1.8 Step 5: Recognize Revenue When (or as) the Entity Satisfies a Performance Obligation (Chapter 8 of the Roadmap)

Step 5 specifies how an entity should determine when to recognize revenue in relation to a performance obligation and requires consideration of the following:

• Recognition of revenue when (or as) control of the good or service is passed to the customer (see Sections 8.1 and 8.2).
• Criteria for satisfying performance obligations and recognizing revenue over time (see Section 8.4).
• Measurement of progress in satisfying performance obligations to determine the pattern of when to recognize revenue over time (see Section 8.5).
• Indicators of when performance obligations are satisfied and when to recognize revenue at a point in time (see Section 8.6).

Under the guidance, a performance obligation is satisfied (and the related revenue recognized) when “control” of the underlying goods or services (the “assets”) related to the performance obligation is transferred to the customer. The guidance defines “control” as “the ability to direct the use of, and obtain substantially all of the remaining benefits from, the asset.” An entity must first determine whether control of a good or service is transferred over time. If so, the related revenue is recognized over time as the good or service is transferred to the customer. If not, control of the good or service is transferred at a point in time.

Control of a good or service (and therefore satisfaction of the related performance obligation) is transferred over time when at least one of the following criteria is met:

• “The customer simultaneously receives and consumes the benefits provided by the entity’s performance as the entity performs.”
• “The entity’s performance creates or enhances an asset . . . that the customer controls as the asset is created or enhanced.”
• “The entity’s performance does not create an asset with an alternative use to the entity . . . and the entity has an enforceable right to payment for performance completed to date.”

If a performance obligation is satisfied over time, an entity recognizes revenue by measuring progress toward satisfying the performance obligation in a manner that faithfully depicts the transfer of goods or services to the customer. The revenue standard provides specific guidance on measuring progress toward completion, including the use and application of output and input methods.

The guidance notes that in certain circumstances, an entity may not be able to reasonably measure progress toward complete satisfaction of a performance obligation. In such circumstances, the entity would be required to recognize revenue to the extent of costs incurred (i.e., at a zero profit margin) if the entity expects to recover such costs. The guidance does not permit entities to use a completed-contract method.

If a performance obligation is not satisfied over time, it is deemed satisfied at a point in time. Under the guidance, entities would consider the following indicators in evaluating the point at which control of an asset has been transferred to a customer:

• “The entity has a present right to payment for the asset.”
• “The customer has legal title to the asset.”
• “The entity has transferred physical possession of the asset.”
• “The customer has the significant risks and rewards of ownership of the asset.”
• “The customer has accepted the asset.”

In addition, the implementation guidance includes further discussion on the following topics related to when control of an asset has been transferred to a customer:

• Customer acceptance terms (Section 8.6.7) — Control has been transferred to the entity’s customer if the entity can objectively determine that the good or service meets agreed-upon specifications. If the entity is unable to make that objective determination, the entity must receive the customer’s acceptance before concluding that control has been transferred.
• Consignment arrangements (Section 8.6.8) — Control typically passes to another party (a dealer or distributor) when (1) that party sells the product to a customer of its own or (2) a specified period expires.
• Bill-and-hold arrangements (Section 8.6.9) — The entity should evaluate whether control has passed to its customer (the revenue standard provides specific criteria that need to be met for the entity to conclude that control has been transferred to the customer). Further, the entity is required to consider whether there are additional performance obligations after control is transferred to the customer (e.g., an obligation to provide custodial services); if such performance obligations exist, the entity would allocate a portion of the transaction price to those performance obligations.
• Repurchase agreements (Section 8.7) — If the entity has an obligation (forward) or right (call option) to repurchase the asset (or in some instances when the customer has rights to put the asset back to the entity), the customer does not obtain control, and the transaction is accounted for as a lease (ASC 842) or a financing arrangement.