 15
If the remaining goods and services are distinct, and has met both criteria to be treated as a separate contract:
terminate the existing contract and replace with a new contract
Revenue Recognition (IFRS) - Accounting treatment for a contract modification that results in some, but not all of the remaining goods and services being separated as distinct (IFRS)
Mixed approach - IFRS 15
Terminate and replace the existing contract with a new contract for distinct services, and continuation for the remainder
Revenue Recognition (IFRS) - Accounting treatment for a contract modification wherein the remaining goods and services are not distinct
Continuation - IFRS 15
Treat the modification as part of the original contract and adjust revenue as needed
Revenue Recognition (IFRS) - Performance obligations 2 steps to determine what items in a contract are distinct goods/services
IFRS 15
- Can the customer benefit from the good/service on it’s own?
- Is it available for sale on its own?
- Can it be consumed on its own?
- Is the promise to transfer the goods/services separately identifiable from other promises in the contract?
- Are the goods or services significantly affected by one or more of the other goods/services in the contract?
- Can the entity? fulfil its promise by transferring the goods/services independently
Revenue Recognition (IFRS) - Transaction Price 5 things to consider when determining transaction prices
Determine the transaction price - IFRS 15
- Variable consideration
- Right of return
- Significant financing components
- non-cash consideration
- Consideration payable to a customer
Revenue Recognition (IFRS) - Transaction Price 2 possible methods to calculate variable consideration
Variable consideration - IFRS 15
Two methods to account for variable consideration:
1. Expected value : takes the range of possible outcomes and considers the probability of each. The sum of probability-weighted amounts is used as the measurement. This is usually considered the appropriate approach when there are multiple outcomes.
2. Most likely amount : The most likely amount takes the one outcome that is considered to be the most likely and uses this as the measurement. This is usually considered an appropriate approach if a contract has two possible outcomes, such as a bonus that will either be received or not.
Revenue Recognition (IFRS) - Transaction price Define constraining estimates of variable consideration & 5 factors that include likelihood of revenue reversal
When variable consideration is included in revenue, there is a risk that amounts are being included that will not be received. The amount recognized should be limited to an amount that is highly probable to be received. That is, when the uncertainty associated with the variable consideration is resolved, a significant reversal is unlikely to occur.
Factors that could increase the likelihood or the magnitude of a revenue reversal include, but are not limited to, the following:
- The amount of consideration is highly susceptible to factors outside the entity’s influence. Those factors may include volatility in a market, the judgment or actions of third parties, weather conditions and a high risk of obsolescence of the promised good or service.
- The uncertainty about the amount of consideration is not expected to be resolved for a long period of time.
- The entity’s experience (or other evidence) with similar types of contracts is limited, or that experience (or other evidence) has limited predictive value.
- The entity has a practice of either offering a broad range of price concessions or changing the payment terms and conditions of similar contracts in similar circumstances.
- The contract has a large number and broad range of possible consideration amounts.
Revenue Recognition (IFRS) - Allocate transaction price 4 steps to allocation transaction prices
Allocate proportionately to each performance obligation of each distinct good/service based on stand-alone selling price at contract inception
- Determine stand-alone selling prices using:
- adjusted market assessment
- expected cost + margin
- residual approach
- Allocate the discount proportionately
- Allocate the variable consideration as attributable
- Allocate the changes in transaction price on the same basis as at contract inception
Revenue recognition (IFRS) - Recognize Revenue 3 Criteria for a performance obligation to be satisfied over time
A vendor transfers control of a good or service over time, and therefore satisfies a performance obligation and recognizes revenue over time, if one of the following criteria is met:
- The customer simultaneously receives and consumes the benefits provided by the vendor’s performance (for example, rental of an office space)
- The vendor’s performance creates or enhances an asset (for example, work in progress on a construction contract on land owned by the customer) that the customer controls as the asset is created or enhanced.
- The vendor’s performance does not create an asset with an alternative use to the vendor, and the vendor has an enforceable right to payment for performance completed to date (for example, work in progress on custom equipment that the vendor cannot sell to another party due to the customization).
Revenue Recognition (IFRS) - Recognize Revenue Indicators that revenue may be recognized at a single point in time
Consider:
- A present right to payment
- Legal title has transferred
- Physical possession has transferred
- The customer has the significant risks and rewards of ownership
- Customer’s acceptance
Revenue recognition (IFRS) - Recognize Revenue 2 methods of measuring progress towards completion
- Output method:
The amount of revenue recognized is based on direct measurements of the value to the customer of the goods or services transferred to date relative to the remaining goods or services promised under the contract. - Input method:
The amount of revenue recognized is based on an estimate of the percentage of completion of the project based on input measures such as resources consumed, labour hours expended, costs incurred, time elapsed or machine hours used.
The nature of the good or service that is to be transferred shall be considered when determining whether to use the input or output method. For example, if the entity has a contract to deliver 10 office desks, it would normally use an output measure (the output being the number of desks actually delivered) rather than an input measure, as it is a better measure of the performance achieved.
Costs included in inventory (IFRS & ASPE)
The general rule is that any cost incurred to move
inventory from its purchased state to a point where it may be sold should be included in the cost of inventory.
1. Merchandise inventory - cost of purchase
- shipping costs to receive merchandise
- import duties/unrecoverable taxes
- Recovered costs (vendor rebates) should be netted against the cost of inventory
2. Manufacturing inventory - cost of conversion
- Raw material
- Direct labour
- Manufacturing overhead
Allocating manufacturing overhead to cost of inventory (IFRS & ASPE)
Both IFRS and ASPE require the use of absorption costing to allocate overhead costs to inventory. This simply means that the overhead costs are “absorbed” by the inventory and included in its cost.
Costs are allocated to inventory using a predetermined overhead rate (POHR) based on a cost driver, such as units produced or machine hours.
- The POHR is determined at the beginning of the period, before manufacturing occurs. Total period overhead costs for allocation are estimated and then divided by the normal volume of the cost driver at normal capacity.
- An entity may use expected volume of production, provided that this approximates normal capacity. The amount of overhead allocated to a product should not be increased as a result of low production or an idle plant.
Inventory - 2 accepted cost flow assumptions (IFRS & ASPE)
- FIFO
- Weighted average cost : The weighted average cost per unit is applied to the units in ending inventory and cost of goods sold.
Weighted average cost per unit calculation
[(Beginning inventory cost + Cost of purchases to date) / (Quantity of inventory in beginning inventory + Quantity of purchases to date)].
Inventory - IFRS & ASPE Borrowing Cost differences
IFRS requires the capitalization of borrowing costs, as directed under IAS 23 Borrowing Costs.
ASPE does not require borrowing costs to be capitalized; rather, it allows companies to either capitalize borrowing costs or expense them.
Definition of Inventory
Inventories include:
- material or supplies waiting to be used
- products in the process of being manufactured
- finished goods (purchased or manufactured) that are ready to be sold.
Inventory (IFRS & ASPE) -
When can raw materials or merchandise received be considered as inventory?
- Asset meets definition of inventory in relevant standard (ASPE 3031 or IAS 23)
- Ownership has transferred as per FOB terms
Inventory (IFRS & ASPE) -
When should inventory be derecognized and converted to COGS?
- Use completed contract method (revenue recognition)
- “When inventories are sold, the carrying amount of those inventories shall be recognized as an expense in the period in which the related revenue is recognized.” (ASPE 3031.33 & IAS 2.34)
Impairment of Assets - Four Step Process (IFRS)
- Assets grouped as CGU’s
- When to test for impairment:
- REQUIRED annually for goodwill & intangibles not being amortized
- MONITOR annually all other assets. Annual impairment test becomes required when indicators of impairment exist
- Recoverable amount : determine recoverable amount as higher of fair value less costs of disposal and value in use
- Impairment test and write-down to recoverable amount: Loss write-down = Recoverable amount - carrying amount
(Dr. Impairment expense, Cr. Asset account)
(Depreciation charge is adjusted for future periods)
Impairment -
3 internal & 3 external indicators of impairment
Internal:
- Evidence of obsolescence or physical damage
- Significant changes in use of the asset/CGU, such as discontinuance, disposal, restructuring
- Declining performance
External:
- significant decline in market value
- significant change in the technological, market, economic, or legal environment in which the entity operates, having an adverse effect on the use of the asset
- increases in market interest rates, decreasing the asset / CGU recoverable amount
Impairment (IFRS) -
Definition of a CGU
Cash generating unit (CGU):
A CGU is the smallest group of assets that generate independent cash flows from other assets or groups of assets.
Used only for IFRS
Impairment of Assets:
Determining recoverable amount (IFRS & ASPE differences)
Recoverable amount is higher of: (1) Fair value less costs of disposal and (2) Value in use, which is the estimate of future cash flows from continuing use and ultimate disposal. IFRS - DISCOUNTED CASH FLOWS ASPE - UNDISCOUNTED CASH FLOWS
Impairment -
Reversal of Impairment, IFRS vs. ASPE
IFRS - Can be reversed up to the lesser of its recoverable amount and the carrying value that would have existed had the asset never been written down. The reversal of the impairment loss is recognized in net income.
ASPE - Can NEVER be reversed
Impairment (ASPE) -
Asset Group
a long-lived asset shall be grouped with other assets and liabilities to form an asset group at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. (Per Section 3063 Impairment of Long-Lived Assets)
The IFRS “cash generating unit” is generally at a lower level than ASPE’s “asset group.” CGUs are concerned with cash inflows only, while asset groups relate to a unit that produces both inflows and outflows.
Impairment of Assets - Four Step Process (ASPE)
- Assets grouped as ASSET GROUPS
- When to test for impairment
- MONITOR assets & CGU’s for indicators of impairment (including goodwill)
- Test for recoverability only when events or changes in circumstances indicate that the carrying amount may not be recoverable.
- No annual testing required
- Test for impairment:
Compare carrying value to recoverable amount (higher of fair value less costs of disposal and UNDISCOUNTED value in use)- If carrying value > recoverable amount there is no impairment
- Determine impairment loss & write down:
Loss write-down = FAIR VALUE - carrying amount
(Dr. Impairment expense, Cr. Asset account)
(Depreciation charge is adjusted for future periods)
**NOTE: Recoverable amount is not used in write-down after the impairment test
PPE -
Definition of Property, Plant & Equipment & 2 criteria for recognition
tangible assets with future benefit of longer than one year and held to produce goods and services or rental to others
PP&E is only recognized as an asset if the following criteria apply:
- It is probable that future economic benefits associated with the item will flow to the entity.
- The cost of the item can be measured reliably.
PPE -
Asset life vs. Useful life
Asset life: estimated length of time that the asset will last
Useful life: period of time that the asset produces economic benefit for the business
PPE -
3 components of PPE asset costs
- Purchase price, including import duties and non-refundable purchase taxes, after deducting trade discounts and rebates
- Any costs directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating in the manner intended by management
- The initial estimate of the costs of dismantling and removing the item and restoring the site on which it is located
PPE - Capitalized costs
Definition & 6 possible categories
Costs incurred to point that asset is available for use.
- purchase costs, including duties, unrecoverable taxes net of discounts and rebates
- costs to bring asset to location and condition for use
- major inspection costs
- major spare parts
- standby or servicing equipment
- Dismantling, removal, and restoration costs
Land and building costs include commissions, legal fees, cost to make asset usable. Allocate costs separately to land and building.
PPE -
When to capitalize Repairs and maintenance (IFRS vs. ASPE)
Costs incurred to enhance the service potential of assets may be capitalized
- Physical output or service capacity is increased
- Associated operating costs are lowered
- Life of useful life is extended
- Quality of output is improved
Directly attributable costs must be capitalized and amortized over remaining useful life of asset
ASPE 3061.14 : costs incurred to enhance the service potential of capital assets are considered betterments.
IAS 16.13 & .14 : Uses terms major replacement rather than betterment. Carrying amount of replaced asset must be derecognized.
PPE - Cost recognition
Componentization (IFRS & ASPE)
Some PP&E have significant parts with different usage rates within the asset. Parts with similar useful lives be grouped together for purposes of depreciation.
Required under both IFRS & ASPE but ASPE provides less guidance
PPE -
Capitalized costs for purchased equipment
- Delivery of asset
- Installation of the asset
- Testing that the asset is operational
- Non-refundable costs (e.g. import duties & taxes)
PPE -
Capitalized costs for land & building
- Purchase price
- Commissions
- Legal fees
- Title search
- Property transfer tax
- Costs required to make the land and building usable for the company’s purposes (e.g. drainage, removal of old buildings, etc)
PPE -
Capitalized costs for construction of an asset
All directly attributable costs of the construction can be capitalized. For example:
- Construction permits
- Site survey costs
- construction costs, including labour, direct management salaries, and materials
- direct borrowing costs incurred to finance the construction until the occupation permit is obtained (ASPE DIFFERENCE - option to capitalize OR expense borrowing costs)
- professional fees
PPE -
How to calculate straight-line method of depreciation? (IFRS vs. ASPE)
IFRS:
(Cost of asset - residual value) / estimated useful life
ASPE - Greater of:
(Cost of asset - residual value) / estimated useful life
(Cost of asset - salvage value) / asset life
PPE -
How to calculate declining balance method of depreciation?
Carrying value of asset × Depreciation rate
The declining balance method assumes that the benefit derived from the asset is higher in its initial years and less as the asset ages. Management applies a rate for depreciation to the cost of the asset in the initial year. In subsequent years, the rate is applied to the carrying value of the asset, or net book value (cost less accumulated depreciation). This continues until the carrying amount equals the salvage value, and then depreciation stops.
PPE -
How to calculate units of production method of depreciation?
Management must first estimate the total units that will be generated by the machine over its estimated useful life. The cost less the residual value is divided by the total units to calculate the per-unit depreciation rate.
Each year, the total number of units produced by the machine is multiplied by the per-unit depreciation rate to arrive at the depreciation expense for the year.
PPE -
Cost Model vs. revaluation model
Cost model: Assets are recorded at historical cost less accumulated depreciation. (IFRS & ASPE)
Revaluation: Assets are recorded at fair market value. However, they are still depreciated each year. The method or application of depreciation does not change because the revaluation method is being used. (IFRS ONLY, Not an option for ASPE)
Cash & cash equivalents -
Definition of cash & cash equivalents
Cash and cash equivalents are held for the purpose of meeting short-term cash commitments rather than for investment or other purposes (IAS 7, ASPE 3856)
Cash & cash equivalents -
Exclusions from cash & cash equivalents
As a general rule, anything that cannot be easily converted to cash or that has a risk of a change in value is excluded from cash and cash equivalents
EXAMPLES:
• restricted cash (minimum bank acct balance, funds held in escrow, non-profit restricted donations)
• foreign currency where there is a limited market for exchange into the company’s operating currency
• foreign currency where the exchange rate is unstable and subject to material fluctuations
• publicly traded shares
• publicly traded bonds
• term deposits with a maturity date of greater than three months from the date of acquisition
• T-bills with a maturity date of greater than three months from the date of acquisition commoditieS
Cash & cash equivalents -
A/R initial & subsequent measurement
Initial measurement: fair value (transaction price) @ transaction date
Subsequent measurement: amortized cost using the effective interest rate method less any impairment losses
Cash & cash equivalents -
2 conditions to use amortized cost classification on A/R
(a) the financial asset is held within a business model whose objective is to hold financial assets in order to collect contractual cash flows and
(b) the contractual terms of the financial asset give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding.
Cash & cash equivalents -
A/R 2 defining characteristics
Accounts receivable are a financial instrument.
- They arise out of credit sale transactions from the normal course of business
- They are typically short term and unsecured.
