Chapter 10 — Principal-Versus-Agent Considerations
Chapter 10 — Principal-Versus-Agent Considerations
10.1 General Considerations
For an entity, deciding whether the nature of its promise is to transfer goods
or services to the customer itself (as a principal) or to arrange for goods or
services to be provided by another party (as an agent) is an important determination
because the conclusion the entity reaches can significantly affect the amount of
revenue recognized. Whereas a principal of a performance obligation will recognize
revenue at the gross amount it is entitled to from its customer, an agent will
present revenue at the net amount retained. An entity must use judgment when
assessing whether it is acting as a principal or as an agent.
The revenue standard focuses on recognizing revenue as an entity
transfers control of a good or service. Therefore, an entity is a principal in a
transaction if it controls the specified goods or services before they are
transferred to the customer. The revenue standard provides some indicators to help
an entity (1) determine whether it is a principal and (2) assess whether it controls
the underlying goods or services before they are transferred to the customer. See
Section 10.1.2 for further
details.
10.1.1 Identifying the Specified Goods or Services
ASC 606-10
55-36 When another party is
involved in providing goods or services to a customer,
the entity should determine whether the nature of its
promise is a performance obligation to provide the
specified goods or services itself (that is, the entity
is a principal) or to arrange for those goods or
services to be provided by the other party (that is, the
entity is an agent). An entity determines whether it is
a principal or an agent for each specified good or
service promised to the customer. A specified good or
service is a distinct good or service (or a distinct
bundle of goods or services) to be provided to the
customer (see paragraphs 606-10-25-19 through 25-22). If
a contract with a customer includes more than one
specified good or service, an entity could be a
principal for some specified goods or services and an
agent for others.
55-36A To determine the nature of its promise (as described in paragraph 606-10-55-36), the entity should:
- Identify the specified goods or services to be provided to the customer (which, for example, could be a right to a good or service to be provided by another party [see paragraph 606-10-25-18])
- Assess whether it controls (as described in paragraph 606-10-25-25) each specified good or service before that good or service is transferred to the customer.
The first step in the evaluation of whether an entity is acting as a principal
or as an agent when another party is involved in providing goods or services to
a customer is to identify the goods or services that will be transferred to the
customer (i.e., the “specified goods or services” referred to in ASC
606-10-55-36A). In the amendments in ASU
2016-08, the FASB confirmed that the unit of account for
evaluating whether an entity is acting as a principal or as an agent is not at
the contract level. Rather, the principal-versus-agent analysis is performed for
each specified distinct good or service (or distinct bundle of goods or
services) that will be transferred to the customer. Accordingly, an entity could
be a principal for certain aspects of a contract with a customer and an agent
for others.
The unit of account to be used in the first step of the principal-versus-agent
analysis could be described as being at the performance obligation level.
Consequently, this part of the analysis could be performed as part of step 2 of
ASC 606’s revenue model. However, the revenue standard does not refer to the
analysis as being conducted at the performance obligation level because the
performance obligation of an agent is to arrange for another entity to transfer
the specified goods or services to the customer. For an entity to determine
whether it controls promised goods or services before they are transferred to a
customer, it must first identify the specified goods or services that will be
transferred to the customer. However, the notion of aggregating goods or
services that are not distinct into performance obligations (i.e., a distinct
bundle of goods or services) will apply to identifying the unit of account used
in the evaluation of whether an entity is acting as a principal or as an agent.
That is, the same guidance that an entity applies to identify performance
obligations (ASC 606-10-25-19 through 25-22) will be used to determine the
specified goods or services.
10.1.2 Determining Whether the Entity Controls the Goods or Services Before They Are Transferred to the Customer
An entity is a principal in providing a specified good or
service if the entity controls that specified good or service before it is
transferred to the customer. Control is defined in ASC 606-10-25-25 as “the
ability to direct the use of, and obtain substantially all of the remaining
benefits from, the asset. Control includes the ability to prevent other entities
from directing the use of, and obtaining the benefits from, an asset.” Paragraph
BC120 of ASU 2014-09 describes
the components of control as follows:
-
Ability — A customer must have the present right to direct the use of, and obtain substantially all of the remaining benefits from, an asset for an entity to recognize revenue. For example, in a contract that requires a manufacturer to produce an asset for a particular customer, it might be clear that the customer will ultimately have the right to direct the use of, and obtain substantially all of the remaining benefits from, the asset. However, the entity should not recognize revenue until the customer has actually obtained that right (which, depending on the contract, might occur during production or afterwards).
-
Direct the use of — A customer’s ability to direct the use of an asset refers to the customer’s right to deploy that asset in its activities, to allow another entity to deploy that asset in its activities, or to restrict another entity from deploying that asset.
-
Obtain the benefits from — The customer must have the ability to obtain substantially all of the remaining benefits from an asset for the customer to obtain control of it. Conceptually, the benefits from a good or service are potential cash flows (either an increase in cash inflows or a decrease in cash outflows). A customer can obtain the benefits directly or indirectly in many ways, such as by using, consuming, disposing of, selling, exchanging, pledging, or holding an asset.
In addition, ASC 606-10-55-39 provides indicators to support an entity’s
evaluation of control.
Connecting the Dots
In the determination of whether an entity controls a
specified good or service before the good or service is transferred to a
customer, the control principle should be considered before the
indicators of control are analyzed. As noted in paragraph BC16 of ASU
2016-08, “the indicators in paragraph 606-10-55-39 were included to
support an entity’s assessment of whether it controls a specified good
or service before it is transferred to the customer. The indicators (a)
do not override the assessment of control, (b) should not be viewed in
isolation, (c) do not constitute a separate or additional evaluation,
and (d) should not be considered a checklist of criteria to be met in
all scenarios.” Further, paragraph BC18(e) of ASU 2016-08 states, in
part, that “the indicators are not an exhaustive list and merely support
the assessment of control. They do not replace or override that
assessment.”
At the 2021 AICPA & CIMA Conference on Current SEC and PCAOB
Developments, Jonathan Wiggins, senior associate chief accountant in the
SEC’s Office of the Chief Accountant (OCA), cautioned that the
indicators of control in the principal-versus-agent analysis as outlined
in ASC 606-10-55-39 are neither a checklist nor a substitute for an
entity’s assessment of control; rather, an entity should consider
whether these indicators support its control assessment.
10.2 Determining Whether an Entity Is Acting as a Principal
The revenue standard’s core principle focuses on the transfer of control of
goods or services to a customer. When developing the framework for evaluating
whether an entity’s performance obligation is to transfer goods or services to a
customer or to arrange for another party to provide those goods or services to a
customer, the FASB and IASB observed that an entity would be a principal if it
controlled those goods or services before they were transferred to the customer.
This observation is reflected in the following guidance:
ASC 606-10
55-37 An entity is a principal if it controls the specified good or service before that good or service is transferred to a customer. However, an entity does not necessarily control a specified good if the entity obtains legal title to that good only momentarily before legal title is transferred to a customer. An entity that is a principal may satisfy its performance obligation to provide the specified good or service itself or it may engage another party (for example, a subcontractor) to satisfy some or all of the performance obligation on its behalf.
55-37A When another party is involved in providing goods or services to a customer, an entity that is a principal obtains control of any one of the following:
- A good or another asset from the other party that it then transfers to the customer.
- A right to a service to be performed by the other party, which gives the entity the ability to direct that party to provide the service to the customer on the entity’s behalf.
- A good or service from the other party that it then combines with other goods or services in providing the specified good or service to the customer. For example, if an entity provides a significant service of integrating goods or services (see paragraph 606-10-25-21(a)) provided by another party into the specified good or service for which the customer has contracted, the entity controls the specified good or service before that good or service is transferred to the customer. This is because the entity first obtains control of the inputs to the specified good or service (which include goods or services from other parties) and directs their use to create the combined output that is the specified good or service.
10.2.1 Controlling a Good Before Transferring It to a Customer
Often, it will be clear that an entity controls a good before it is transferred to a customer because the
entity acquired the good (i.e., obtained control) from a third party before transfer of the good to the
customer. These situations will often involve an element of inventory risk that is assumed while the good
is in the entity’s control.
For example, an online clothing retailer obtains physical possession of goods (inventory) from its
designers and stores the goods in its warehouse. The retailer separately enters into contracts
with customers to sell goods held in its warehouse. In this example, it is clear that the retailer controls
the goods before transferring them to the customer.
However, other scenarios may not be as clear. Consider a situation in which an
online retailer holds some goods (inventory) in its warehouse but also has
arrangements with some of its suppliers that allow it to direct the supplier to
ship certain goods directly from the supplier’s warehouse to the end customer
(i.e., it does not have inventory risk for all goods). This sort of an
arrangement would have to be evaluated more carefully, as illustrated below.
Example 10-1
An electronics retailer has physical locations but also sells goods to its customers through its Web site.
Customers can choose to purchase goods at the retailer’s physical location but can purchase the same goods
online. The retailer has full discretion in determining the price of the goods and generally offers the same price
in stores as it does online. Customers who choose to buy electronics online enter into a contract with the
retailer to purchase one or more specified goods. The retailer can satisfy its obligation to transfer a specified
good to a customer either by shipping the good from one of its physical locations or by directing its supplier to
ship the good from the supplier’s warehouse. If the retailer directs its supplier to ship the good directly to the
customer, the retailer will take title to the specific good only momentarily before title passes to the customer
upon shipment. The retailer is required to pay the supplier for the good even if it does not receive payment
from the customer. If the customer is not satisfied with the good or there is a defect, the customer can return
the good to one of the retailer’s physical locations.
In this case, because the retailer takes title to the good only momentarily
before passing title on to the customer, it may not be
clear whether the retailer controls the specified good
before the good is transferred to the customer. That is,
further consideration is required. However, the retailer
may conclude that it controls the good before the good
is transferred to the customer because it has the
ability to direct the use of, and obtain substantially
all of the remaining benefits from, the good (i.e., it
directs the supplier to ship the good to the retailer’s
customer). In addition, after considering the control
indicators discussed below, the retailer concludes that
it is the principal because it is primarily responsible
for satisfying the performance obligation, it has some
inventory risk upon product return, and it has latitude
to establish pricing — factors that further indicate
that it controls the good before the good is transferred
to the customer. Therefore, the retailer concludes that
it should record revenue on a gross basis.
The example above is similar to a fact pattern discussed in a speech at the 2018 AICPA Conference on Current SEC and
PCAOB Developments by Sheri York, then professional accounting fellow in the
OCA. In her speech, Ms. York made the following observations related to the
determination of whether an entity is a principal or an agent when the entity
never obtains physical possession of the specified good:
Application of the principal versus agent guidance can be especially
challenging when an entity never obtains physical possession of a good (for
example, when goods are shipped directly from a manufacturer to the third
party). Over the past year OCA has received questions regarding the
principal versus agent determination in these types of fact patterns,
including fact patterns where the company concluded it was acting as a
principal and others where the company concluded it was acting as an agent.
I would like to share one of the consultations that OCA received on this
topic.
In this consultation, the registrant
distributed a wide variety of healthcare-related goods to retailers. The
registrant maintained inventory for the majority of the goods sold; however,
for certain specialized goods, the manufacturer shipped the goods directly
to the retailer. The registrant managed the return process with the
retailer; however, due to regulatory reasons, certain returned goods were
returned directly to the manufacturer.
The
registrant concluded that it was acting as a principal in the arrangement
because it controlled the specified good before it was transferred to the
customer. That is, the registrant had the ability to direct the use of, and
obtain substantially all of the remaining benefits from, the goods. As part
of its assessment of control, the registrant considered the indicators of
control and concluded that it was primarily responsible for fulfillment and
had discretion in establishing the price at which the goods were sold to the
retailer. The registrant believed that it was primarily responsible for
fulfillment based on the terms of the agreement and marketing materials
communicated to the customer. In this fact pattern, the registrant was the
primary point of contract with the retailer, and was contractually
responsible for ensuring that products were acceptable to the retailer,
including responsibility for issues related to delivery, quantity, and
spoilage.
In this fact pattern, the staff did not
object to the registrant’s conclusion that it was the principal in the
transaction. Based on my experience, I think it is important to remember
that the conclusion as to whether or not an entity is a principal or an
agent requires a consideration of the definition of control, often including
consideration of the indicators of control, of which inventory risk is only
one of the possible indicators. In some circumstances, physical possession
will not coincide with control of a specified good. [Footnotes
omitted]
Typically, the principal in a transaction to sell goods to its
customer will have legal title to the goods before they are transferred to the
customer. However, ASC 606-10-55-37 states, in part, that “an entity does not
necessarily control a specified good if the entity obtains legal title to that
good only momentarily before legal title is transferred to a customer.”
Nevertheless, we do not believe that having legal title only momentarily (e.g.,
flash title) automatically precludes the entity from having control of the goods
before they are transferred to the customer. Accordingly, the entity will need
to perform a thorough analysis of the overall definition of control and the
other indicators in ASC 606-10-25-30 and ASC 606-10-55-39 to determine whether
it has the ability to control the goods before they are transferred to the
customer.
The example below considers whether an entity’s momentary legal
title to goods that the entity sells to an end customer automatically precludes
a determination that the entity (1) has control of the goods before selling them
to the end customer and (2) is therefore the principal in the transaction.
Example 10-2
Company L, the owner and operator of
retail stores that sell clothing and accessories to
customers, enters into contracts with clothing
manufacturers to purchase clothing that is based on L’s
specifications. Upon receiving a purchase order from L,
a manufacturer produces the clothing and ships it to L’s
warehouse. Company L subsequently delivers the clothing
to its individual retail stores for sale to end
consumers. At its own discretion, L will direct the use
of the clothing by specifying the stores to which the
clothing is to be delivered.
The manufacturer retains legal title to
the clothing until L sells the clothing to an end
consumer. Upon L’s sale of the clothing to the end
consumer, legal title is transferred only momentarily to
L and then is immediately transferred from L to the end
consumer (i.e., flash title transfer). Consequently, L
has physical possession of the clothing but has legal
title to the clothing only momentarily before selling it
to the end consumer. However, L can obtain the economic
benefits of the clothing because it has the unilateral
ability to sell the clothing to an end consumer despite
having legal title to the clothing only momentarily
before the sale. In addition, the manufacturer does not
have the ability to recall the clothing or direct it to
another retailer once it has been shipped to L. Further,
L is not obligated to pay the manufacturer for any
clothing purchased until such clothing is sold to the
end consumer.
We do not believe that having legal
title to the clothing only momentarily automatically
precludes L from having control of the clothing. To be
considered a principal in a transaction, an entity must
have control of the specified good or service before
transferring that good or service to a customer, as
stated in ASC 606-10-55-37. Legal title is one of the
indicators of control in ASC 606-10-25-30, but that
indicator alone is not determinative of whether an
entity has control of an asset. As indicated in ASC
606-10-25-30(b) and discussed in Section 8.6.4.1, there
are circumstances in which control of an asset can be
transferred to the customer even though the seller
retains legal title to the asset until the asset is sold
to the end consumer. In the fact pattern outlined above,
L must consider the overall definition of control and
the other indicators in ASC 606-10-25-30 and ASC
606-10-55-39 to determine whether it obtains control of
the clothing without taking legal title to the
clothing.
ASC 606-10-25-25 states, in part:
Control of an asset refers to the
ability to direct the use of, and obtain
substantially all of the remaining benefits from,
the asset. Control includes the ability to prevent
other entities from directing the use of, and
obtaining the benefits from, an asset.
Under the facts of this example, L has
the ability to direct the use of the clothing by
delivering the clothing to L’s individual retail stores
for resale to end consumers. Further, L can obtain the
remaining benefits from the clothing by selling it to
end consumers. Although the manufacturer retains legal
title to the clothing until it is sold, the manufacturer
does not have the ability to prevent L from directing
the clothing to L’s retail stores and selling the
clothing to end consumers. Therefore, notwithstanding
that L has legal title to the clothing only momentarily
and is not obligated to pay the manufacturer for the
clothing until the clothing is sold to the end consumer,
L controls the clothing as the principal in the
transaction in the absence of any indicators under ASC
606-10-55-39 to the contrary.
The definition of control also includes the ability to “obtain substantially all
of the remaining benefits from” the asset. However, even if an entity earns a
fixed commission upon reselling a good, the entity can still control the good
before it is transferred to a customer. In a speech at the 2020 AICPA Conference on Current SEC and
PCAOB Developments, Jillian Pearce, then professional accounting fellow in the
OCA, discussed a fact pattern in which a commodity reseller was a principal in
its arrangements to sell commodity produced by a related party. In her speech,
Ms. Pearce commented as follows on the determination of whether an entity is a
principal or an agent when the entity earns a fixed percentage
commission:
I would like to share observations on a fact pattern
involving a registrant that produces and sells a commodity to its
customers. In this fact pattern, the registrant had the contractual
right to market and sell 100 percent of the commodity produced by a
related party.
The registrant determined how to source the
commodity to fulfill its contracts with customers — either from its own
production, from production from the related party facility, or from a
third party. This raises the issue of whether the registrant was acting
as a principal or an agent in selling the commodity produced by the
related party. If the registrant sourced the product from the related
party facility, the registrant took possession and legal title of the
product and transported it to the customer. The registrant had the right
to redirect the product to different customers during transportation,
subject to certain geographic restrictions, but the registrant believed
inventory risk was mitigated by an insurance policy that covered risk of
damage or loss. The selling price of the commodity was generally
determined based on the market price of the product at the time of
delivery. For product sourced from the related party facility, the
registrant received payment from the end customer and remitted payment
to the producer, less a fixed percentage commission that the registrant
retained.
The registrant proposed to account for the commodity
sales from this producer on a net basis, as it determined it was acting
as an agent in the sale of the commodity from the producer and did not
believe it controlled the product. The registrant evaluated the
indicators of control outlined within the revenue standard. While it did
not believe any of the indicators were determinative, the registrant
ultimately concluded it was an agent in the transaction as it did not
receive substantially all of the benefits from the sale of the commodity
as a result of its fixed percentage commission.
OCA staff objected
to the registrant’s conclusion that it did not have the right to direct the
use of and obtain substantially all of the remaining benefits of the product
from the producer, and therefore concluded the registrant was the principal
in the transaction based on the total mix of information presented.
[Footnote omitted]10.2.2 Controlling the Right to a Service
There may also be instances in which an entity controls a right to a service
(e.g., a voucher or ticket) and passes it on to a customer. In these instances,
the entity is not providing the service to which the voucher entitles a
customer, but the entity may control the right to the service by controlling the
voucher (e.g., prepurchasing the voucher) before it is transferred to the
customer. The entity can redeem the voucher for the service, or it can transfer
the right to the service to a customer by transferring the voucher. In addition,
an entity may control the right to a service if it directs the service provider
to perform the service on the entity’s behalf for any of the entity’s
customers.
Example 10-3
Entity A enters into a management agreement with Customer B to provide lawn maintenance services,
including fertilization, mowing and trimming, and periodic seeding. Entity A does not provide lawn maintenance
services itself; rather, it contracts with third-party service providers for each aspect of the lawn maintenance
service. Entity A and Customer B have agreed on a single price for the lawn maintenance service.
Entity A separately enters into contracts with third-party service providers and
directs those service providers to perform each aspect
of the lawn maintenance services. Once A enters into
contracts with the third-party service providers, it can
direct those service providers to perform services on
A’s behalf for any number of its customers.
Even though A is not performing the services, it controls the right to the services by directing specific lawn
maintenance service providers to perform each aspect of the lawn maintenance services. Because A controls
the right to the services, A concludes that it is acting as the principal.
The example above has similarities to a fact pattern discussed
by Lauren Alexander, professional accounting fellow in the OCA, in a
speech at the 2019 AICPA Conference on Current SEC and
PCAOB Developments. In her speech, Ms. Alexander made the following observations
related to the determination of whether an entity is a principal or an agent in
a contract to provide specified services to a customer:
Determining whether an entity is a principal or an agent
in a revenue transaction can be particularly challenging when two
parties are involved in providing services to a customer, especially if
some of the services can only be provided by a specific service
provider.
In the consultation that I will discuss today, the
registrant entered into contracts with customers to provide several
related services in exchange for a fee. The contracts acknowledged that
another service provider would provide some of the services, and the
services were marketed to customers using the brand names of both the
registrant and the other service provider. The registrant sought the
staff’s view on whether it was a principal or an agent in the revenue
transaction.
The registrant noted that some of the services promised
in the contract were based on its proprietary content, and that it was
heavily involved in providing those services to the customer, with
limited involvement from the other service provider. However, due to
certain regulatory restrictions, the registrant could not legally
provide some of the services promised in the contract and therefore had
to rely entirely on the other service provider to deliver those
services.
The registrant concluded that it was the principal in
the transaction for each of the specified services and should record
revenue on a gross basis because it controlled the services before
transferring them to the customer. In reaching this conclusion, the
registrant stated that it had the contractual ability to direct the
other service provider to provide services to customers on its behalf,
and customers did not have contractual relationships with the other
service provider. The registrant asserted that it was primarily
responsible for fulfilling the promise to provide the specified
services.
However, the registrant noted that it only had the right
to dictate certain general parameters about the services to be provided
by the other service provider, and that the other service provider had
discretion in determining exactly how to fulfill its obligation. The
registrant said that it controlled when the other service provider
delivered the services, and that contractually the other service
provider did not have the right to deny services to customers. Finally,
the registrant was responsible for handling most customer concerns that
arose from the services provided by the other service provider.
In this fact pattern, the staff did not object to the
registrant’s conclusion that it was the principal in the transaction and
should record revenue on a gross basis. The staff observed that the
registrant could control the specified services by entering into a
contract with another service provider in which the registrant defined
the scope of services to be performed on its behalf, even if the
registrant could not fulfill the contract using its own resources (that
is, it could not legally provide certain of the services promised in the
contract).
As discussed in previous staff speeches, we continue to
observe that applying the principal versus agent guidance may require
significant judgment, especially in the case of emerging business
models. We encourage registrants to carefully consider their specific
facts and circumstances and contractual terms, and any changes to these
terms over time, when applying this guidance. [Footnotes omitted]
10.2.2.1 Control Over Employees — Professional Services Organizations and Employers of Record
Professional services organizations (PSOs) may provide temporary workforce or
recruiting services. Sometimes, it may be clear that the nature of the
entity’s promise is to provide a workforce (e.g., a customer contracts with
the entity for temporary labor, and the entity is primarily responsible for
providing the workforce). In these instances, the entity (1) will make all
hiring and firing decisions, (2) will determine employee wages and benefits,
(3) will supervise and manage employees, and (4) can redeploy employees at
its discretion. Under these circumstances, an entity may reasonably conclude
that it is the principal in the arrangement (i.e., it controls the
employees) and that it should therefore report any consideration received
from the customer (including the consideration related to the employees’
wages) as revenue on a gross basis. However, in other situations, the nature
of the entity’s promise might be to arrange for employees to provide
services to a customer (e.g., the entity is the legal employer of record
[EOR] but does not control the employees).1
Example 10-4
Entity JW is a PSO that provides EOR
services, which allow its customers to hire and
deploy professionals without having a legal
footprint in the jurisdiction(s) in which the
professionals are working. Customers identify
specific professionals to be employed; determine the
professionals’ salaries, bonuses, and benefits;
supervise and manage the professionals; and
determine when and what work the professionals will
perform. As the legal EOR, JW performs all payroll
processes and payment services as well as tax
compliance filings and remittances. Entity JW is
required to pay the professionals’ salaries,
bonuses, and benefits (in amounts determined by the
customers), and JW is entitled to recover from its
customers any amounts paid to professionals. If a
professional who is performing work for a customer
quits or is fired, JW is not responsible for
identifying and employing a different professional.
Rather, the customer, at its sole discretion, will
identify another professional to be employed by JW.
In addition, JW is not responsible for the quality
of the services provided by professionals. In
exchange for providing the EOR services, JW charges
customers a fee based on a percentage of the
employees’ salaries and bonuses.
Entity JW concludes that the nature
of its promise is to arrange for each professional
to provide services directly to a customer of JW.
Although JW is the legal employer of the
professional, JW concludes that it does not obtain
control of the professional’s services before they
are transferred to the customer because the customer
makes all decisions regarding (1) which professional
to hire and fire; (2) the professional’s salary,
bonus, and benefits; (3) supervision and management;
and (4) the day-to-day activities of the
professional. Further, JW concludes that it is not
primarily responsible for providing the
professional’s services because JW is not
responsible for the quality of the services provided
and, if the professional quits, JW is not obligated
to identify an alternative professional who can
provide the services. JW also does not have
discretion in determining the price because the
customer sets the salary and bonus. Therefore, JW
concludes that it should report revenue net of
amounts paid to the professional.
A similar outcome would result if JW
treated the amounts paid to the professional as
“consideration payable to a customer” within the
scope of the guidance in ASC 606-10-32-25 through
32-27 (see Section 6.6.2).
Because the nature of JW’s promise is to arrange for
the professional to provide services to the customer
(and not to provide the professional’s services
itself) and the customer is, in substance, employing
the professional, any payments made to the
professional are being made on behalf of the
customer. Entity JW is not receiving a distinct good
or service in connection with the payments.
Consequently, any payments made to the professional
would reduce the transaction price and, therefore,
revenue.
10.2.2.2 Principal-Versus-Agent Considerations Related to Payment Processing Arrangements
For entities involved in payment processing arrangements, performing the
principal-versus-agent analysis presents unique challenges. Specifically,
entities have grappled with the issue of how to present revenue and the
various fees related to payment processing in a manner consistent with the
revenue standard. A careful evaluation of the relevant guidance is critical
since the payments ecosystem — as well as the players — continues to evolve.
Consideration must be given to the delivery model of the services, the
parties involved in the payment transactions, and the various components in
each fee arrangement. Whether an offering is integrated or independent can
have a significant effect on the accounting analysis.
ASC 606-10-55-36 states, in part, that “[i]f a contract with a customer
includes more than one specified good or service, an entity could be a
principal for some specified goods or services and an agent for others.”
Accordingly, for each specified good or service identified , an entity must
determine whether it controls the specified good or service before
transferring that good or service to the customer. Therefore, an entity in a
payment processing arrangement must determine whether it has the ability to
direct the use of, and obtain substantially all the benefits from, the
services provided by other parties in the payment processing ecosystem
before those services are transferred to the customer.
Determining which party controls the services provided by the other parties
in the payment processing ecosystem requires significant judgment.
Therefore, an entity may also evaluate the control indicators in ASC 606 to
support its conclusion.
Factors to consider as part of this determination may include:
-
The nature of the entity’s contractual arrangements, relationships, and promises with the customer and other parties and the entity’s potential risks of loss (e.g., chargebacks, fees due to other parties) arising from the transaction. As part of this analysis, the entity may consider whether it acts as the “merchant of record” for the transactions that it processes.
-
Any contractual arrangements or relationships between the customer and the other parties in the payment processing ecosystem.
-
The ability of the entity to direct other parties in the payment processing ecosystem to provide payment processing services on its behalf. As part of this analysis, the entity may consider whether it establishes underwriting guidelines, has the ability to decline transactions or withhold funds, approves customer contracts, provides customer support, and has responsibility over the resolution of customer service issues.
-
Whether the customer views the entity to be primarily responsible for the payment processing services, including their acceptability.
-
The ability of the entity to enhance, modify, or discontinue payment processing services.
-
The ability of the entity to determine and subsequently change the parties that will be used to perform the various payment processing services.
-
The ability to set the overall price paid by the customer.
-
Whether the entity provides a significant service of integrating all of the services transferred to the customer.
-
The entity’s obligation to maintain payment processing information on behalf of the merchant, perform preauthorization services, and determine what payment processing information is provided to the other parties in the payment processing ecosystem.
10.2.3 Integrating a Good or Service From a Third Party With a Good or Service Controlled by the Entity
An entity would also be a principal when it integrates a good or service
provided by a third party with other goods or services controlled by the entity.
The entity’s performance obligation may be to transfer to the customer a
distinct bundle of goods or services, a component of which is provided by the
third party. The entity would need to obtain control of the third party’s good
or service to integrate the good or service with the other goods or services
promised to the customer. For example, a general contractor may enter into a
contract with a customer to construct a house. The general contractor will most
likely need to combine goods or services provided by third parties (e.g.,
subcontractors) to transfer the promised goods or services to its customer.
Example 10-5
Contractor A enters into a contract with Customer B to construct a house. Customer B requests that a specific
brand of air-conditioning unit be included in the finished house. The contractor buys the air-conditioning unit
from a third party (either the contractor is reimbursed by the customer or the contract price includes the price
of the air-conditioning unit), completes the installation, and performs tests to ensure that the air-conditioning
unit is working. That is, as part of its obligation to construct the house for the customer, A performs a significant
service of integrating the air-conditioning unit into the house, which forms part of a single performance
obligation. Contractor A therefore concludes that it controls the air-conditioning unit before the unit is
transferred to the customer as part of the completed house.
Connecting the Dots
We believe that an entity should evaluate the level of integration
between the various inputs in identifying its performance obligations
when it uses third-party goods or services as inputs to produce or
deliver a combined output. In addition, the entity should consider
whether it has sufficient control over those inputs to significantly
integrate them into its offering.
At the 2021 AICPA & CIMA Conference on Current SEC and PCAOB
Developments, Mr. Wiggins discussed situations in which an entity may
conclude that it is a principal because it takes a good or service from
a third party and integrates that good or service into its own offering.
In his discussion of entities’ contracts with customers involving a good
or service from a third party, Mr. Wiggins highlighted the importance of
determining (1) whether the entity is performing an integration service,
(2) the nature of the integration service, (3) the significance of the
integration service, and (4) whether the entity controls the third
party’s good or service. He noted that if an entity does not control a
promised good or service from a third party, it would be unclear how the
entity can significantly integrate that promised good or service with
its own offering.
10.2.4 Indicators That an Entity Is Acting as a Principal
In situations such as those described in
Examples 10-3 and 10-5, an entity controls specified goods
or services before they are transferred to the customer.
This may be the case even if the entity does not fulfill
the promise itself but directs a third party to fulfill
the obligation on its behalf. In other situations,
however, it may not be clear whether the entity does in
fact obtain control of the goods or services provided by
a third party before they are transferred to the
customer, as illustrated in Example 10-1. In
these circumstances, the entity will need to consider
the indicators in ASC 606-10-55-39 and 55-39A when
evaluating whether it is acting as a principal. Those
indicators are listed and explained as follows:
|
ASC 606-10
55-39 Indicators that an entity
controls the specified good or service before it is
transferred to the customer (and is therefore a
principal [see paragraph 606-10-55-37]) include, but are
not limited to, the following:
-
The entity is primarily responsible for fulfilling the promise to provide the specified good or service. This typically includes responsibility for the acceptability of the specified good or service (for example, primary responsibility for the good or service meeting customer specifications). If the entity is primarily responsible for fulfilling the promise to provide the specified good or service, this may indicate that the other party involved in providing the specified good or service is acting on the entity’s behalf.
-
The entity has inventory risk before the specified good or service has been transferred to a customer or after transfer of control to the customer (for example, if the customer has a right of return). For example, if the entity obtains, or commits to obtain, the specified good or service before obtaining a contract with a customer, that may indicate that the entity has the ability to direct the use of, and obtain substantially all of the remaining benefits from, the good or service before it is transferred to the customer.
-
The entity has discretion in establishing the price for the specified good or service. Establishing the price that the customer pays for the specified good or service may indicate that the entity has the ability to direct the use of that good or service and obtain substantially all of the remaining benefits. However, an agent can have discretion in establishing prices in some cases. For example, an agent may have some flexibility in setting prices in order to generate additional revenue from its service of arranging for goods or services to be provided by other parties to customers.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
55-39A The indicators in
paragraph 606-10-55-39 may be more or less relevant to
the assessment of control depending on the nature of the
specified good or service and the terms and conditions
of the contract. In addition, different indicators may
provide more persuasive evidence in different
contracts.
We have observed that primary responsibility and inventory risk
tend to be important indicators in the overall principal-versus-agent analysis
under the revenue standard. However, the relevance of particular control
indicators may vary depending on the fact pattern. Consequently, an entity will
need to determine whether it controls the underlying goods or services before
they are transferred to the customer by considering how the control indicators
should be evaluated under the facts and circumstances of the entity’s
arrangements.
As discussed in ASU 2016-08, the FASB and IASB acknowledge that
the indicators under the revenue standard are similar to indicators used under
legacy U.S. GAAP. Specifically, paragraphs BC16 through BC18 state, in part:
BC16. The Boards’ considerations (explained in paragraph
BC382 of Update 2014-09) highlight that the indicators in paragraph
606-10-55-39 were included to support an entity’s assessment of whether
it controls a specified good or service before it is transferred to the
customer. The indicators (a) do not override the assessment of control,
(b) should not be viewed in isolation, (c) do not constitute a separate
or additional evaluation, and (d) should not be considered a checklist
of criteria to be met in all scenarios. Considering one or more of the
indicators often will be helpful, and, depending on the facts and
circumstances, individual indicators will be more or less relevant or
persuasive to the assessment of control.
BC17. [T]he Boards decided to carry over some of the
indicators in previous revenue recognition standards even though those
indicators have a different purpose in the new standard. In the new
standard, the indicators support the concepts of identifying performance
obligations and the transfer of control of goods or services.
Accordingly, the Boards had expected that the conclusions about
principal versus agent under Topic 606 could be different in some
scenarios from those reached under the previous revenue recognition
standards. Furthermore, the Boards observed that although exposure to
risks and rewards alone does not give an entity control, exposure to
risks and rewards can be a helpful factor to consider in determining
whether an entity has obtained control (see paragraph 606-10-25-30).
BC18. The Boards decided to amend the indicators in
paragraph 606-10-55-39 to more clearly establish a link between the
control principle and the indicators by:
-
Reframing the indicators as indicators of when an entity controls a specified good or service before transfer, rather than as indicators that an entity does not control the specified good or service before transfer.
-
Adding guidance to explain how each indicator supports the assessment of control as defined in paragraph 606-10-55-39. This should help entities apply indicators that are similar to those in the previous revenue recognition guidance but within the context of the control principle in Topic 606.
-
Removing the indicator relating to the form of the consideration. Although that indicator might sometimes be helpful in assessing whether an entity is an agent, the Boards concluded that it would not be helpful in assessing whether an entity is a principal.
-
Removing the indicator relating to exposure to credit risk. The feedback on the proposed Update highlighted that exposure to credit risk is generally not a helpful indicator when assessing whether an entity controls the specified good or service. Stakeholders observed that the credit risk indicator in the previous revenue guidance has been problematic from the perspective of entities trying to use exposure to credit risk to override stronger evidence of agency. The Boards concluded that removing the credit risk indicator should reduce some of the complexity in the principal versus agent evaluation because the credit risk indicator typically will be less (or not) relevant to the evaluation for contracts with customers within the scope of Topic 606.
-
Clarifying that the indicators are not an exhaustive list and merely support the assessment of control. They do not replace or override that assessment. The Boards decided to explicitly state that one or more of the indicators might provide more persuasive evidence to support the assessment of control in different scenarios.
As noted above, the indicators are intended to support the
conclusion that the entity controls the specified goods or services before they
are transferred to the customer. Typically, the principal that controls the
specified goods or services will exhibit some or all of the control indicators.
The indicators also help an entity evaluate whether it is exposed to significant
risks and rewards associated with the contract with the customer. As also noted
above, considering whether an entity has exposure to risks and rewards can be
helpful (although this indicator alone would not confirm that the entity has
control). Since the principal in a transaction is typically exposed to
significant risks and rewards associated with the contract with a customer, the
indicators help confirm whether an entity controls specified goods or services
before they are transferred to a customer (and is therefore deemed to be the
principal).
In a speech at the 2017 AICPA Conference on Current SEC and
PCAOB Developments, Barry Kanczuker, associate chief accountant in the OCA,
provided the following guidance on determining whether an entity is a principal
or an agent:
I have observed that applying [the guidance in ASC 606 on determining
whether an entity is a principal or an agent] can be challenging in some
fact patterns. I believe that some of the challenges are amplified in
certain industries, such as the digital advertising industry or other
industries in the technology space, where there are often multiple
parties involved in providing the good or service, and transactions
often take place within the blink of an eye.
Last year at this conference, [then OCA Professional Accounting Fellow]
Ruth Uejio made remarks that principal versus agent considerations in
evolving business models may create “unique challenges that will require
sound judgment.” I would like to continue this discussion. For example,
I believe determining whether an entity controls a specified good or
service immediately prior to the good or service being transferred to
the customer may be especially challenging in certain types of service
transactions, such as when enforceable contracts only exist among the
parties once the service is being provided, or in transactions that take
place in an instant. Topic 606 does provide indicators to support an
entity’s assessment of whether it controls a specified good or service
before it is transferred to the customer. However, these indicators of
control should not be considered a checklist of criteria. The indicators
may be more or less relevant to the assessment of control depending on
the nature of the specified good or service and the terms and conditions
of the contract. I believe that determining the relevance of an
indicator to the assessment of control in certain types of transactions
will require reasonable judgment.
As an example of the application of this guidance, I would like to share
a recent pre-filing consultation that OCA received in the digital
advertising space. In this consultation, the registrant’s customer, an
advertiser, provided the registrant with specifications of the target
audience it wished to reach through its digital advertising efforts. The
advertiser’s specifications also included limited pricing information,
such as the total advertising budget over a period of time. The
registrant’s technology enabled it to identify and purchase advertising
space that met the advertiser’s specifications on a real-time basis, as
internet users in the advertiser’s target audience were browsing a
website or viewing an app with available advertising space. The
registrant had the ultimate discretion, including pricing discretion,
for individual purchases of advertising space. The advertiser held the
registrant responsible for reaching the advertiser’s target audience and
otherwise meeting the advertiser’s specifications, and typically did not
receive any information from the registrant that identified the specific
websites or apps from which the registrant purchased the advertising
space.
The registrant concluded that it was acting as a principal in the
arrangement because it controlled the specified good or service before
it was transferred to the customer. As part of its assessment of
control, the registrant considered the indicators of control and noted
that it was primarily responsible for fulfillment and had discretion in
establishing the price. The staff views principal versus agent
considerations to be an area that requires reasonable judgment — in this
case, based on the facts and circumstances and the Topic 606 guidance,
the staff did not object to the registrant’s conclusion that it was the
principal in the transaction.
I want to be clear: an area of significant judgment does not mean that
the standard permits optionality. In order to make these reasonable
judgments, I believe that registrants need to “roll up their sleeves” to
understand the nuances of the transactions and faithfully apply the
Topic 606 model to their specific set of facts and circumstances.
[Footnotes omitted]
As discussed in Mr. Kanczuker’s speech above, determining
whether an entity is a principal or an agent can be challenging in certain
industries, particularly the digital advertising industry. In a speech at the 2020 AICPA Conference on
Current SEC and PCAOB Developments, Geoff Griffin, then professional accounting
fellow in the OCA, discussed another similar fact pattern. In his speech, Mr.
Griffin made the following observations related to the determination of whether
an entity is a principal or an agent in a contract to provide a customer with
access to the entity’s advertising platform:
Significant judgment is often required when determining
whether an entity is a principal or an agent in a revenue transaction.
As discussed in previous staff speeches, assessing whether an entity is
a principal or agent under the applicable revenue guidance can be
particularly challenging in certain industries, such as the digital
advertising industry or other industries in the technology space, where
arrangements often involve multiple parties providing the good or
service. I would like to share a fact pattern that illustrates such an
arrangement.
In this fact pattern, the registrant operated a platform
that facilitated an advertiser’s purchase of advertising space from a
publisher. The registrant identified a specific advertiser’s digital
advertisement (“ad”) before bidding on potential advertising space in an
auction process. Upon winning an auction, the registrant obtained an
exclusive right to the potential advertising space and immediately
pre-loaded the identified advertiser’s ad to the publisher’s site. If a
valid user reaches the stage in the publisher’s app where the potential
advertising space is to be displayed, the pre-loaded ad is displayed in
the advertising space on the publisher’s site and a revenue transaction
occurs.
The registrant concluded it was an agent in the
transaction, despite the fact that it obtained momentary title to the
advertising space, stating that it did not obtain control of the
advertising space prior to transferring it to the customer. That is, the
registrant concluded that it did not have the ability to direct the use
of, and obtain substantially all the remaining benefits from, the
publisher’s advertising space. Due to certain constraints, the
registrant concluded it was unable to direct the use of the potential
advertising space to an ad other than the predetermined ad in the
seconds between winning the auction and the time the ad was displayed on
the publisher’s site.
As part of its assessment, the registrant considered the
indicators of control set forth in the revenue recognition guidance,
determining that it was not primarily responsible for fulfillment and
did not have inventory risk; however, the registrant determined that it
did have pricing discretion as the publisher had no ability to set or
influence the price charged to advertisers. In reaching its conclusion,
the registrant stated that it was not primarily responsible for
fulfillment based on the terms and conditions of its contract with the
advertiser. The registrant believed that the terms and conditions of its
contract only obligated it to provide an advertiser with access to the
platform that facilitated the customer’s purchase of advertising space
from publishers. Finally, the registrant stated that it did not promise
its customer, explicitly or implicitly, the delivery of advertising
space, nor did the customer have recourse against the registrant if its
ad was not properly displayed in the advertising space or a valid user
did not view the ad.
Based on the facts and circumstances presented to OCA staff, the staff
did not object to the registrant’s conclusion that it was an agent in
the transaction and should recognize revenue on a net basis. [Footnotes
omitted]
Each of the indicators in ASC 606 that an entity is acting as a principal is
further discussed below.
10.2.4.1 Primary Responsibility
The entity that has primary responsibility for fulfilling
the obligation to the customer is often the entity that is most visible to
the customer and the entity from which the customer believes it is acquiring
goods or services. Often, the entity that has primary responsibility for
fulfilling the promise to transfer goods or services to the customer will
assume fulfillment risk (i.e., risk that the performance obligation will not
be satisfied) and risks related to the acceptability of specified goods or
services. That is, such an entity will typically address customer questions
and complaints, rectify service issues, accept product returns, or be
primarily responsible for exchanges or refunds. For example, when a customer
purchases a flight on a Web site operated by a company that aggregates
flight information and facilitates payment (e.g., a travel site), the
airline rather than the travel site has the primary responsibility to
provide the transportation service to the customer. If the flight were to be
canceled or if baggage were to be lost, the customer would contact the
airline to address the issue. Although the customer initially interacted
with the travel site to arrange for the flight, the airline is primarily
responsible for fulfilling the obligation to provide transportation services
to the customer.
Similarly, in Example 10-1, when a customer
purchases a good from an online retailer’s Web site that is shipped directly
to the customer from the supplier, the customer would contact the retailer
if there are quality issues or would return the good to the retailer if
there is a defect. That is, even though the good was actually shipped
directly from the supplier to the customer, the customer views the retailer
as being primarily responsible for fulfilling the promise to transfer the
specified good, and the retailer assumes significant risk related to
fulfillment of that promise.
In some cases, it can be difficult to establish whether an
entity has primary responsibility for fulfilling a promise to provide a
specified good or service, and doing so may require significant judgment.
For example, when two parties are involved in providing a specified good or
service to a customer, both parties may have contact with the customer.
Conversely, in other cases, it may be clear that an entity has primary
responsibility. If it is clear that an entity has primary responsibility for
fulfilling a promise to provide a specified good or service to a customer,
we believe that this would typically mean that the entity is deemed to be
the principal. Although ASC 606-10-55-39 lists primary responsibility as
only an indicator, ASC 606-10-55-36 makes clear that when the
principal-versus-agent analysis is performed, it is key to identify which
party is promising to provide the specified good or service to the customer.
If an entity has primary responsibility to the customer for providing a
specified good or service, it will usually follow that the entity is the
party that is promising to provide the good or service to the customer
(i.e., the entity is a principal, not an agent), even if the entity has
engaged another party (e.g., a subcontractor) to satisfy some or all of the
performance obligation on its behalf.
10.2.4.2 Inventory Risk
When an entity has inventory risk, it is exposed to economic
risk associated with either (1) holding the inventory before a customer is
identified or (2) accepting product returns and being required to mitigate
any resulting losses by reselling the product or negotiating returns with
the supplier.
While holding the inventory, the entity bears the risk of loss as a result of
obsolescence or destruction of inventory. This risk is generally referred to
as front-end inventory risk. In the case of a service, the entity may commit
to pay for a service before it identifies a customer for the service. This
is also a form of inventory risk.
Another type of inventory risk is back-end inventory risk,
which is economic risk assumed upon product return (when there is a general
right of return). If an entity is willing to assume economic risk upon
product return (and there is a general right of return), it is assuming some
risk that is assumed by a principal in a transaction. However, in some
instances, an entity may be willing to accept a return only if it can return
the product to the supplier, in which case back-end inventory risk may be
mitigated. When combined with other factors, the existence of back-end
inventory risk may lead to a conclusion that the entity controls the
specified good or service before it is transferred to the customer even if
another party transfers the product or service directly to the customer. In
Example
10-1, the online retailer does not have inventory risk before
entering into a contract with a customer because the online retailer takes
title to a good only momentarily before the supplier ships the good to a
customer. However, if the customer were to be dissatisfied with the good,
the customer would return it to the online retailer rather than the
supplier. The online retailer would then have back-end inventory risk since
it would have to determine whether it can resell the good to another
customer or return the good to the supplier.
10.2.4.3 Discretion in Establishing Pricing
When an entity has control over the establishment of
pricing, it generally assumes substantial risks and rewards related to the
demand of the specified product or service, especially when the price it is
required to pay a third party for the specified good or service is fixed. In
contrast, when an entity acts as an agent in a transaction, the amount that
the entity earns may be fixed (either in absolute dollars per transaction or
as a fixed percentage of the sales price).
When combined with other factors, pricing discretion could
indicate that the entity controls the specified good or service before it is
transferred to the customer. However, ASC 606-10-55-39(c) states, in part,
that “an agent can have discretion in establishing prices in some cases. For
example, an agent may have some flexibility in setting prices in order to
generate additional revenue from its service of arranging for goods or
services to be provided by other parties to customers.”
Example 10-6
A food delivery service offers
delivery of meals from restaurants to consumers
within a certain radius from a specific location in
a city. Via its Web site or app, the food delivery
service connects a consumer with a restaurant and
also delivers ordered food from the restaurant to
the consumer. Each restaurant indicates its prices
on the food delivery service’s platform and has the
ability to change those prices daily. The food
delivery service earns a 5 percent commission on
sales from each restaurant order.
In this example, each restaurant has
discretion in establishing pricing rather than the
food delivery service. In addition, the restaurant
is responsible for fulfilling the ordered food. This
would suggest that the restaurant controls the
specified good or service (i.e., the food ordered by
the consumer) at all times before the food is
transferred to the consumer.
Note, however, that the food
delivery service may be the principal for the
delivery service, particularly if it is primarily
responsible for the delivery service, in which case
it would be an agent for part of the transaction and
a principal for another part. Refer to Section
10.4 for further discussion of
contracts in which an entity is both a principal and
an agent.
10.2.5 Codification Examples of Promised Goods or Services for Which an Entity Is a Principal (ASC 606-10-55-320 Through 55-329)
The following implementation guidance from the revenue standard
will help an entity determine whether it is acting as a principal in a
contract:
ASC 606-10
Example 46 — Promise to Provide Goods or
Services (Entity Is a Principal)
55-320 An entity enters into
a contract with a customer for equipment with unique
specifications. The entity and the customer develop the
specifications for the equipment, which the entity
communicates to a supplier that the entity contracts
with to manufacture the equipment. The entity also
arranges to have the supplier deliver the equipment
directly to the customer. Upon delivery of the equipment
to the customer, the terms of the contract require the
entity to pay the supplier the price agreed to by the
entity and the supplier for manufacturing the
equipment.
55-321 The entity and the
customer negotiate the selling price, and the entity
invoices the customer for the agreed-upon price with
30-day payment terms. The entity’s profit is based on
the difference between the sales price negotiated with
the customer and the price charged by the supplier.
55-322 The contract between
the entity and the customer requires the customer to
seek remedies for defects in the equipment from the
supplier under the supplier’s warranty. However, the
entity is responsible for any corrections to the
equipment required resulting from errors in
specifications.
55-323 To determine whether
the entity’s performance obligation is to provide the
specified goods or services itself (that is, the entity
is a principal) or to arrange for those goods or
services to be provided by another party (that is, the
entity is an agent), the entity identifies the specified
good or service to be provided to the customer and
assesses whether it controls that good or service before
the good or service is transferred to the customer.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
55-323A The entity concludes
that it has promised to provide the customer with
specialized equipment designed by the entity. Although
the entity has subcontracted the manufacturing of the
equipment to the supplier, the entity concludes that the
design and manufacturing of the equipment are not
distinct because they are not separately identifiable
(that is, there is a single performance obligation). The
entity is responsible for the overall management of the
contract (for example, by ensuring that the
manufacturing service conforms to the specifications)
and thus provides a significant service of integrating
those items into the combined output — the specialized
equipment — for which the customer has contracted. In
addition, those activities are highly interrelated. If
necessary modifications to the specifications are
identified as the equipment is manufactured, the entity
is responsible for developing and communicating
revisions to the supplier and for ensuring that any
associated rework required conforms with the revised
specifications. Accordingly, the entity identifies the
specified good to be provided to the customer as the
specialized equipment.
55-323B The entity concludes
that it controls the specialized equipment before that
equipment is transferred to the customer (see paragraph
606-10-55-37A(c)). The entity provides the significant
integration service necessary to produce the specialized
equipment and, therefore, controls the specialized
equipment before it is transferred to the customer. The
entity directs the use of the supplier’s manufacturing
service as an input in creating the combined output that
is the specialized equipment. In reaching the conclusion
that it controls the specialized equipment before that
equipment is transferred to the customer, the entity
also observes that even though the supplier delivers the
specialized equipment to the customer, the supplier has
no ability to direct its use (that is, the terms of the
contract between the entity and the supplier preclude
the supplier from using the specialized equipment for
another purpose or directing that equipment to another
customer). The entity also obtains the remaining
benefits from the specialized equipment by being
entitled to the consideration in the contract from the
customer.
55-324 Thus, the entity
concludes that it is a principal in the transaction. The
entity does not consider the indicators in paragraph
606-10-55-39 because the evaluation above is conclusive
without consideration of the indicators. The entity
recognizes revenue in the gross amount of consideration
to which it is entitled from the customer in exchange
for the specialized equipment.
Example 46A — Promise to Provide Goods
or Services (Entity Is a Principal)
55-324A An entity enters into
a contract with a customer to provide office maintenance
services. The entity and the customer define and agree
on the scope of the services and negotiate the price.
The entity is responsible for ensuring that the services
are performed in accordance with the terms and
conditions in the contract. The entity invoices the
customer for the agreed-upon price on a monthly basis
with 10-day payment terms.
55-324B The entity regularly
engages third-party service providers to provide office
maintenance services to its customers. When the entity
obtains a contract from a customer, the entity enters
into a contract with one of those service providers,
directing the service provider to perform office
maintenance services for the customer. The payment terms
in the contracts with the service providers generally
are aligned with the payment terms in the entity’s
contracts with customers. However, the entity is obliged
to pay the service provider even if the customer fails
to pay.
55-324C To determine whether
the entity is a principal or an agent, the entity
identifies the specified good or service to be provided
to the customer and assesses whether it controls that
good or service before the good or service is
transferred to the customer.
55-324D The entity observes
that the specified services to be provided to the
customer are the office maintenance services for which
the customer contracted and that no other goods or
services are promised to the customer. While the entity
obtains a right to office maintenance services from the
service provider after entering into the contract with
the customer, that right is not transferred to the
customer. That is, the entity retains the ability to
direct the use of, and obtain substantially all the
remaining benefits from, that right. For example, the
entity can decide whether to direct the service provider
to provide the office maintenance services for that
customer, or for another customer, or at its own
facilities. The customer does not have a right to direct
the service provider to perform services that the entity
has not agreed to provide. Therefore, the right to
office maintenance services obtained by the entity from
the service provider is not the specified good or
service in its contract with the customer.
55-324E The entity concludes
that it controls the specified services before they are
provided to the customer. The entity obtains control of
a right to office maintenance services after entering
into the contract with the customer but before those
services are provided to the customer. The terms of the
entity’s contract with the service provider give the
entity the ability to direct the service provider to
provide the specified services on the entity’s behalf
(see paragraph 606-10-55-37A(b)). In addition, the
entity concludes that the following indicators in
paragraph 606-10-55-39 provide further evidence that the
entity controls the office maintenance services before
they are provided to the customer:
-
The entity is primarily responsible for fulfilling the promise to provide office maintenance services. Although the entity has hired a service provider to perform the services promised to the customer, it is the entity itself that is responsible for ensuring that the services are performed and are acceptable to the customer (that is, the entity is responsible for fulfilment of the promise in the contract, regardless of whether the entity performs the services itself or engages a third-party service provider to perform the services).
-
The entity has discretion in setting the price for the services to the customer.
55-324F The entity observes
that it does not commit itself to obtain the services
from the service provider before obtaining the contract
with the customer. Thus, the entity has mitigated its
inventory risk with respect to the office maintenance
services. Nonetheless, the entity concludes that it
controls the office maintenance services before they are
provided to the customer on the basis of the evidence in
paragraph 606-10-55-324E.
55-324G Thus, the entity is a
principal in the transaction and recognizes revenue in
the amount of consideration to which it is entitled from
the customer in exchange for the office maintenance
services.
Example 47 — Promise to Provide Goods or
Services (Entity Is a Principal)
55-325 An entity
negotiates with major airlines to purchase tickets at
reduced rates compared with the price of tickets sold
directly by the airlines to the public. The entity
agrees to buy a specific number of tickets and must pay
for those tickets regardless of whether it is able to
resell them. The reduced rate paid by the entity for
each ticket purchased is negotiated and agreed in
advance.
55-326 The entity determines
the prices at which the airline tickets will be sold to
its customers. The entity sells the tickets and collects
the consideration from customers when the tickets are
purchased.
55-327 The entity also
assists the customers in resolving complaints with the
service provided by the airlines. However, each airline
is responsible for fulfilling obligations associated
with the ticket, including remedies to a customer for
dissatisfaction with the service.
55-328 To determine whether
the entity’s performance obligation is to provide the
specified goods or services itself (that is, the entity
is a principal) or to arrange for those goods or
services to be provided by another party (that is, the
entity is an agent), the entity identifies the specified
good or service to be provided to the customer and
assesses whether it controls that good or service before
the good or service is transferred to the customer.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
55-328A The entity concludes
that with each ticket that it commits itself to purchase
from the airline, it obtains control of a right to fly
on a specified flight (in the form of a ticket) that the
entity then transfers to one of its customers (see
paragraph 606-10-55-37A(a)). Consequently, the entity
determines that the specified good or service to be
provided to its customer is that right (to a seat on a
specific flight) that the entity controls. The entity
observes that no other goods or services are promised to
the customer.
55-328B The entity controls
the right to each flight before it transfers that
specified right to one of its customers because the
entity has the ability to direct the use of that right
by deciding whether to use the ticket to fulfill a
contract with a customer and, if so, which contract it
will fulfill. The entity also has the ability to obtain
the remaining benefits from that right by either
reselling the ticket and obtaining all of the proceeds
from the sale or, alternatively, using the ticket
itself.
55-328C The indicators in
paragraph 606-10-55-39(b) through (c) also provide
relevant evidence that the entity controls each
specified right (ticket) before it is transferred to the
customer. The entity has inventory risk with respect to
the ticket because the entity committed itself to obtain
the ticket from the airline before obtaining a contract
with a customer to purchase the ticket. This is because
the entity is obliged to pay the airline for that right
regardless of whether it is able to obtain a customer to
resell the ticket to or whether it can obtain a
favorable price for the ticket. The entity also
establishes the price that the customer will pay for the
specified ticket.
55-329 Thus, the entity
concludes that it is a principal in the transactions
with customers. The entity recognizes revenue in the
gross amount of consideration to which it is entitled in
exchange for the tickets transferred to the
customers.
Footnotes
1
Similarly, a professional employer organization (PEO) may provide
services under a co-employment model in which it does not control
the employees but serves as the EOR for payroll purposes. In this
circumstance, the nature of the PEO’s promise may be solely to
provide payroll services.
10.3 Determining Whether an Entity Is Acting as an Agent
If an entity concludes that it does not obtain control of a good or service
before that good or service is transferred to a customer, the entity is acting as an
agent. That is, the entity’s performance obligation is to arrange for another party
to transfer the good or service to the customer. As an agent, the entity will
recognize as revenue the commission or fee it earns (i.e., the net amount of
consideration retained) when or as it satisfies its performance obligation of
arranging for the specified goods or services to be provided by another party. This
guidance is articulated in ASC 606-10-55-38 as follows:
ASC 606-10
55-38 An entity is an agent if the entity’s performance obligation is to arrange for the provision of the specified good or service by another party. An entity that is an agent does not control the specified good or service provided by another party before that good or service is transferred to the customer. When (or as) an entity that is an agent satisfies a performance obligation, the entity recognizes revenue in the amount of any fee or commission to which it expects to be entitled in exchange for arranging for the specified goods or services to be provided by the other party. An entity’s fee or commission might be the net amount of consideration that the entity retains after paying the other party the consideration received in exchange for the goods or services to be provided by that party.
10.3.1 Codification Examples of Promised Goods or Services for Which an Entity Is an Agent (ASC 606-10-55-317 Through 55-319 and ASC 606-10-55-330 Through 55-334)
The following implementation guidance from the revenue standard
will help an entity determine whether it is acting as an agent in a
contract:
ASC 606-10
Example 45 — Arranging for the Provision
of Goods or Services (Entity Is an Agent)
55-317 An entity operates a
website that enables customers to purchase goods from a
range of suppliers who deliver the goods directly to the
customers. Under the terms of the entity’s contracts
with suppliers, when a good is purchased via the
website, the entity is entitled to a commission that is
equal to 10 percent of the sales price. The entity’s
website facilitates payment between the supplier and the
customer at prices that are set by the supplier. The
entity requires payment from customers before orders are
processed, and all orders are nonrefundable. The entity
has no further obligations to the customer after
arranging for the products to be provided to the
customer.
55-318 To determine whether
the entity’s performance obligation is to provide the
specified goods itself (that is, the entity is a
principal) or to arrange for those goods to be provided
by the supplier (that is, the entity is an agent), the
entity identifies the specified good or service to be
provided to the customer and assesses whether it
controls that good or service before the good or service
is transferred to the customer.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
55-318A The website operated
by the entity is a marketplace in which suppliers offer
their goods and customers purchase the goods that are
offered by the suppliers. Accordingly, the entity
observes that the specified goods to be provided to
customers that use the website are the goods provided by
the suppliers, and no other goods or services are
promised to customers by the entity.
55-318B The entity concludes
that it does not control the specified goods before they
are transferred to customers that order goods using the
website. The entity does not at any time have the
ability to direct the use of the goods transferred to
customers. For example, it cannot direct the goods to
parties other than the customer or prevent the supplier
from transferring those goods to the customer. The
entity does not control the suppliers’ inventory of
goods used to fulfill the orders placed by customers
using the website.
55-318C As part of reaching
that conclusion, the entity considers the following
indicators in paragraph 606-10- 55-39. The entity
concludes that these indicators provide further evidence
that it does not control the specified goods before they
are transferred to the customers.
-
The supplier is primarily responsible for fulfilling the promise to provide the goods to the customer. The entity is neither obliged to provide the goods if the supplier fails to transfer the goods to the customer nor responsible for the acceptability of the goods.
-
The entity does not take inventory risk at any time before or after the goods are transferred to the customer. The entity does not commit to obtain the goods from the supplier before the goods are purchased by the customer and does not accept responsibility for any damaged or returned goods.
-
The entity does not have discretion in establishing prices for the supplier’s goods. The sales price is set by the supplier.
55-319 Consequently, the
entity concludes that it is an agent and its performance
obligation is to arrange for the provision of goods by
the supplier. When the entity satisfies its promise to
arrange for the goods to be provided by the supplier to
the customer (which, in this example, is when goods are
purchased by the customer), the entity recognizes
revenue in the amount of the commission to which it is
entitled.
Example 48 — Arranging for the Provision
of Goods or Services (Entity Is an Agent)
55-330 An entity sells
vouchers that entitle customers to future meals at
specified restaurants, and the sales price of the
voucher provides the customer with a significant
discount when compared with the normal selling prices of
the meals (for example, a customer pays $100 for a
voucher that entitles the customer to a meal at a
restaurant that would otherwise cost $200). The entity
does not purchase or commit itself to purchase vouchers
in advance of the sale of a voucher to a customer;
instead, it purchases vouchers only as they are
requested by the customers. The entity sells the
vouchers through its website, and the vouchers are
nonrefundable.
55-331 The entity and the
restaurants jointly determine the prices at which the
vouchers will be sold to customers. Under the terms of
its contracts with the restaurants, the entity is
entitled to 30 percent of the voucher price when it
sells the voucher.
55-332 The entity also
assists the customers in resolving complaints about the
meals and has a buyer satisfaction program. However, the
restaurant is responsible for fulfilling obligations
associated with the voucher, including remedies to a
customer for dissatisfaction with the service.
55-333 To determine whether
the entity is a principal or an agent, the entity
identifies the specified good or service to be provided
to the customer and assesses whether it controls the
specified good or service before that good or service is
transferred to the customer.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
-
Subparagraph superseded by Accounting Standards Update No. 2016-08.
55-333A A customer obtains a
voucher for the restaurant that it selects. The entity
does not engage the restaurants to provide meals to
customers on the entity’s behalf as described in the
indicator in paragraph 606-10-55-39(a). Therefore, the
entity observes that the specified good or service to be
provided to the customer is the right to a meal (in the
form of a voucher) at a specified restaurant or
restaurants, which the customer purchases and then can
use itself or transfer to another person. The entity
also observes that no other goods or services (other
than the vouchers) are promised to the customers.
55-333B The entity concludes
that it does not control the voucher (right to a meal)
at any time. In reaching this conclusion, the entity
principally considers the following:
-
The vouchers are created only at the time that they are transferred to the customers and, thus, do not exist before that transfer. Therefore, the entity does not at any time have the ability to direct the use of the vouchers or obtain substantially all of the remaining benefits from the vouchers before they are transferred to customers.
-
The entity neither purchases nor commits itself to purchase vouchers before they are sold to customers. The entity also has no responsibility to accept any returned vouchers. Therefore, the entity does not have inventory risk with respect to the vouchers as described in the indicator in paragraph 606-10- 55-39(b).
55-334 Thus, the entity
concludes that it is an agent in the arrangement with
respect to the vouchers. The entity recognizes revenue
in the net amount of consideration to which the entity
will be entitled in exchange for arranging for the
restaurants to provide vouchers to customers for the
restaurants’ meals, which is the 30 percent commission
it is entitled to upon the sale of each voucher.
10.3.2 Timing of Revenue Recognition When the Entity Is an Agent
The timing of when an agent satisfies its performance obligation
may not be the same as the timing of when the principal in the arrangement
transfers control of the specified good or service to the end customer. As noted
in Section 8.2, ASC
606-10-25-23 states that (1) an entity should “recognize revenue when (or as)
the entity satisfies a performance obligation by transferring a promised good or
service . . . to a customer” and (2) an “asset is transferred when (or as) the
customer obtains control of that asset.” Accordingly, when an entity determines
that it is acting as an agent with respect to the specified good or service, the
entity must use judgment and consider all of the relevant facts and
circumstances to determine when it has satisfied its performance obligation to
arrange for the provision of a specified good or service by another party.
When the nature of an entity’s promise is to arrange for goods
or services to be provided by another party, it is often important to determine
whether the entity is an agent for the buyer, the seller, or both to assess (1)
to whom the entity is obligated to satisfy its performance obligation of
arranging for the provision of goods or services and (2) when the entity
satisfies such performance obligation. Further, if there is a difference in
timing between when the agent arranges for goods or services to be provided by a
seller and when the specified goods or services are transferred from the seller
to the buyer, it is important to determine whether the entity’s promise of
arranging for goods or services to be transferred by the seller is satisfied
when the arrangement is made or when the specified goods or services are
transferred by the seller to the buyer.
Example 10-7
Entity A operates a travel booking Web site that arranges
for airlines to provide transportation services to end
customers. Entity A partners with various airlines and
offers their flights on its platform. End customers will
purchase specific flights on A’s platform and pay A the
nonrefundable airfare price at the time of purchase.
Flights can be sold up to 12 months before the scheduled
departure date. Within seven days of an end customer’s
purchase, A remits to the airline the airfare price less
A’s commission. After the initial booking on A’s
platform, any changes requested by the end customer are
handled directly by the airline. Therefore, A has no
further involvement with the end customer or the airline
related to the flight purchased after the initial
booking.
Entity A concludes that the nature of its promise is to
arrange for airlines to provide transportation services
to end customers. Entity A’s customer is the end
customer, and A’s performance obligation is satisfied at
the time of the initial booking. This is because A has
no further obligations after the initial booking.
Specifically, A has no further involvement with the end
customer or the airline after the initial booking, any
changes requested by the end customer must be handled
directly by the airline, and the amount A collects is
nonrefundable. Accordingly, A may conclude that it
should recognize revenue at the point in time when the
initial booking is successfully made.
Example 10-8
Entity B operates a travel booking Web site that arranges
for various travel services (e.g., hotels, rental cars,
experiences) to be provided by third parties. Entity B
partners with these third parties and offers their
services on its platform. End customers will reserve the
travel services on B’s platform, but B does not collect
payment from end customers until the travel services are
provided. This is because B allows end customers to
change or cancel their travel arrangements at any time
before when the underlying travel services are scheduled
to be transferred to the end customers. Entity B also
promises to provide assistance to end customers in
modifying or canceling the arranged travel services and
to coordinate with the travel service providers until
the underlying services are provided. Within seven days
of payment by the end customer, B remits to the travel
service provider the price of the travel service less
B’s commission.
Entity B concludes that the nature of its promise is to
identify paying end customers for its travel service
provider partners. Entity B’s customer is the travel
service provider, and B’s performance obligation is not
satisfied until the travel service provider begins to
provide travel services to the end customer. This is
because B remains obligated to identify paying end
customers after booking and before the travel service
provider begins providing travel services. Specifically,
end customers can cancel or modify their travel
arrangements at any time before when the underlying
travel services are scheduled to be provided, B
continues to be involved with the end customers and the
travel service providers by helping end customers modify
or cancel their arrangements until such services are
provided, and end customers are not required to pay
until the travel services are provided. That is, a
paying end customer is not identified for the travel
service provider until the travel services are provided.
Accordingly, B may conclude that it should recognize
revenue at the point in time when the travel services
provided to the end customer commence.
10.4 Contracts in Which the Entity Is a Principal and an Agent
As discussed in Section
10.1.1, an entity must determine whether it is a principal or an
agent at what can effectively be described as the performance obligation level
(i.e., the specified good or service that is distinct), not the contract level.
Therefore, in some contracts, an entity could have both performance obligations to
arrange for goods or services to be provided by another entity (i.e., the entity is
acting as an agent) and performance obligations to transfer goods or services to the
customer itself (i.e., the entity is acting as a principal).
10.4.1 Illustrative Examples of Contracts in Which an Entity Is Both a Principal and an Agent
The following implementation guidance from the revenue standard
illustrates a situation in which an entity is a principal and an agent in the
same contract:
ASC 606-10
Example 48A — Entity Is a Principal and
an Agent in the Same Contract
55-334A An entity sells
services to assist its customers in more effectively
targeting potential recruits for open job positions. The
entity performs several services itself, such as
interviewing candidates and performing background
checks. As part of the contract with a customer, the
customer agrees to obtain a license to access a third
party’s database of information on potential recruits.
The entity arranges for this license with the third
party, but the customer contracts directly with the
database provider for the license. The entity collects
payment on behalf of the third-party database provider
as part of its overall invoicing to the customer. The
database provider sets the price charged to the customer
for the license and is responsible for providing
technical support and credits to which the customer may
be entitled for service down-time or other technical
issues.
55-334B To determine whether
the entity is a principal or an agent, the entity
identifies the specified goods or services to be
provided to the customer and assesses whether it
controls those goods or services before they are
transferred to the customer.
55-334C For the purpose of
this Example, it is assumed that the entity concludes
that its recruitment services and the database access
license are each distinct on the basis of its assessment
of the guidance in paragraphs 606-10-25-19 through
25-22. Accordingly, there are two specified goods or
services to be provided to the customer — access to the
third-party’s database and recruitment services.
55-334D The entity concludes
that it does not control the access to the database
before it is provided to the customer. The entity does
not at any time have the ability to direct the use of
the license because the customer contracts for the
license directly with the database provider. The entity
does not control access to the provider’s database — it
cannot, for example, grant access to the database to a
party other than the customer or prevent the database
provider from providing access to the customer.
55-334E As part of reaching
that conclusion, the entity also considers the
indicators in paragraph 606-10- 55-39. The entity
concludes that these indicators provide further evidence
that it does not control access to the database before
that access is provided to the customer.
-
The entity is not responsible for fulfilling the promise to provide the database access service. The customer contracts for the license directly with the third-party database provider, and the database provider is responsible for the acceptability of the database access (for example, by providing technical support or service credits).
-
The entity does not have inventory risk because it does not purchase or commit to purchase the database access before the customer contracts for database access directly with the database provider.
-
The entity does not have discretion in setting the price for the database access with the customer because the database provider sets that price.
55-334F Thus, the entity
concludes that it is an agent in relation to the
third-party’s database service. In contrast, the entity
concludes that it is the principal in relation to the
recruitment services because the entity performs those
services itself and no other party is involved in
providing those services to the customer.
In the example above, an important part of the fact pattern is
that the entity has no further obligations to the customer after arranging for
the database access to be provided to the customer. If this is not the case
(e.g., because the entity would be responsible for the acceptability of the
database access), the analysis could be different.
Example 10-9
Company X, a food delivery service,
offers delivery of meals from restaurants to consumers
within a certain radius from a specific location in a
city. Via its Web site and app, the food delivery
service connects a consumer with a restaurant, processes
food orders, and provides a service of delivering food
to the consumer. Each restaurant has full discretion to
establish the price for its food ordered through X. The
food delivery service earns a 5 percent commission on
sales from each restaurant order and charges a flat
delivery fee of $10 per order. The restaurant is
responsible for fulfilling the ordered food and
addressing all consumer complaints regarding the quality
of the food or an incorrect order. If the food is
compromised while in transit, X is liable.
Company X is responsible for delivering the food and can
change the delivery fee at its discretion. Company X
takes custody of the food ordered from a restaurant, but
it can deliver the food only to the consumer’s location.
Company X uses independent contractors (ICs) to perform
the delivery service, and such ICs commit to being
available to provide the delivery service at set
schedules. When an IC is presented with a delivery
request, that IC can decide whether to accept or reject
the request. If an IC accepts a request, X will direct
the IC to pick up the food at a specific restaurant and
deliver the good to a specific consumer. If, instead, an
IC rejects a request, X is still obligated to provide
the delivery service and will attempt to find another IC
to perform the delivery. In some cases, X will take a
loss on the delivery service by paying an IC a rate
higher than the delivery fee to fulfill the
delivery.
Assume that the food and the delivery service are each
capable of being distinct and distinct within the
context of the contract (see Chapter 5).
In this example, X does not obtain
control of the food (one of the specified goods or
services) before it is transferred to the consumer.
Although X takes custody of the food, it cannot redirect
the food to another consumer or consume the good (the
food) as a resource. Further, X is not responsible for
fulfilling the food order or addressing consumer
complaints, does not purchase the food before the food
is transferred to the consumer, and does not have
discretion to establish the price of the food. Company X
is acting as an agent and arranging for the restaurant
to fulfill the promise to transfer food to the
consumer.
However, X is primarily responsible for
providing the service of delivering the food to the
consumer. If the food is compromised while in transit, X
is liable to the customer. Although ICs are used to
perform the delivery service and an individual IC can
reject a particular delivery, X is still obligated to
provide the delivery service and is required to identify
another IC to complete the delivery service even if
doing so results in a loss to X. Further, X has full
discretion to establish the price of the delivery
service. Consequently, X is the principal for the
delivery service.
10.4.2 Allocating the Transaction Price When an Entity Is a Principal for Some Performance Obligations and an Agent for Other Performance Obligations
In a single contract, an entity may promise to (1) arrange for
goods or services to be provided by another entity (i.e., the entity is acting
as an agent) and (2) transfer goods or services to the customer itself (i.e.,
the entity is acting as a principal). As a result, the entity may identify one
or more performance obligations for which it is acting as an agent and one or
more performance obligations for which it is acting as a principal in the same
contract. In such a situation, an entity must consider how to allocate the
contract transaction price to those separate performance obligations.
ASC 606-10-32-28 states the objective of allocating the
transaction price:
The objective when allocating the
transaction price is for an entity to allocate the transaction price to each
performance obligation (or distinct good or service) in an amount that
depicts the amount of consideration to which the entity expects to be
entitled in exchange for transferring the promised goods or services to the
customer.
ASC 606-10-32-29 explains how to meet this objective:
To meet the allocation objective, an entity shall allocate
the transaction price to each performance obligation identified in the
contract on a relative standalone selling price basis in accordance with
paragraphs 606-10-32-31 through 32-35, except as specified in paragraphs
606-10-32-36 through 32-38 (for allocating discounts) and paragraphs
606-10-32-39 through 32-41 (for allocating consideration that includes
variable amounts).
Further, ASC 606-10-32-36 states:
A
customer receives a discount for purchasing a bundle of goods or services if
the sum of the standalone selling prices of those promised goods or services
in the contract exceeds the promised consideration in a contract. Except
when an entity has observable evidence in accordance with paragraph
606-10-32-37 that the entire discount relates to only one or more, but not
all, performance obligations in a contract, the entity shall allocate a
discount proportionately to all performance obligations in the contract. The
proportionate allocation of the discount in those circumstances is a
consequence of the entity allocating the transaction price to each
performance obligation on the basis of the relative standalone selling
prices of the underlying distinct goods or services.
In light of the guidance above, we believe that an entity should
generally allocate the transaction price to all of the performance obligations
(i.e., those for which the entity is acting as a principal as well as those for
which the entity is acting as an agent) on a relative stand-alone selling price
basis. When allocating the transaction price, the entity should also consider
the guidance on allocating discounts and variable consideration to individual
performance obligations. In addition, given the guidance above, we believe that
there are two acceptable models (“Alternative A” and “Alternative B”) for
allocating a contract transaction price when the entity is a principal for some
performance obligations and an agent for other performance obligations. Those
models are illustrated in the example below.
Example 10-10
Entity X sells two distinct products,
Item 1 and Item 2, and provides a distinct service to
Customer Z for a total contract price of $180,000. The
products and the service are all transferred to the
customer at different times. The stand-alone selling
prices are as follows:
Entity X determines that it is the
principal for the sale of Item 1 and Item 2 but that it
is an agent for the service. Entity X agrees to sell the
service for $60,000 on behalf of a third-party service
provider for a 25 percent commission and bundles the
service with its products. Thus, $45,000 is remitted to
the third-party service provider, and X retains a
$15,000 commission. Assume that the criteria for
allocating a discount to one or more, but not all,
performance obligations in accordance with ASC
606-10-32-37 are not met.
Alternative
A
Entity X determines that the stand-alone
selling price of the service provided as an agent is
$15,000 (and that therefore, the total stand-alone price
of the performance obligations is $165,000). Because X
must remit $45,000 back to the third-party service
provider and retains only a $15,000 commission, X
determines that the total consideration it is entitled
to receive is $135,000 rather than the contract price of
$180,000. Therefore, X allocates the $135,000
transaction price to Item 1, Item 2, and the service on
a relative stand-alone selling price basis, as shown in
the table below.
Alternative B
The facts and circumstances in this
example may suggest that X’s performance obligations are
provided to two separate customers (i.e., the facts and
circumstances may support a determination that those
performance obligations for which X acts as a principal
(Item 1 and Item 2) are transferred to the end customer,
and the performance obligation for which X acts as an
agent (arranging for the service to be provided by the
third party) is performed on behalf of the third party).
If so, we believe that it is acceptable for X to (1)
allocate $120,000 ($180,000 contract price – $60,000
stand-alone selling price of the service) to Item 1 and
Item 2 on a relative stand-alone selling price basis and
(2) allocate the $15,000 commission received from the
third-party service provider directly to the service.
The allocations are shown in the table below.
While both alternatives described in the example above are
acceptable, we believe that for an entity to fairly depict the substance of the
transaction, one alternative may be preferable to the other depending on the
facts and circumstances of the particular arrangement. To determine which
alternative is preferable, an entity should understand and evaluate the
relationship of all of the parties involved in the particular arrangement.
Specifically, Alternative A would most likely be preferable if (1) the facts and
circumstances indicate that the entity has only one customer in the arrangement
or (2) the economic substance of the arrangement is such that there is a single
bundled discount provided to the end customer. In contrast, Alternative B would
most likely be preferable if the facts and circumstances indicate that (1) the
entity’s performance obligations in the contract (or contracts) are provided to
two separate customers (i.e., those performance obligations for which the entity
acts as a principal are transferred to the end customer, and those performance
obligations for which the entity acts as an agent are performed on behalf of a
third party) and (2) the pricing of the performance obligations provided to the
separate customers is not interdependent. Judgment is often needed in these
types of arrangements to assess whether an entity has one customer or two
customers.
10.5 Other Considerations
10.5.1 Change in the Nature of the Customer and Vendor Relationship
Sometimes, an entity may contractually and legally transfer its
obligations to satisfy some or all of its promises under a contract with a
customer. This situation is discussed in ASC 606-10-55-40.
ASC
606-10
55-40 If another entity assumes
the entity’s performance obligations and contractual
rights in the contract so that the entity is no longer
obliged to satisfy the performance obligation to
transfer the specified good or service to the customer
(that is, the entity is no longer acting as the
principal), the entity should not recognize revenue for
that performance obligation. Instead, the entity should
evaluate whether to recognize revenue for satisfying a
performance obligation to obtain a contract for the
other party (that is, whether the entity is acting as an
agent).
An entity that was initially the principal in a transaction
should perform a careful analysis of its performance obligation before
concluding that it is no longer primarily responsible for fulfilling its promise
under the contract. A customer would most likely need to agree to ceding the
contract to another party and would look to that third party as the entity that
is primarily responsible for the fulfillment of the contract.
10.5.2 Presentation of Sales Taxes and Similar Taxes Collected From Customers
Under step 3 of the revenue standard (see Chapter 6), the
transaction price is the “amount of consideration to which an entity expects to
be entitled in exchange for transferring promised goods or services to a
customer, excluding amounts collected on behalf of third parties.” Stakeholders
have questioned whether sales taxes and similar taxes (“sales taxes”) should be
excluded from the transaction price when such taxes are collected on behalf of
tax authorities.
Further, the revenue standard’s guidance on assessing whether an
entity is a principal or an agent in a transaction is relevant to the assessment
of whether sales taxes should be presented gross or net within revenue. The
analysis is further complicated by the sales tax regulations in each tax
jurisdiction (which would include all taxation levels in both domestic and
foreign governmental jurisdictions), especially for entities that operate in a
significant number of jurisdictions.
ASC
606-10
32-2A An entity may make an
accounting policy election to exclude from the
measurement of the transaction price all taxes assessed
by a governmental authority that are both imposed on and
concurrent with a specific revenue-producing transaction
and collected by the entity from a customer (for
example, sales, use, value added, and some excise
taxes). Taxes assessed on an entity’s total gross
receipts or imposed during the inventory procurement
process shall be excluded from the scope of the
election. An entity that makes this election shall
exclude from the transaction price all taxes in the
scope of the election and shall comply with the
applicable accounting policy guidance, including the
disclosure requirements in paragraphs 235-10-50-1
through 50-6.
The FASB decided to provide in ASU 2016-122 a practical expedient (codified in ASC 606-10-32-2A) that permits entities
to exclude from the transaction price all sales taxes that are assessed by a
governmental authority and that are “imposed on and concurrent with a specific
revenue-producing transaction and collected by the entity from a customer (for
example, sales, use, value added, and some excise taxes).” However, such an
accounting policy election does not apply to taxes assessed on “an entity’s
total gross receipts or imposed during the inventory procurement process.” An
entity that elects to exclude sales taxes is required to provide the accounting
policy disclosures in ASC 235-10-50-1 through 50-6. See Chapter 15 on
disclosure.
Further, an entity that does not elect to present all sales
taxes on a net basis would be required to assess, for every tax jurisdiction,
whether it is a principal or an agent in the sales tax transaction and would
present sales taxes on a gross basis if it is a principal in the jurisdiction
and on a net basis if it is an agent. For more information on making this
assessment, see Section
6.7.
10.5.3 Income Tax Withholdings
The example below illustrates how an entity that acts as a
principal to provide services to a customer would account for income tax that
the customer withholds and remits to the customer’s local government on behalf
of the entity providing the services.
Example 10-11
Company X performs consulting services
for Company C, which is located in a country other than
that of X. Company C owes a $100 fee to X for performing
the consulting services and withholds 20 percent of the
fee as a local income tax withholding. Company C
transmits this amount to its local government on behalf
of X (X retains the primary responsibility to pay the
tax in C’s tax jurisdiction). Company C pays the
remaining 80 percent balance to X. The countries do not
have a tax treaty, and X is not required to file a tax
return in C’s country. Company X was fully aware that
the 20 percent income tax would be withheld in C’s
country when it agreed to perform the consulting
services for C.
Company X is the principal in providing
the consulting services to C (i.e., there are no third
parties involved in providing the services). Company X
also has the primary responsibility to pay the tax in
C’s tax jurisdiction, and C is simply paying the tax on
X’s behalf (acting as a collection agent). Consequently,
X should recognize revenue in the gross amount of
consideration to which it expects to be entitled in
exchange for those services and should therefore report
revenue of $100 and income tax expense of $20 (i.e., X
should not report net revenue of $80).
Company X is not eligible for the
practical expedient in ASC 606-10-32-2A in this instance
because the amount being withheld is income tax, not
sales tax. See Section 10.5.2 for
further discussion of the sales tax practical expedient
in ASC 606-10-32-2A.
10.5.4 Presentation of Shipping and Handling Costs Billed to Customers
Many vendors charge customers for shipping and handling of
goods. Shipping costs include costs incurred to move the product from the
seller’s place of business to the buyer’s designated location and include
payments to third-party shippers. Shipping costs may also be costs incurred
directly by the seller (e.g., salaries and overhead related to the activities
needed to prepare the goods for shipment). Handling costs include costs incurred
to store, move, and prepare the products for shipment. Generally, handling costs
are incurred from when the product is removed from finished-goods inventory to
when the product is provided to the shipper and may include an allocation of
internal overhead.
Some vendors charge customers a separate fee for shipping and
handling costs. Alternatively, shipping and handling might be included in the
price of the product. In some cases, the separate fee may be a standard amount
that does not necessarily correlate directly with the costs incurred for the
specific shipment. In other cases, the separate fee may be a direct
reimbursement for shipping and any direct incremental handling costs incurred or
may include a margin on top of those costs.
ASU
2016-10 provides a practical expedient that permits shipping
and handling costs that occur after control of the promised goods or services is
transferred to the customer to be presented as fulfillment costs. That is,
shipping and handling does not need to be identified as a promised good or
service and a potential performance obligation. ASC 606-10-25-18B (added by ASU
2016-10) states:
If shipping and handling activities are performed after a customer
obtains control of the good, then the entity may elect to account for
shipping and handling as activities to fulfill the promise to transfer
the good. The entity shall apply this accounting policy election
consistently to similar types of transactions. An entity that makes this
election would not evaluate whether shipping and handling activities are
promised services to its customers. If revenue is recognized for the
related good before the shipping and handling activities occur, the
related costs of those shipping and handling activities shall be
accrued. An entity that applies this accounting policy election shall
comply with the accounting policy disclosure requirements in paragraphs
235-10-50-1 through 50-6.
If an entity does not avail itself of the aforementioned
practical expedient, the appropriate presentation of amounts billed to a
customer for shipping and handling will depend on an analysis of the
principal-versus-agent considerations in ASC 606 related to shipping and
handling services. If control of the goods is transferred on receipt by the
customer (e.g., on “free on board” destination), the vendor will generally be
considered to be the principal with respect to the shipping and handling
services. If, however, control of the goods is transferred when the goods are
shipped, the vendor will need to determine whether it is the principal or the
agent with respect to the shipping service.
If, after consideration of the requirements in ASC 606-10-55-36
through 55-40, the vendor determines that it is responsible for shipping and
handling as a principal, all amounts billed to a customer in a sale transaction
related to shipping and handling represent revenues earned for the goods
provided (and the shipping services rendered, if the shipping service represents
a distinct performance obligation) and will be presented as revenue.
However, if the vendor considers the requirements of ASC
606-10-55-36 through 55-40 and determines that it is not responsible to the
customer for shipping but is instead acting merely as the buyer’s agent in
arranging for a third party to provide shipping services to the buyer, the
vendor should not report the amount charged by that third party for shipping as
its own revenue. Instead, the vendor should report as revenue only the
commission it has received (if any) for arranging shipping, which is the excess
of (1) any amounts the vendor charged the customer for shipping services over
(2) any amounts paid to the third party for those services.
10.5.5 Revenue Equal to Costs
An entity may determine, in accordance with ASC 606-10-55-36
through 55-40, that it provides goods, services, or both as a principal. In
addition, the entity may sell some goods and services to third parties at an
amount equal to the cost of the goods and services.
In these circumstances, the entity is not permitted to
present the associated revenues and expenses on a net basis. When an entity has
determined that it acts as a principal in the sale of goods, services, or both,
it should recognize revenue in the gross amount to which it is entitled. The
practice of selling goods or providing services at an amount equal to cost does
not mean that the revenue should be presented as a cost reimbursement. Revenue
and expenses should, therefore, be presented gross.
For additional information, see Section 10.5.7.
10.5.6 Royalty Considerations
The example below considers whether an entity that acts as a
principal should (1) offset the royalties it pays a third party to fulfill a
contract with a customer against revenue received from the customer or (2)
recognize the royalty payments as a cost of fulfilling the contract with the
customer.
Example 10-12
Entity A has agreed to pay a royalty to
Entity B for the use of the intellectual property rights
that A requires to make sales to its customers. The
royalty is specified as a percentage of gross proceeds
from A’s sales to its customers less certain
contractually defined costs. Entity A is the principal
in sales transactions with its customers (i.e., it must
provide the goods and services itself and does not act
as an agent for B).
Because A is the principal in sales
transactions with its customers, it should recognize its
revenue on a gross basis and the royalty as a cost of
fulfilling the contract.
For guidance on accounting for the costs of fulfilling a
contract, including whether such costs should be capitalized or expensed, see
ASC 340-40, as discussed in Chapter 13.
10.5.7 Shared Commissions
The example below considers whether an entity may offset
expenses against revenue from shared commissions.
Example 10-13
Company A has signed a contract with an insurance company
under which it receives a commission for every policy it
sells on behalf of the insurance company. Company A
contracts with individual financial advisers to sell
these insurance policies and agrees to split the
commission evenly with the financial advisers. Company A
provides administrative facilities and office space to
the financial advisers. The insurance company is aware
of the arrangements between A and the financial
advisers, but its contractual relationship is with A,
and A is responsible for providing the service to the
insurance company. The insurance company pays the full
commission to A, which then pays half of the commission
to the financial adviser that sold the policy.
Company A has determined that it is
acting as a principal in this arrangement in accordance
with ASC 606-10-55-36 through 55-40.
Company A is not permitted to offset the amount it
pays to the financial advisers against the commission
revenue it receives from the insurance company. Because
A is acting as a principal in providing services to the
insurance company and not as an agent for the financial
advisers, it is required to present the revenue it
receives for those services as a gross amount.
10.5.8 Estimating Gross Revenue as a Principal
In deliberating ASU 2016-08 and Clarifications to IFRS
15, the FASB and IASB were informed of facts and circumstances under which
an entity is determined to be a principal in a contract with a customer when
there is uncertainty in the transaction price that is unlikely to be resolved.
Such uncertainty may arise because the entity does not have, and will not
obtain, sufficient transparency into the intermediary’s pricing.
As noted in paragraph BC38 of ASU 2016-08, the FASB
contemplated, but ultimately rejected, amendments to ASC 606 to address these
types of transactions. Rather, the Board found the guidance in step 3 of the
revenue model to be helpful in the determination of what amounts are variable
consideration and thus should be included in the transaction price.
Specifically, paragraph BC38(c) states, in part:
A key tenet
of variable consideration is that at some point the uncertainty in the
transaction price ultimately will be resolved. When the uncertainty is not
expected to ultimately be resolved, the guidance indicates that the
difference between the amount to which the entity is entitled from the
intermediary and the amount charged by the intermediary to the end customer
is not variable consideration and, therefore, is not part of the entity’s
transaction price.
Accordingly, for the transactions contemplated above, the Board found it
reasonable for the principal to include in its transaction price the amounts
known (i.e., the amounts to which the entity expects to be entitled from the
intermediary).
Footnotes
2
The IASB did not amend IFRS 15 for this practical
expedient. For a summary of differences between U.S. GAAP and IFRS
Accounting Standards, see Appendix A.