11.12 Expiration of a Material Right

Implementation Q&A 15 (compiled from previously issued TRG Agenda Paper 34) provides guidance on the timing of recognition of the expiration of a material right by stating that the consideration allocated to the option should be deferred until the underlying performance obligation is transferred to the customer or when “the option expires.” Accordingly, an entity should account for the expiration of a material right by recognizing the consideration allocated to the material right upon expiration (i.e., at the point in time at which the option expires) immediately as revenue (i.e., as breakage).

We believe that in situations involving the expiration of a material right, amounts previously allocated to other goods or services in the original contract should not be revised unless the contract is also concurrently modified. In addition, the consideration originally allocated at contract inception to the material right should not be reallocated to other performance obligations in the contract. If the option expires unexercised, the consideration allocated to the option should be recognized as revenue attributed to the underlying goods or services that would have been promised and transferred had the option been exercised. That is, if a customer had an option to purchase services from an entity as a result of entering into a contract to purchase goods, any consideration allocated to the material right should be considered service revenue irrespective of whether the option to purchase such services expired unexercised and the corresponding allocated consideration was recognized as breakage revenue.

If a material right is removed as the result of a modification to the original contract, the removal of the material right should be viewed as a contract modification that reduces the scope of the contract (see Section 9.2.2.7).

 

Connecting the Dots

ASC 606-10-55-44 states that the consideration allocated to a material right should be adjusted for the likelihood that the option will be exercised. Entities should carefully measure the consideration allocated to a material right and should monitor the frequency with which material rights are exercised. Changes in the frequency of unexercised material rights most likely indicate a need to reevaluate the measure of likelihood used when an entity determines the material rights’ stand-alone selling prices for new or modified contracts. If an entity grants a customer the option to purchase goods or services at a discount without a reasonable expectation that the customer will exercise the option, the consideration allocated to the material right would be expected to be minimal.