6.6 Consideration Payable to a Customer
If an entity makes (or promises to make) a cash payment to a
customer in (or related to) a contract with that customer to subsequently receive
the return of that cash through purchases of its goods or services by the customer,
the economics of the transaction do not justify the entity’s recognition of revenue
without consideration of the amounts it paid to the customer. As a result, ASC 606
generally precludes the “grossing up” of revenue for the amounts paid to the
customer. This ensures that payments made to a customer are appropriately reflected
as a reduction of revenue such that revenue is presented on a “net basis” to more
appropriately reflect the economics of the arrangements.
ASC 606-10
32-25 Consideration payable to a
customer includes:
- Cash amounts that an entity pays, or expects to pay, to the customer (or to other parties that purchase the entity’s goods or services from the customer)
- Credit or other items (for example, a coupon or voucher) that can be applied against amounts owed to the entity (or to other parties that purchase the entity’s goods or services from the customer)
- Equity instruments (liability or equity classified) granted in conjunction with selling goods or services (for example, shares, share options, or other equity instruments).
An entity shall account for consideration
payable to a customer as a reduction of the transaction
price and, therefore, of revenue unless the payment to the
customer is in exchange for a distinct good or service (as
described in paragraphs 606-10-25-18 through 25-22) that the
customer transfers to the entity. If the consideration
payable to a customer includes a variable amount, an entity
shall estimate the transaction price (including assessing
whether the estimate of variable consideration is
constrained) in accordance with paragraphs 606-10-32-5
through 32-13.
32-25A
Equity instruments granted by an entity in conjunction with
selling goods or services shall be measured and classified
under Topic 718 on stock compensation. The equity instrument
shall be measured at the grant date in accordance with Topic
718 (for both equity-classified and liability-classified
share-based payment awards). Changes in the measurement of
the equity instrument (through the application of Topic 718)
after the grant date that are due to the form of the
consideration shall not be included in the transaction
price. Any changes due to the form of the consideration
shall be reflected elsewhere in the grantor’s income
statement. See paragraphs 606-10-55-88A through 55-88B for
implementation guidance on equity instruments granted as
consideration payable to a customer.
32-26 If consideration payable to a
customer is a payment for a distinct good or service from
the customer, then an entity shall account for the purchase
of the good or service in the same way that it accounts for
other purchases from suppliers. If the amount of
consideration payable to the customer exceeds the fair value
of the distinct good or service that the entity receives
from the customer, then the entity shall account for such an
excess as a reduction of the transaction price. If the
entity cannot reasonably estimate the fair value of the good
or service received from the customer, it shall account for
all of the consideration payable to the customer as a
reduction of the transaction price.
32-27 Accordingly, if consideration
payable to a customer is accounted for as a reduction of the
transaction price, an entity shall recognize the reduction
of revenue when (or as) the later of either of the following
events occurs:
-
The entity recognizes revenue for the transfer of the related goods or services to the customer.
-
The entity pays or promises to pay the consideration (even if the payment is conditional on a future event). That promise might be implied by the entity’s customary business practices.
Connecting the Dots
In June 2018, the FASB issued ASU 2018-07 to
improve the accounting for nonemployee share-based payments. The ASU amends
ASC 606-10-32-25 by expanding the scope of the guidance in that paragraph on
consideration payable to a customer to include equity instruments granted in
conjunction with the sale of goods or services. In addition, if share-based
payments are granted to a customer as payment for a distinct good or service
from the customer, an entity should apply the guidance in ASC 718.
In November 2019, the FASB issued ASU 2019-08 on
share-based consideration payable to a customer, which clarifies the
accounting for share-based payments issued as consideration payable to a
customer in accordance with ASC 606 (i.e., share-based consideration payable
to a customer that is not in exchange for distinct goods or services). ASU
2019-08 requires that entities measure and classify share-based sales
incentives by applying the guidance in ASC 718. Accordingly, under the ASU,
entities should measure share-based sales incentives by using a
fair-value-based measure on the grant date, which would be the date on which
the grantor (the entity) and the grantee (the customer) reach a mutual
understanding of the key terms and conditions of the share-based sales
incentive. The resulting measurement of the share-based sales incentive
should be reflected as a reduction of revenue in accordance with the
guidance in ASC 606 on consideration payable to a customer. After initial
recognition, the measurement and classification of the share-based sales
incentive continues to be subject to ASC 718 unless (1) the award is
subsequently modified when vested and (2) the grantee is no longer a
customer. The amendments in the ASU apply to share-based sales incentives
issued to customers under ASC 606 that are not in exchange for distinct
goods or services.
For more information about the accounting for share-based payments granted to
a customer as payment for a distinct good or service from the customer, see
Chapter 9 of Deloitte’s Roadmap
Share-Based Payment Awards.
For more information about share-based sales incentives, see Chapter 14 of that Roadmap.
The FASB and IASB acknowledge in paragraph BC255 of ASU 2014-09 that
consideration in a contract with a customer may be payable by an entity to its
customer in various forms (e.g., a cash discount, or a payment in exchange for good
or services). Accordingly, an entity should consider the following thought process
in determining how to account for consideration payable to its customer:
6.6.1 Scope of the Guidance on Consideration Payable to a Customer
6.6.1.1 Identifying Customers Within the Scope of the Requirements Related to Consideration Payable to a Customer
As noted above, ASC 606-10-32-25 through 32-27 establish
requirements related to consideration payable to a customer. ASC
606-10-32-25 states that those requirements apply to (1) an entity’s
customer (defined in the ASC 606 glossary as a “party that has contracted
with an entity to obtain goods or services that are an output of the
entity’s ordinary activities in exchange for consideration”) and (2) other
parties that purchase the entity’s goods or services from the customer
(commonly referred to as other parties “in the distribution chain,” such as
a reseller).
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The requirements should be applied
more broadly to include parties outside the
distribution chain depending on the facts and
circumstances. ASC 606-10-32-25 is clear that the
requirements of ASC 606-10-32-25 through 32-27 apply
to parties in the distribution chain. In addition,
depending on the circumstances, an entity might
identify a customer beyond the distribution chain.
In some instances, an agent that arranges for a
supplier (the principal) to supply goods to a third
party (the end customer) might regard both the
principal and the end customer as its customers. In
this circumstance, any incentive payment to the end
customer should be treated as consideration payable
to a customer.
In addition, regardless of whether the end customer
is the agent’s customer, if the agent has an
agreement with the principal to provide
consideration to the end customer (e.g., to
incentivize the end customer to purchase the
principal’s goods or services), the entity acting as
an agent should treat the consideration payable to
the end customer as consideration payable to a
customer (i.e., a reduction of revenue rather than
an amount recognized as an expense) in accordance
with ASC 606-10-32-25 through 32-27.
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The above issue is addressed in Implementation Q&A 26 (compiled from previously
issued TRG Agenda Papers 19, 25, 28, 34, 37, and 44). For additional information and Deloitte’s summary
of issues discussed in the Implementation Q&As, see Appendix C.
An agent’s agreement with the principal to provide
consideration to the end customer may not have to be explicit. That is,
contractual linkage is not necessarily required for the incentive payment to
be treated as consideration payable to a customer. Depending on the facts
and circumstances, an incentive payment could be implicitly agreed to (i.e.,
the principal may have a reasonable expectation that the incentive payment
will be provided to its customers) and could represent consideration payable
to a customer. Significant judgment may be required to determine whether an
implicit agreement to provide an incentive to the principal’s customer
results in consideration payable to a customer, and any information that is
reasonably available to the principal’s customer should be considered.
Example 6-18
Entity AR is a platform company that provides a
marketplace for merchants to sell certain used
products to consumers. Entity AR derives revenue
from the merchants’ use of the platform by
collecting a fee (fixed percentage) for each
transaction a merchant has with a consumer. Entity
AR concludes that the merchants are its customers
but consumers are not its customers. Entity AR’s
sole performance obligation is to provide a platform
to connect merchants with consumers. That is, AR
considers itself to be acting as an agent when the
merchants sell products directly to consumers.
Entity AR regularly offers credits (i.e., discounts)
on all products purchased by consumers through the
platform to encourage consumer use of the platform
and to attract new consumers. However, AR is not
obligated to provide discounts under its agreements
with the merchants, and the discounts do not affect
the consideration the merchants receive from sales
of their products. Nevertheless, the merchants are
aware of the details of AR’s offerings because AR
routinely mentions the incentives in advertising
campaigns and on its own Web site.
Although AR is not contractually required to provide
credits to consumers, the merchants (i.e., AR’s
customers) are aware of the offerings and have a
reasonable expectation of benefiting from them.
Further, although AR also benefits from the
offerings through increased use of the platform,
that benefit is not a good or service that is
distinct from the platform services provided to the
merchants that benefit from the offerings through
increased sales on the platform.
Entity AR therefore concludes that the credits should
be accounted for as consideration payable to a
customer and records such amounts as a reduction of
revenue.
Example 6-19
Assume the same facts as in the example above, except
for the following:
-
Entity AR does not regularly offer credits to consumers. Rather, AR occasionally offers ad hoc credits as a short-term marketing strategy to penetrate certain markets via e-mail campaigns.
-
The details of the offerings are not available to the merchants even after they are provided to consumers.
Because the merchants are unaware of the ad hoc
credits, new or existing merchants do not have a
reasonable expectation of benefiting from the
credits provided to consumers. Therefore, AR may
conclude that the credits are not paid on behalf of
its customers. That is, AR may conclude that the
credits are not consideration payable to a customer
and instead can be separately accounted for as sales
and marketing expenses when incurred. However,
before making this determination, AR should
carefully consider any information about the
offerings that is reasonably available to the
merchants. If information about the offerings is
reasonably available to the merchants, the credits
may need to be accounted for as consideration
payable to a customer.
Connecting the Dots
At the 2021 AICPA & CIMA Conference on Current SEC and PCAOB
Developments, OCA Senior Associate Chief Accountant Jonathan Wiggins
discussed a scenario in which an entity that operates a marketplace
platform and is acting as an agent must determine which party or
parties are the entity’s customers. This assessment is particularly
important when the entity offers incentives to one or more parties
involved in the arrangement. Mr. Wiggins referred to isolated fact
patterns in which platform entities have concluded that they are
seller agents and were able to support the presentation of certain
incentives paid to the end user as a marketing expense rather than
as a reduction of revenue. He cautioned that an entity’s specific
facts and circumstances may not support this accounting and
financial reporting conclusion and that the SEC staff has objected
to recognizing incentives as a marketing expense in certain
circumstances. In addition, he advised that an entity acting as a
seller agent should consider whether it has multiple customers,
including whether it receives consideration from both the seller and
the end user. Mr. Wiggins noted that even if the entity concludes
that it has only one customer (i.e., the seller), the entity should
consider whether it has made an implicit or explicit promise to
provide incentives to the end user on the seller’s behalf. Further,
the entity should consider whether incentives are an in-substance
price concession because the seller has a valid expectation that the
entity will provide the incentives to the end user buying the good
or service.
In considering the SEC staff’s views, we believe that determining
whether there is an implicit promise to provide incentives to the
end users on the seller’s behalf and whether the seller has a valid
expectation that the entity (i.e., the entity acting as a seller
agent) will provide incentives to the end users requires an
understanding of the entity’s facts and circumstances. The entity
should analyze all communications with the seller and the type of
information that the seller might have about the entity’s incentive
program. If information about the incentives is reasonably available
to the seller, those incentives may be deemed to be consideration
payable to a customer (i.e., incentives paid on the seller’s
behalf).
6.6.1.2 Identifying Payments Within the Scope of the Requirements Related to Consideration Payable to a Customer
In accordance with ASC 606-10-32-25, consideration payable
to a customer includes the following:
- Cash amounts that an entity pays, or expects to pay, to the customer (or to other parties that purchase the entity’s goods or services from the customer)
- Credit or other items (for example, a coupon or voucher) that can be applied against amounts owed to the entity (or to other parties that purchase the entity’s goods or services from the customer)
- Equity instruments (liability or equity classified) granted in conjunction with selling goods or services (for example, shares, share options, or other equity instruments).
An entity should account for consideration payable to a customer as a
reduction of the transaction price and, therefore, of revenue unless the
payment to the customer is in exchange for a distinct good or service
(typically resulting in the recognition of an asset or expense).
An entity should assess the following payments to customers
under ASC 606-10-32-25 to determine whether they are in exchange for a
distinct good or service:
-
Payments to customers that result from a contractual obligation (either implicitly or explicitly).
-
Payments made on behalf of customers that are considered in-substance price concessions because the customer has a reasonable expectation of such payments (either implicitly or explicitly; see further discussion in Section 6.6.1.1).
-
Purchases made on behalf of customers in lieu of making cash payments to those customers.
-
Payments to customers that can be economically linked to revenue contracts with those customers.
While an entity is not required to separately assess and
document each payment made to a customer, an entity should not disregard
payments that extend beyond the context of a specific revenue contract with
a customer. Rather, an entity should use reasonable judgment when
determining how broadly to apply the guidance on consideration payable to a
customer to determine whether the consideration provided to the customer is
in exchange for a distinct good or service (and is therefore an asset or
expense) or is not in exchange for a distinct good or service (and is
therefore a reduction of revenue).
The above issue is addressed in Implementation Q&A 25 (compiled from previously
issued TRG Agenda Papers 19, 25, 28, 34, 37, and 44). For additional information and Deloitte’s summary
of issues discussed in the Implementation Q&As, see Appendix C.
Payments made to third parties on behalf of customers can come in many forms
and may not necessarily be incentives paid to a customer’s customer to be
deemed consideration payable to a customer. For example, an entity might pay
a fee to a financing company that enables the entity’s customer to obtain a
favorable borrowing rate for a loan the customer uses to pay for the
entity’s product. In this example, the payment to the financing company
would be linked to the revenue contract with that customer and is being made
on behalf of (and for the benefit of) that customer. Therefore, the fee paid
would be deemed consideration payable to a customer and should be recorded
as a reduction of revenue.
In determining whether a payment made to a third party is on behalf of a
customer, the entity making the payment should consider whether it receives
a distinct good or service from the third party. In the above example, the
entity does not receive a distinct good or service because (1) the customer
is the party that obtains the favorable financing from the third party
(i.e., the entity is not the party that receives a good or service from the
third party for making the payment) and (2) the benefit the entity receives
from making the payment is not distinct from the product sold in its revenue
contract with the customer.
Further, in determining whether a payment made to a third party is on behalf
of a customer, the entity making the payment might consider whether it is
acting as a principal or as an agent when the customer receives the good or
service provided by the third party. For example, if an entity (1) sells a
service to a customer, (2) pays a third party for a distinct good that is
provided to the customer for free, and (3) is the principal in providing
that good to the customer because it obtains control over that good before
the good is transferred to the customer, the entity may determine that the
payment made to the third party should be reflected as cost of sales. In
this circumstance, the good provided to the customer may be considered a
separate performance obligation in the entity’s revenue contract with the
customer. By contrast, if the entity is an agent in facilitating the
provision of the good to the customer, the payment made to the third party
could be deemed consideration payable to a customer because the payment is
being made on behalf of the customer.
Example 6-20
Natural Gas Inc. (the “Company”) is
a supplier of renewable natural gas for commercial
vehicle operators, which are the Company’s
customers. To increase its sales of renewable
natural gas, the Company offers an incentive to its
customers to use natural gas–powered vehicles
(rather than diesel-powered vehicles). To offer the
incentive to its customers, the Company partners
with Car Rental Inc., an unrelated third-party
commercial vehicle lessor.
The Company’s incentive program for
its customers is structured as follows:
-
The customer enters into a three-year lease agreement for a natural gas–powered vehicle with Car Rental Inc. The terms of the lease agreement stipulate that the customer is to make lease payments to Car Rental Inc. that are equal to the market rate for a leased diesel-powered vehicle, which is less than the market rate for the leased natural gas–powered vehicle. At the direction of the customer, the Company makes cash payments directly to Car Rental Inc. to cover the difference between the market rate for a leased diesel-powered vehicle and the market rate for the leased natural gas–powered vehicle.
-
If the customer leases a natural gas–powered vehicle, the customer executes a separate natural gas supply contract with the Company in exchange for the Company’s cash payments to Car Rental Inc. that commits the customer to purchase a minimum volume of natural gas from the Company. The Company’s incremental cash payments to Car Rental Inc. are required on the basis of the Company’s contract with the customer. The Company’s customer billings for the natural gas have sufficient margins to cover the Company’s incremental cash payments to Car Rental Inc.
-
The Company is named as a secondary lienholder of the leased natural gas–powered vehicle (subordinate to Car Rental Inc.). However, the Company does not take possession of the leased asset (the natural gas–powered vehicle) at any time, does not operate the natural gas–powered vehicle at any time, and does not control the natural gas–powered vehicle with respect to its use. In the event that the customer defaults under its lease agreement with Car Rental Inc., the Company is not obligated to make lease payments for the natural gas–powered vehicle.
The Company’s cash payments to Car
Rental Inc. should be accounted for as consideration
payable to a customer in accordance with ASC
606-10-32-25 through 32-27 even though Car Rental
Inc. is not the Company’s customer, the customer’s
customer, or another party in the distribution
channel for the Company’s natural gas.
As stated in Section
6.6.1.1, the requirements related to
consideration payable to a customer should be
applied more broadly to include parties outside the
distribution chain depending on the facts and
circumstances. While the Company’s cash payments are
not to its customer’s customer, the cash payments to
Car Rental Inc. are required on the basis of the
Company’s contract with the customer. Accordingly,
the Company should account for the cash payments to
Car Rental Inc. as consideration payable to a
customer. Since the Company could have made the cash
payments directly to the customer, which then could
have paid Car Rental Inc. for the lease payments in
their entirety, we believe that there is no
difference in the substance of the arrangement.
Further, the Company does not
receive a distinct good or service in exchange for
the cash payments to Car Rental Inc. Therefore, in
accordance with ASC 606-10-32-25 through 32-27, the
consideration payable to the customer should be
recognized as a reduction of the transaction price
when or as the related goods or services are
transferred to the customer.
Example 6-20A
Entity MJC is a platform company
that provides reservation services for restaurants.
It identifies the restaurants as its customers and
derives revenue by charging a restaurant a fixed fee
for each reservation made for the restaurant through
MJC’s platform. Entity MJC’s sole performance
obligation is to take reservations for the
restaurant through its platform. That is, MJC
considers itself to be acting as an agent by taking
reservations on the restaurant’s behalf.
Entity MJC has a loyalty program to
encourage individuals to make reservations on its
platform. Under the loyalty program, individuals
each receive a $10 cash gift card that can be used
to dine at a restaurant of their choice for every 10
reservations they make on MJC’s platform. Entity MJC
is not obligated to provide the loyalty program
under its agreements with the restaurants. However,
MJC’s customers (i.e., the restaurants) are aware of
MJC’s loyalty program and have a reasonable
expectation of benefiting from it.
First, MJC considers whether the
cash gift cards should be evaluated as consideration
payable to a customer. Although the cash gift cards
are not provided directly to MJC’s customers (i.e.,
the restaurants), MJC concludes that the cash gift
cards would represent consideration payable to a
customer since (1) they are provided to the
customers of MJC's customers, (2) the loyalty
program is widely known to MJC’s customers, and (3)
MJC’s customers reasonably expect to benefit from
the cash gift cards.
Next, MJC considers whether it
receives a distinct good or service in exchange for
the cash gift cards. Entity MJC determines that
although it benefits from the loyalty program (since
the program results in individuals’ increased use of
the platform to make restaurant reservations, which
in turn results in additional fees to MJC from the
restaurants), the benefit to MJC is not a good or
service that is distinct from the reservation
services that MJC provides to the restaurants. This
is because MJC’s benefit is limited to additional
reservation volume, which represents the promised
services that are transferred to the
restaurants.
Entity MJC therefore concludes that the cash gift
cards should be accounted for as consideration
payable to a customer. It records the amounts of the
cash gift cards as a reduction of the transaction
price in its arrangements with its customers (the
restaurants).
Example 6-20B
Entity H provides a marketplace to sell overstock
inventory on its mobile application (the “H App”).
It has determined that it is the principal in its
arrangements involving the sale of the inventory. To
increase sales through the use of the H App and
acquire more customers, H has a practice of issuing
the following two credits through its Refer-a-Friend Program:
- Referring Friend Credit — When an existing customer of H sends an invite to a noncustomer to download the H App, and the noncustomer becomes a new customer and purchases items by using the H App, the referring customer (the existing customer) receives a $25 credit on his or her account.
- Referred Friend Credit — When a noncustomer is sent an invite from an existing customer, the noncustomer will receive a $25 credit after creating an account on the H App and making an initial purchase. The Referred Friend Credit can then be applied against any future purchase the new customer makes on the H App.
Entity H determines that the Referring Friend Credit
(paid to an existing customer for a referral) would
represent consideration payable to a customer under
ASC 606-10-32-25. In evaluating the guidance in ASC
606-10-32-25 through 32-27, H concludes that an
existing customer is providing to H a “distinct
service” of referring new customers to sign-up and
use the H App. Further, on the basis of amounts that
H pays vendors for similar services to attract new
customers, H concludes that the $25 credit it
provides to an existing customer for referring a
friend to the platform does not exceed the fair
value of the distinct service obtained from the
existing customer.
Consequently, H concludes that in accordance with ASC
606-10-32-26, the statement credits provided to its
existing customers under the Refer-a-Friend Program
should by accounted for in the same way that H
accounts for similar purchases from other suppliers.
That is, H should not record a credit to an existing
customer as a reduction of the transaction price
(and, therefore, of revenue).7
In contrast, while the Referred Friend Credit would
also represent consideration payable to a customer
under ASC 606-10-32-25, no good or service is
received by H in exchange for issuing the Referred
Friend Credit to the new customer that is “distinct”
from the new customer’s purchase on the H App.
Consequently, in accordance with ASC 606-10-32-26,
the Referred Friend Credit would be recognized as a
reduction of the transaction price (and, therefore,
of revenue) in the contract with the new customer.
6.6.1.3 Accounting for an Entity’s Participation in Its Customer’s Third-Party Financing
In certain revenue transactions, an entity may participate
in a customer’s third-party financing by (1) providing financial guarantees
or indemnifications to the financing party or (2) buying down interest rate
points payable to the financing party to give the customer a sales
incentive. These types of arrangements may be structured in any of various
forms, such as one in which the customer obtains third-party financing to do
either of the following:
-
Pay for a product up front when the product is delivered.
-
Make payments to the entity over time rather than pay any up-front consideration to the entity.
Depending on the facts and circumstances of the particular
arrangement, an entity’s participation in its customer’s third-party
financing may (1) affect the entity’s assessment that collectibility of
substantially all of the consideration to which the entity will be entitled
for goods or services transferred to the customer is probable, (2) affect
the entity’s determination of the transaction price of the entity’s contract
with the customer, or (3) result in a guarantee within the scope of ASC
460.
When an entity’s customer has obtained third-party financing
and the entity participates in the financing, the entity should first
evaluate whether its participation in the financing results in a guarantee
within the scope of ASC 460.
If the entity’s participation in the financing is not a
guarantee within the scope of ASC 460, the entity should still consider
whether the nature of the arrangement may affect the assessment of
collectibility or increase the probability that the entity will offer a
price concession to the customer. That is, through the entity’s
participation in the third-party financing, the entity may inherently be
more likely to accept an amount that is less than what it is entitled to
under the contract. Specifically, under the revenue recognition framework of
ASC 606, the entity will need to evaluate whether (1) its participation in
the financing affects its assessment that collectibility of substantially
all of the consideration to which the entity will be entitled for goods or
services transferred to the customer is probable (step 1) or (2) any
potential price concessions represent variable consideration that should be
included in the determination of the transaction price (step 3). See
Sections 4.3.5 through
4.3.5.5 for further discussion of collectibility concepts,
including those related to price concessions.
In addition, under the revenue recognition framework of ASC
606, the entity should consider whether the nature of the arrangement
includes consideration payable to a customer that would be accounted for as
a reduction in the transaction price (step 3). If the payments the entity
made to the financing party are contractually or economically linked to the
entity’s revenue contract with the customer, the entity should account for
those payments as consideration payable to a customer, as discussed in
Section 6.6.1.2.
6.6.2 Applying the Guidance on Consideration Payable to a Customer
In most circumstances, application of the guidance on consideration payable to a
customer is straightforward because an entity pays a customer a fixed cash
amount at the inception of a new contract without receiving any goods or
services in return. In these situations, it is clear that the requirements of
ASC 606-10-32-25 through 32-27 related to consideration payable to a customer
need to be applied. However, application of this guidance can prove to be
challenging in other scenarios, such as those in which (1) other third parties
are involved or (2) purchases or payments are made on a customer’s behalf rather
than directly to the customer. An entity may have to make critical judgments in
applying the guidance, including those related to (1) determining whether a
“distinct” good or service is received from a customer in exchange for a
payment, (2) applying the guidance on variable consideration, (3) determining
the transaction price when a customer supplies goods or services to the entity,
and (4) presentation matters when amounts paid (or payable) to a customer could
exceed the consideration to which the entity expects to be entitled from the
customer.
When applying the guidance on consideration payable to a customer, an entity may
also have to use judgment to identify the related revenue so that it can
appropriately determine what revenue (or portion of revenue) needs to be
reduced. That is, judgment may be required in the determination of whether
consideration payable to a customer is related to one or more of the following
types of revenue:
-
Revenue previously recognized.
-
Revenue associated with performance obligations in a current or new contract.
-
Revenue from a potential future contract.
See Section 6.6.3 for additional
considerations related to up-front payments made to customers.
The following example in ASC 606 illustrates how an entity would
account for consideration payable to a customer:
ASC 606-10
Example 32 — Consideration Payable to a
Customer
55-252 An entity that
manufactures consumer goods enters into a one-year
contract to sell goods to a customer that is a large
global chain of retail stores. The customer commits to
buy at least $15 million of products during the year.
The contract also requires the entity to make a
nonrefundable payment of $1.5 million to the customer at
the inception of the contract. The $1.5 million payment
will compensate the customer for the changes it needs to
make to its shelving to accommodate the entity’s
products.
55-253 The entity considers
the guidance in paragraphs 606-10-32-25 through 32-27
and concludes that the payment to the customer is not in
exchange for a distinct good or service that transfers
to the entity. This is because the entity does not
obtain control of any rights to the customer’s shelves.
Consequently, the entity determines that, in accordance
with paragraph 606-10-32-25, the $1.5 million payment is
a reduction of the transaction price.
55-254 The entity applies the
guidance in paragraph 606-10-32-27 and concludes that
the consideration payable is accounted for as a
reduction in the transaction price when the entity
recognizes revenue for the transfer of the goods.
Consequently, as the entity transfers goods to the
customer, the entity reduces the transaction price for
each good by 10 percent ($1.5 million ÷ $15 million).
Therefore, in the first month in which the entity
transfers goods to the customer, the entity recognizes
revenue of $1.8 million ($2.0 million invoiced amount –
$0.2 million of consideration payable to the
customer).
6.6.2.1 Meaning of “Distinct” Goods or Services
In accordance with ASC 606-10-32-25, consideration payable
to a customer should generally be accounted for as a reduction of the
transaction price (and, therefore, of revenue). However, ASC 606-10-32-26
provides that if the payment to the customer is in exchange for a distinct
good or service that the customer transfers to the entity, the entity should
“account for the purchase of the good or service in the same way that it
accounts for other purchases from suppliers.”
ASC 606-10-32-25 refers to ASC 606-10-25-18 through 25-22 for guidance on the
identification of distinct goods or services. Specifically, in the context
of consideration payable to a customer, application of ASC 606-10-25-19
would lead to a determination that goods or services are distinct if both of
the following criteria are met:
-
The entity can benefit from the good or service supplied by the customer (either on its own or together with other resources that are readily available to the entity).
-
The customer’s promise to transfer the good or service to the entity is separately identifiable from other promises in the entity’s revenue contract with the customer (i.e., the customer’s promise to transfer the good or service to the entity is distinct within the context of the contract, and the benefit to be received by the entity is separable from the sale of goods or services by the entity to the customer).
See Chapter
5 for further discussion of identifying distinct goods or
services in a contract with a customer.
Paragraph BC256 of ASU 2014-09 explains that the principle for assessing
whether a good or service is distinct is similar to the concept of an
“identifiable benefit” previously applied under U.S. GAAP. As stated in
paragraph BC256, an identifiable benefit “was described as a good or service
that is ‘sufficiently separable from the [customer’s] purchase of the
vendor’s products such that the vendor could have entered into an exchange
transaction with a party other than a purchaser of its products or services
in order to receive that benefit.’”
Note that when an entity concludes that the consideration
payable to a customer is for distinct goods or services that the entity
receives, the entity is also required to assess whether it can reasonably
estimate the fair value of those distinct goods or services (see Section 6.6.2.3).
6.6.2.2 Consideration Payable to a Customer and Variable Consideration
The revenue standard requires an entity to recognize
consideration payable to a customer as a reduction of revenue at the later
of when the entity (1) recognizes revenue for the transfer of the related
goods or services or (2) pays or promises to pay such consideration.
However, under the revenue standard, an entity also has to take into account
variable consideration when determining the transaction price.
For example, if an entity anticipates that it may provide a
coupon to the customer when entering into the contract, or if, given the
facts and circumstances, an entity can conclude that the customer has a
valid expectation that it will receive a price concession in the form of a
coupon, the coupon represents variable consideration that the entity should
estimate at contract inception.8 The entity’s anticipation or the customer’s expectation of a price
concession does not need to be explicit and instead may be determined on the
basis of the entity’s history of granting price reductions through coupons
(i.e., on the basis of the entity’s customary business practices even though
the coupon is not explicitly stated in the contract). Accordingly, the
entity should apply the guidance on estimating variable consideration in ASC
606-10-32-5 and should reduce the transaction price before the payment is
communicated to the customer (i.e., at contract inception, when the
transaction price is estimated).
Because an entity needs to take into account the variable
consideration guidance in determining when to recognize price concessions
such as coupons provided to a customer, it is expected that the “later of”
guidance in ASC 606-10-32-27 on consideration payable to a customer under
the revenue standard will be applied in limited circumstances.
The above issue is addressed in Implementation Q&A 29 (compiled from previously
issued TRG Agenda Papers 19, 25, 28, 34, 37, and 44). For additional information and Deloitte’s summary
of issues discussed in the Implementation Q&As, see Appendix C.
6.6.2.3 Determining the Transaction Price — Consideration of Goods or Services Supplied to the Entity by the Customer
When an entity enters into an agreement to sell products to
a customer, the transaction with the customer may also involve the
customer’s supplying goods or services to the entity. The contract may be
structured in such a way that the consideration payable by the entity to the
customer for those goods or services is separately identified.
Alternatively, the contract may be structured in such a way that it includes
a single amount payable by the customer to the entity that reflects the net
of the value of the goods or services provided by the entity to the customer
and by the customer to the entity. When the fair value of the goods or
services can be reasonably estimated, the accounting outcome should be the
same in either circumstance.
The goods or services supplied by the customer should be
accounted for separately if both of the following conditions are met:
-
Those goods or services are “distinct” (see Section 6.6.2.1).
-
The entity can reasonably estimate the fair value of the goods or services that it will receive (which may not correspond to any amount specified in the contract for those goods or services).
If both of these conditions are met, the fair value of the
goods or services received from the customer should be accounted for in the
same way the entity accounts for other purchases from suppliers (e.g., as an
expense or asset). If any consideration payable to the customer with respect
to those goods or services exceeds their fair value, the excess should be
accounted for as a reduction of the transaction price.
If either or both of these conditions are not met, any
consideration payable to the customer with respect to those goods or
services should be accounted for as a reduction of the transaction
price.
The examples below illustrate the application of this
guidance.
Example 6-21
An entity sells goods to a customer
for $10,000 and, as part of the same arrangement,
pays that customer $1,000 in exchange for a service.
If the service is determined to be distinct and its
fair value can be reasonably estimated (as being,
for example, $600), a portion of the contractually
stated amount will be recognized as a reduction of
the transaction price for the sale of goods to
$9,600 ($10,000 minus the $400 payment made to the
customer in excess of the fair value of the service
received).
Example 6-22
An entity sells goods to a customer
for $10,000 and, as part of the same arrangement,
pays that customer $1,000 in exchange for a service.
If the service is not determined to be distinct or
its fair value cannot be reasonably estimated, the
transaction price for the sale of goods will be
reduced to $9,000 ($10,000 minus the full amount
payable to the customer).
The requirements above apply irrespective of whether the
consideration related to the goods or services supplied by the customer is
separately identified in the contract. If the contract is net settled (i.e.,
the customer is required to pay cash and provide distinct goods or services
as payment for the goods or services provided by the entity to the customer,
and the entity does not make a cash payment to the customer for the distinct
goods or services provided by the customer), the noncash consideration
guidance would apply (see Section
6.5).
6.6.2.4 Impact of Negative Revenue on Presentation of Consideration Payable to a Customer
In certain arrangements, amounts paid (or payable) to a
customer could exceed the consideration to which the entity expects to be
entitled from the customer. In these situations, recognition of payments to
the customer as a reduction of revenue could result in “negative revenue.”
Legacy revenue guidance in ASC 605-50 included explicit guidance on how to
account for payments to customers that result in negative revenue. In these
cases, ASC 605-50-45-9 required an entity to reclassify the cumulative
shortfall (i.e., the amount of the payment to a customer in excess of the
entity’s cumulative revenue from the customer) from a reduction of revenue
to an expense unless certain conditions exist.
ASC 606 does not specifically address situations in which
the entity could potentially recognize negative revenue if it accounts for
consideration payable to a customer as a reduction of revenue.
The absence of explicit guidance in ASC 606 was acknowledged
in TRG Agenda Paper 19, which was prepared by the FASB and
IASB staffs for the TRG’s January 2015 meeting. Specifically, those staffs
acknowledged in paragraph 27 of TRG Agenda Paper 19 that ASC 606 “does not
currently address the accounting for ‘negative revenue.’ ” Although negative
revenue was included as an issue for discussion in TRG Agenda Paper 19, the
TRG did not reach a consensus on whether and, if so, when negative revenue
should be reclassified as an expense.
In the absence of explicit guidance in ASC 606, we believe
it would be acceptable for entities to consider the legacy guidance in ASC
605-50 by analogy and reclassify negative revenue as an expense if certain
conditions are met. Specifically, the legacy guidance in ASC 605-50-45-9
(superseded by ASU 2014-09) stated:
A vendor may remit or be obligated to remit cash
consideration at the inception of the overall relationship with a
customer before the customer orders, commits to order, or purchases
any vendor products or services. Under the guidance in the preceding
two paragraphs, any resulting negative revenue may be
recharacterized as an expense if, at the time the consideration is
recognized in the income statement, it exceeds cumulative revenue
from the customer. However, recharacterization as an expense would
not be appropriate if a supply arrangement exists and either of the
following circumstances also exists:
-
The arrangement provides the vendor with the right to be the provider of a certain type or class of products or services for a specified period of time and it is probable that the customer will order the vendor’s products or services.
-
The arrangement requires the customer to order a minimum amount of vendor products or services in the future, except to the extent that the consideration given exceeds probable future revenue from the customer under the arrangement.
Example 6-23
On January 1, 20X1, Company A enters
into a master supply agreement with Customer X to
sell X an undefined quantity of widgets over a
five-year period. A sale of widgets is initiated
each time X issues a purchase order to A, at which
point A is legally obligated to supply X with the
quantity of widgets specified in the purchase order.
Company A expects that it is
probable that X will purchase a total of 1,000
widgets per year (i.e., 5,000 widgets over the term
of the master supply agreement). The price of each
widget is $5.
As an incentive for X to enter into
the master supply agreement, A agrees to pay X
$30,000 upon receipt of the first purchase order. On
January 15, 20X1, X issues its first purchase order
to A for 200 widgets. Customer X pays A $1,000 for
the 200 widgets and receives the $30,000 payment
from A. Company A determines that at least some of
the $30,000 payment meets the definition of an asset
(see Section 6.6.3
for considerations related to whether an up-front
payment meets the definition of an asset). In
addition, A determines that the $30,000 is not in
exchange for a distinct good or service.
To determine the amount of negative
revenue, A compares the $30,000 payment to X with
the total purchases that A believes it is probable
that X will make over the term of the master supply
agreement (i.e., $25,000 for 5,000 widgets). Because
the consideration payable to X ($30,000) exceeds the
total expected purchases from X ($25,000), it would
be acceptable for A to reclassify the cumulative
shortfall ($5,000) as an expense.
6.6.2.5 Retail Industry Considerations
Transactions that involve payments by an entity to a customer frequently
arise in the retail industry. One transaction of this nature is illustrated
in Example 32 of the revenue standard (ASC 606-10-55-252 through 55-254
above), in which an entity makes a payment to a customer to compensate it
for changes it needs to make to its shelving to accommodate the entity’s
products. In this example, the entity concludes that the payment to the
customer should be accounted for as a reduction of the transaction price
because the payment is not in exchange for a distinct good or service the
entity receives.
The example below illustrates how an entity in an arrangement involving the
payment of “slotting fees,” which are common in the retail industry, should
determine whether the services supplied by the customer in exchange for the
slotting fees are distinct from the goods sold to the customer.
Example 6-24
Entity X contracts to sell products to Entity Y, a
retailer. As part of the contract, Y promises to
display the products in a prime location within its
store to encourage sales of those products to the
end customer in exchange for a payment from X
(payments for such services are commonly referred to
as slotting fees).
To determine the appropriate accounting, X considers
whether the services provided by Y are “distinct.”
Entity X concludes that its only substantive benefit
from those services will be through additional sales
in Y’s store and that it would not enter into an
exchange transaction with a party other than a
purchaser of its products to receive that benefit
(i.e., it would not pay for the services if Y were
not also purchasing goods from X). Consequently,
although X believes that it receives benefit from
the services provided by Y, it concludes that the
benefit received and its own sales of goods to Y are
highly interrelated. Therefore, it concludes that
the services provided by Y are not sufficiently
separable from Y’s purchases of X’s products to be
regarded as distinct.
Accordingly, any payments made, or discounts
provided, to Y in exchange for such slotting
services should be accounted for as a reduction of
the transaction price recognized by X in accordance
with ASC 606-10-32-25 and ASC 606-10-32-27 (see
Section
6.6.2.3).
Connecting the Dots
In the retail industry, it is common for a wholesaler to pay a
retailer (the wholesaler’s customer) (1) fees to have the products
allocated to attractive or advantageous spaces in the retailer’s
premises for a defined period (i.e., slotting fees) and (2) fees to
be included in the retailer’s list of authorized suppliers (i.e.,
listing fees). ASC 606-10-32-25 requires an entity to account for
consideration paid to a customer as a reduction of the transaction
price “unless the payment to the customer is in exchange for a
distinct good or service.” Given that guidance, stakeholders have
asked whether the wholesaler in an arrangement involving slotting or
listing fees receives a distinct good or service from the retailer
in return for the payment of these fees.
Our view is that slotting and listing fees cannot be separated from
the sale of the products to the retailer (since the fees are
generally not paid when no products are sold) and thus have no value
to the wholesaler unless these payments are linked to the products
sold. Therefore, these slotting and listing fees are not capable of
being distinct.
6.6.2.5.1 Consideration Payable to a Customer for Advertising in the Retail Industry
The types of advertising arrangements in the retail industry vary
significantly. For example, a supplier could pay a retailer to provide
advertising in an in-store circular or on a third-party search engine.
In addition, to reach the right consumers and optimize sales, suppliers
are increasingly using retail media networks (RMNs), collections of
digital channels that allow retailers and product suppliers to use
consumer data to create targeted, more effective advertising programs
and platforms.
Because a retailer’s provision of advertising services to a supplier can
involve contracts that are highly complex, multiparty, or both, an
entity may need to use significant judgment to determine the appropriate
accounting treatment. Such arrangements include those in which a
retailer (i.e., customer) provides goods or services to a supplier
(i.e., vendor); thus, it is important for an entity to carefully analyze
the nature of the arrangement to determine whether the goods or services
(i.e., advertising services) provided by a retailer are distinct from
the retailer’s purchase of products from the supplier. A key part of
that analysis is the determination of whether the supplier would
purchase the advertising from the retailer if it was not also selling
its products to the retailer.
The accounting judgments and considerations are similar from the
supplier’s standpoint. That is, the supplier likewise needs to determine
whether the advertising services acquired from the retailer are distinct
from the products sold to the retailer.
If the advertising services are distinct, the purchase or sale of the
advertising services will typically be accounted for as a separate
transaction (i.e., as revenue or income by the retailer or an expense by
the supplier). However, if the advertising services are not distinct,
any consideration exchanged between the parties will typically be
accounted for as a reduction of (1) the cost of products purchased by
the retailer and (2) revenue by the supplier.
While such arrangements are often between retailers and suppliers in the
retail industry, similar arrangements may also exist in other
industries, such as travel and hospitality. The accounting concepts
discussed below apply to similar contracts and analogous fact patterns
regardless of industry.
It is important for an entity to carefully evaluate the nature and type
of advertising promised in the contract when determining whether it is
distinct from the products sold to the retailer. The evaluation of
whether the products and advertising are distinct is based on the
criteria in ASC 606-10-25-19 through 25-21, which are considered by both
the retailer and the supplier.
6.6.2.5.1.1 Retailer’s Accounting
Because the retailer typically (1) receives or is
entitled to receive cash in exchange for the advertising services
provided to the supplier and (2) pays or is obligated to pay cash
for products purchased from the supplier, the retailer should
consider the guidance in ASC 705-20. This guidance requires an
entity to account for any consideration received from the supplier
as a reduction of the cost of products purchased from the supplier
unless the supplier receives a distinct good or service.9 If the supplier receives a distinct advertising service, the
retailer will generally account for the sale of advertising services
as revenue from a contract with a customer (provided that the
advertising services are outputs of the retailer’s ordinary
activities), but the amount recorded as revenue cannot exceed the
stand-alone selling price of the advertising services. ASC
705-20-25-2 addresses this point:
If the consideration from a vendor is in
exchange for a distinct good or service (see paragraphs
606-10-25-19 through 25-22) that an entity transfers to the
vendor, then the entity shall account for the sale of the
good or service in the same way that it accounts for other
sales to customers in accordance with Topic 606 on revenue
from contracts with customers. If the amount of
consideration from the vendor exceeds the standalone selling
price of the distinct good or service that the entity
transfers to the vendor, then the entity shall account for
such excess as a reduction of the purchase price of any
goods or services acquired from the vendor. If the
standalone selling price is not directly observable, the
entity shall estimate it in accordance with paragraphs
606-10-32-33 through 32-35.
For more information about determining whether the
advertising services provided by the retailer are distinct from the
products the retailer purchases from the supplier, see Section
6.6.2.5.1.3.
While the language in ASC 705-20 on consideration
received from a vendor differs from that in the legacy GAAP in ASC
605-50, the guidance in the two Codification subtopics is similar.
Under ASC 605-50-45-12 through 45-14 (superseded by ASU 2014-09),
cash received by a customer from a vendor was presumed to be a
reduction of the cost of products the customer purchased unless it
was payment for an “identifiable benefit.” That is, the goods or
services received by the supplier “must be sufficiently separable
from the customer’s purchase of the vendor’s products such that the
customer would have entered into an exchange transaction with a
party other than the vendor in order to provide that benefit, and
the customer can reasonably estimate the fair value of the benefit
provided.” See Section 6.6.2.5.1.2 for more information.
A retailer will sometimes partner with a third-party advertising
company to provide the advertising services to the supplier. In
these circumstances, the retailer will need to consider the
principal-versus-agent guidance in ASC 606. Under ASC 606-10-55-36
through 55-40, the retailer is the principal for the advertising
services if it controls the advertising services before they are
transferred to the supplier. Typically, the principal is the party
that is primarily responsible for fulfilling the advertising
services. If the retailer is the principal, it will recognize the
gross amount paid by the supplier as revenue and a corresponding
cost for the goods or services received from the third-party
advertising company. However, if the retailer is an agent because it
does not control the advertising services before they are
transferred to the supplier, it will recognize the net amount it
retains (i.e., the amount paid by the supplier less the amount paid
to the third-party advertising company) for arranging for the
third-party advertising company to provide advertising services to
the supplier. For more information about principal-versus-agent
considerations, see Chapter
10.
6.6.2.5.1.2 Supplier’s Accounting
The accounting framework for the supplier is largely
symmetrical to that of the retailer. Specifically, any consideration
paid or payable by the supplier should be accounted for as a
reduction of the transaction price (i.e., revenue) for product sales
unless the supplier receives a distinct good or service. However,
unlike the retailer, the supplier must also be able to reasonably
estimate the fair value of the good or service received from the
retailer so that it can account for the distinct good or service
separately (see ASC 606-10-32-25 and ASC 32-26, which are reproduced
in Section
6.6).
The example below illustrates a supplier’s accounting for an
arrangement involving consideration payable to a customer (a
retailer) in exchange for advertising in an in-store circular.
Example 6-25
Entity F contracts to sell
products to Entity G, a retailer. As part of the
contract, G agrees to include F’s products in G’s
weekly in-store advertising circular in exchange
for cash consideration.
To determine the appropriate
accounting, F considers whether the in-store
advertising services provided by G are “distinct.”
Entity F concludes that its only substantive
benefit from those services will be through
additional sales in G’s store and that it would
not pay for the services if G were not also
purchasing goods from F. Consequently, although F
believes that it receives benefit from the
services supplied by G (thus meeting the criterion
in ASC 606-10-25-19(a)), it concludes that the
benefit received and its own sales of goods to F
are highly interrelated; the service received is
not distinct in the context of the contract (thus
failing the criterion in ASC 606-10-25-19(b)).
Accordingly, any payments made, or discounts
provided, to G in exchange for the inclusion of
F’s products in G’s weekly in-store advertising
circular would be considered a reduction of the
transaction price recognized by F in accordance
with ASC 606-10-32-25 and ASC 606-10-32-27 (see
Section 6.6.2.3).
The example below illustrates a supplier’s accounting for an
arrangement involving consideration payable to a customer (a
retailer) in exchange for broadly distributed advertising.
Example 6-26
Entity J contracts to sell a particular product
to Entity K, a retailer, and also sells that
product through other retailers and directly to
the public via its Web site. As part of the
contract, K agrees to advertise the sale of J’s
product in a national newspaper and on national
television and radio in exchange for cash
consideration.
To determine the appropriate accounting, J
considers whether the advertising services
provided by K are “distinct.” Entity J concludes
that (1) it will benefit from the advertising
undertaken by K through increased sales in all
retail stores that sell the product (not just in
K’s store) and via its Web site and (2) it would
enter into an exchange transaction with a party
other than a purchaser of its product to receive
that benefit (e.g., it could purchase advertising
services directly from the third-party media
outlets). Entity J concludes that the services
provided by K are sufficiently separable from K’s
purchase of J’s product and are therefore
distinct.
Accordingly, J should assess whether it can
reasonably estimate the fair value of the
advertising services that it will receive (which
may not correspond to any amount specified in the
contract for those services). If that fair value
can be reasonably estimated, J should record the
lesser of the fair value of those services or the
consideration paid to the customer as an expense
when the advertising services are received.
If the fair value cannot be reasonably
estimated, any consideration payable by J to K
with respect to services should be accounted for
as a reduction in the transaction price for the
sale of goods to K. In addition, if the fair value
can be reasonably estimated, any amount of
consideration paid to K that exceeds the fair
value of the advertising services received should
be accounted for as a reduction of the transaction
price for the sale of goods to K.
The guidance in ASC 606 on consideration payable to a customer is
similar to legacy GAAP in ASC 605-50 in that ASC 605-50-45-2
included a presumption that any consideration paid by a vendor to a
customer would be recorded as reduction of revenue unless the vendor
(1) “receives, or will receive, an identifiable benefit (goods or
services)” from the customer and (2) “can reasonably estimate the
fair value of the benefit identified.” ASC 605-50-45-2 (superseded
by ASU 2014-09) stated, in part, the following regarding the
determination of whether an identified benefit can be accounted for separately:
In order to meet this condition, the identified benefit must
be sufficiently separable from the recipient’s purchase of
the vendor’s products such that the vendor could have
entered into an exchange transaction with a party other than
a purchaser of its products or services in order to receive
that benefit.
While the wording in ASC 606 differs from that in
the legacy guidance, the application of the current guidance appears
to be similar to how the legacy guidance was applied. The FASB
addresses this matter in paragraph BC256 of ASU
2014-09, which states, in part:
Previous guidance in U.S. GAAP on the
consideration that a vendor gives to a customer used the
term identifiable benefit, which was described as a good or
service that is “sufficiently separable from the recipient’s
purchase of the vendor’s products such that the vendor could
have entered into an exchange transaction with a party other
than a purchaser of its products or services in order to
receive that benefit.” The Boards concluded that the
principle in Topic 606 for assessing whether a good or
service is distinct is similar to the previous guidance in
U.S. GAAP.
In short, consideration payable to a customer (e.g., cash
consideration a supplier pays a retailer) should be accounted for as
a reduction of the transaction price (i.e., revenue) when
recognized, unless those payments are for distinct goods or services
(i.e., there is a separately identifiable benefit derived from the
goods or services) and the fair value can be reasonably
estimated.
6.6.2.5.1.3 Distinct Goods or Services
In determining whether the goods or services provided to the supplier
are distinct, an entity should consider the guidance in ASC
606-10-25-18 through 25-22. The application of ASC 606-10-25-19
would lead to a determination that goods or services are distinct if
both of the following criteria are met:
- The supplier can benefit from the advertising provided by the retailer (either on its own or with other readily available resources) in such a way that the advertising is capable of being distinct.
- The retailer’s promise to provide the advertising services to the supplier is separately identifiable from the promised goods or services in the supplier’s revenue contract with the retailer (i.e., the retailer’s promise to provide the advertising services to the supplier is distinct within the context of the contract, and the benefit to be received by the supplier is sufficiently separable from the promised goods or services in the supplier’s revenue contract with the retailer).
When a retailer provides advertising to its supplier, the first
criterion will typically be met. That is, advertising will typically
be capable of being distinct because advertising companies often
sell advertising on a stand-alone basis and the supplier can derive
some economic benefit from the advertising on its own (e.g., brand
awareness) even if the supplier is not selling goods to the retailer
providing the advertising.
However, the assessment of whether advertising is distinct in the
context of the contract will often be more challenging
because an entity will frequently need to use significant judgment
to determine whether the advertising is distinct in the context
of the contract. One of the factors for determining whether
goods or services are distinct in the context of the contract is
whether they are “highly interdependent or highly interrelated” in
accordance with ASC 606-10-25-21(c). In making this determination,
an entity must evaluate whether the goods or services “are
significantly affected” by each other because “the entity would not
be able to fulfill its promise by transferring each of the goods or
services independently.” That is, the entity must consider whether
the advertising services received by the supplier and the products
purchased by the retailer are significantly affected by each other
in such a way that the retailer would not be able to fulfill its
promise to provide advertising services independently from its
purchase of products from the supplier. We believe that this factor
is similar to the determination under legacy guidance of whether the
identified benefit the supplier derives from the advertising is
sufficiently separable from the supplier’s sale of products to the
retailer.
In the evaluation of whether the advertising is providing the
supplier with a separate identifiable benefit, it may be helpful for
an entity to answer the following questions:
- Would the supplier purchase the advertising from the retailer if the supplier was not also selling its products to the retailer?
- Could the supplier purchase the same advertising from a party other than a purchaser of its products to receive the same benefit? Alternatively, is the expected benefit the supplier obtains from the retailer tied to the sale of additional products to the retailer in such a way that the advertising and the retailer’s purchase of goods from the supplier are highly interdependent and interrelated?
If the answer to at least one of these first two questions is no, it
may be difficult to demonstrate that the supplier is receiving a
distinct good or service (i.e., a separate identifiable benefit)
from the retailer. Generally, we do not believe that the supplier
would be obtaining a separate identifiable benefit from the retailer
if the predominant benefit expected to be received is the sale of
additional products to the retailer.
When a supplier sells products to a retailer that (1) sells the
products on its online platform and (2) advertises the supplier’s
products on that platform, the following additional considerations
may be helpful:
- Use of third-party platforms — Advertising campaigns that include third-party platforms (e.g., third-party search engines, social media, demand-side platforms, news publishers, digital billboards) may provide a distinct benefit to the supplier because the advertising reaches potential consumers outside the retailer’s platform and may lead to additional sales for the supplier through other sales channels. Conversely, campaigns that provide advertising only on the retailer’s platforms may not provide a distinct benefit to the supplier because the advertising will only reach potential consumers on the retailer’s platform and may only lead to additional sales for the supplier through the retailer’s platform.
- Other nonsupplier customers purchasing the same advertising services — If a retailer sells advertising services to third parties that are not suppliers, the retailer may be more easily able to demonstrate that the advertising provided to the supplier is distinct because the retailer has evidence of selling advertising on a stand-alone basis in such situations. Such evidence suggests that those customers of the retailer’s advertising services believe that the advertising will provide a benefit that is separate from sales of products to the retailer.
- Other users of the retailer’s platform that are not customers of the retailer — When a retailer has a platform that is used for reasons other than purchasing goods on the platform (i.e., users of the retailer’s platform are not just consumers of the products sold on the retailer’s platform), it may be easier to demonstrate that advertising on the retailer’s platform provides a distinct benefit to the supplier. For example, if a retailer’s platform is used for product research, advertising on the retailer’s platform might provide a distinct benefit to a supplier because the advertising may be expected to reach an audience that is not necessarily expected to complete a purchase of the supplier’s product through the retailer that is providing the advertising. Rather, the advertising may be expected to provide broad brand or product awareness that results in a benefit to the supplier that is distinct from sales of products to the retailer.
If the payments are not for a distinct good or service, the cash
consideration received by the retailer from the supplier for
advertising services should be accounted for as a reduction of the
cost of the vendor’s products. Similarly, the cash consideration
paid by the supplier to the retailer should be accounted for as a
reduction of revenue.
Connecting the Dots
Advertising contracts can take many forms, and retailers and
suppliers often have numerous arrangements for product
purchases and advertising. It is, therefore, important for
an entity to consider and understand the substance of such
contracts and arrangements to ensure that it appropriately
reflects the economics of the arrangements when determining
how to account for them. We believe that an entity should
apply the above framework and considerations irrespective of
the number of contracts between the retailer and the
supplier or when the contracts were entered into.
The examples below illustrate different fact patterns related to
online advertising provided on a retailer’s platform to its
supplier.
Example 6-27
Retailer A is a large retailer that offers a
diverse product line in its brick-and-mortar
stores as well as on multiple e-commerce
platforms. Retailer A has a wide consumer base
and, via its online platforms, in-store sales,
loyalty programs, and co-branded credit cards, has
obtained a rich set of consumer data (online and
offline) such as age, gender, geographic location,
income level, family structure, past purchases,
purchasing patterns, and preferences. Retailer A’s
online platforms are used only for product
purchases, and consumers who initially evaluate a
product on its platform typically complete the
purchase on the platform. Using its consumer data,
A has established a company owned and operated
advertising agency in which it partners with
suppliers to sell online advertisement space and
create targeted advertisements. The targeted
advertisements are only for products sold by A,
and these advertisements direct consumers to A’s
online sales platform. Retailer A has a history of
offering advertising services on a stand-alone
basis, and A’s competitors have similar
advertising offerings that are sold on a
stand-alone basis; however, A only provides
advertising services to its suppliers and no other
third party purchases advertisement space on A’s
platform.
Retailer A has a merchandising relationship
with Supplier B in which A contracts to purchase
merchandise from B to sell in its stores and
online. Supplier B’s customer is A, not the end
consumers that purchase products from A’s stores
and online platforms. In addition to the
merchandising contract, B enters into an
advertising contract with A to purchase targeted
advertising space on A’s digital properties. When
a consumer clicks on an advertisement for B’s
product, that consumer will be directed to a Web
page on A’s e-commerce platform to purchase B’s
product. Retailer A charges B an advertising fee
for these services on the basis of the number of
clicks per impression (i.e., cost per click or
CPC).
Retailer A’s Accounting for the Advertising
Agreement
To determine the appropriate accounting, A must
consider whether the advertising services it
provides to B are distinct from A’s purchases of
B’s products.
Retailer A concludes that the advertising
services are capable of being distinct because B
can derive economic benefit from the advertising
services on a stand-alone basis. Further, similar
advertising services are offered by other
third-party retailers (i.e., A’s competitors),
suggesting that the advertising services are
readily available in the marketplace.
However, A concludes that the advertising
services are not distinct within the context of
the contract (i.e., are not separately
identifiable) because the benefit received from
the advertising is highly interdependent and
highly interrelated with A’s purchase of B’s
products. That is, because the advertisements are
only on A’s platform and direct consumers to
purchase B’s products on A’s platform, the
advertising services received by B and the
products purchased by A are significantly affected
by each other in such a way that A would not be
able to fulfill its promise to provide advertising
services independently from its purchase of
products from B. Because the value B derives from
A’s advertising services is intrinsically linked
to A’s purchase of B’s products (i.e., the
predominant benefit expected to be received by B
is the sale of additional products to A), the
purchase of the advertising services is not
sufficiently separable from the purchase of B’s
products.
The following factors further support the
conclusion that the advertising services are not
separately identifiable:
- Supplier B could not purchase the advertising from A without also selling its products to A. That is, A would not enter into a contract to provide its targeted advertising services with a counterparty that was not also a supplier.
- Supplier B could not purchase the same advertising from a party other than A to receive the same benefit, as demonstrated by the fact that no other third party purchases advertisement space on A’s platform.
- Retailer A’s advertising services do not include placement on any third-party platforms, suggesting that the only substantive benefit that B will obtain from the advertising services will be through additional sales of B’s products on A’s e-commerce platform.
- No other nonsupplier customers are purchasing the same advertising services, because A only provides advertising services on its online platform to its suppliers.
- Retailer A’s platform is used by consumers only for purchasing products and does not have a large viewer base of users who do not purchase products from A.
On the basis of the above analysis, A concludes
that the advertising services provided through the
advertising contract are not distinct (i.e., not
sufficiently separable) from its purchases of B’s
products. Accordingly, the fees paid by B for the
advertising services should be accounted for as a
reduction of the cost of products purchased by A
from B.
Supplier B’s Accounting for the Advertising
Agreement
In a manner similar to the accounting analysis
performed by A, B must also consider whether the
advertising services provided by A are distinct.
We would expect B to reach the same conclusion as
A and, thus, to conclude that the advertising
services are not distinct (i.e., not sufficiently
separable) from A’s purchases of B’s products.
Accordingly, the fees paid by B for the
advertising services contract should be accounted
for as a reduction of revenue for the sale of
products to A.
Example 6-28
Assume the same facts as in the example above
except for the following:
- In addition to product purchases, Retailer A’s platforms are used for product reviews and product research. Because A tracks consumer behavior, it can demonstrate that consumers use its platform for product research and often purchase products off the platform (i.e., from A’s suppliers directly or other third-party competitors that sell the same products as A) after initially evaluating products on the platform.
- Retailer A’s owned and operated advertising agency partners with both suppliers and nonsuppliers to sell advertisement space and create targeted advertisements. Retailer A has a history of selling advertising services to third parties that are not also A’s suppliers.
- Other third-party advertising companies purchase advertisement space on A’s platform for their advertising customers, who may not be suppliers of A. Third-party advertising companies and A’s suppliers pay the same rates for advertising space.
- By leveraging its consumer data, A manages B’s advertising campaign and purchases targeted advertising space on A’s digital properties and on other third-party platforms (e.g., third-party search engines, social media, publishers). The advertising budget is established at contract inception, and A has discretion regarding where to place B’s advertisements (e.g., on site or off site) as long as the campaign objectives are met. Retailer A charges B an advertising fee for these services on the basis of the number of impressions purchased (i.e., cost per mille or CPM).
Retailer A’s Accounting for the Advertising
Agreement
To determine the appropriate accounting, A must
consider whether the advertising services it
provides to B are distinct from A’s purchases of
B’s products.
Retailer A concludes that the advertising
services are capable of being distinct because (1)
B can derive economic benefit from the advertising
services on a stand-alone basis, (2) A has a
history of selling advertising services on a
stand-alone basis to third parties that are not
also A’s suppliers, (3) other third-party
advertising companies purchase advertisement space
on A’s platform for their advertising customers
(who may not be suppliers of A), and (4) similar
advertising services are offered by other
third-party retailers (i.e., A’s competitors).
These factors suggest that the advertising
services are readily available in the
marketplace.
In addition, A concludes that the advertising
services are distinct within the context of the
contract (i.e., are separately identifiable)
because the benefit received from the advertising
is not highly interdependent or highly
interrelated with A’s purchase of B’s products.
Because of the nature and type of A’s advertising
services (i.e., on-site and off-site), the
advertising services received by B and the
products purchased by A are not significantly
affected by each other and A is able to fulfill
its promise to provide advertising services
independently from its purchase of products from
B. Because B is expected to receive a distinct
benefit from increased sales across multiple
platforms and different retailers (i.e., the
predominant benefit expected to be received by B
is not just the sale of additional products to A),
the distinct benefit is incremental to the benefit
received from A’s product purchases from B and is
sufficiently separable from the purchase of B’s
products. The following factors further support
the conclusion that the advertising services are
separately identifiable:
- Supplier B could purchase the advertising from A without also selling its products to A. Retailer A enters into contracts to provide its targeted advertising services with counterparties that are also not its suppliers.
- Supplier B could purchase the same advertising from a party other than A to receive the same benefit because other third-party advertising companies purchase advertisement space on A’s platform for their advertising customers, who may not be suppliers of A.
- Other nonsupplier customers are purchasing the same advertising services because A provides advertising services on its online platform to nonsuppliers.
- Retailer A’s platform is not just used by consumers for purchasing products and has a large viewer base of users who do not purchase products from A. The nature of A’s platform is such that consumers use the information on A’s Web site to research products. As a result, a consumer may purchase products off platform after initially evaluating products on A’s platform. Accordingly, B is expected to derive broad brand and product awareness from A’s advertising that is expected to generate additional sales of B’s products to parties other than A.
On the basis of the above analysis, we believe
that it is reasonable for A to conclude that the
advertising services provided through the
advertising contract are distinct (i.e.,
sufficiently separable) from its purchases of B’s
products. Accordingly, the fees paid by B for the
advertising services should be accounted for
separately as revenue or income. However, if the
amount of consideration paid by B exceeds the
stand-alone selling price of the distinct
advertising services, the consideration received
in excess of the stand-alone selling price should
be accounted for as a reduction of the purchase
price of the products acquired from B.
Supplier B’s Accounting for the Advertising
Agreement
In a manner similar to the accounting analysis
performed by A, B must also consider whether the
advertising services provided by A are distinct.
We would expect B to reach the same conclusion as
A and, thus, to conclude that the advertising
services are distinct (i.e., sufficiently
separable) from A’s purchases of B’s products.
However, B must also assess whether it can
reasonably estimate the fair value of the
advertising services that it will receive (which
may not correspond to the fee specified in the
contract for those services). If that fair value
can be reasonably estimated, (1) B should record
the lesser of the fair value of those services or
the consideration paid to A as an expense when the
advertising services are received and (2) any
amount of consideration paid to A that exceeds the
fair value of the advertising services received
should be accounted for as a reduction of revenue
for the sale of products to A. If, instead, the
fair value cannot be reasonably estimated, any
consideration paid to A for the advertising
services should be entirely accounted for as a
reduction of revenue.
Connecting the Dots
In the above examples, the retailer is internally operating
its advertising agency services. If a retailer uses a third
party to operate all or a portion of its advertising
services, as noted earlier, the retailer must assess whether
it is the principal or agent for the underlying advertising
services. For more information about principal-versus-agent
considerations, see Chapter 10.
In addition, entities will need to carefully evaluate all
relevant facts and circumstances when determining the
appropriate accounting treatment for advertising
arrangements. Further, a contract to provide advertising
services to a supplier may include various advertising
services, some of which could be distinct while others might
not. It is important to carefully analyze the nature of the
promised services to determine the appropriate
accounting.
6.6.3 Accounting for Up-Front Payments to Customers
In developing the revenue standard, the FASB and IASB did not
broadly reconsider the accounting for up-front payments made to customers. While
the revenue standard provides explicit guidance on accounting for payments made
to customers, such guidance does not distinguish the accounting for payments
made to customers at the inception of the contract (i.e., up-front payments)
from the accounting for payments made to customers during the contract
period.
The revenue standard specifies that if consideration paid to a
customer is not in exchange for a distinct good or service, the consideration
paid should be reflected as a reduction of the transaction price that is
allocated to the performance obligations in the contract. If an up-front payment
is made as part of an enforceable contract with a customer (i.e., a contract
that meets all of the criteria in ASC 606-10-25-1, as discussed in Section 4.3), treating
that payment as a reduction of the transaction price would result in the
recording of an asset for the up-front payment made, which would then be
recognized as a reduction of revenue as the promised goods or services are
transferred to the customer. The recording of an asset and subsequent
amortization is predicated on the fact that the asset represents an advance of
funds to the customer, which the entity recovers as goods or services are
transferred to the customer.
However, the revenue standard is less clear on the accounting
for up-front payments when either (1) a revenue contract does not yet exist
(i.e., an entity makes a payment to incentivize the customer to enter into a
revenue contract with the entity) or (2) an up-front payment is related to goods
or services to be transferred under a current contract and anticipated future
contracts.
Connecting the Dots
Implementation Q&A 43 (compiled from previously
issued TRG Agenda Papers 59 and 60) discusses how an entity should account for an
up-front payment made to a customer when (1) a revenue contract does not
yet exist (i.e., an entity makes a payment to incentivize a customer to
enter into a revenue contract with the entity) or (2) the up-front
payment is related to goods or services to be transferred under a
current contract and anticipated future contracts. That Q&A presents
the following two views on when an up-front payment to a customer should
be recognized as a reduction of revenue:
-
View A — A payment to a customer should be recognized as an asset and amortized as a reduction of revenue as the entity provides the customer with the related goods or services (i.e., the expected total purchases resulting from the up-front payment). Under this approach, the up-front payment may be recognized as a reduction of revenue over a period that is longer than the currently enforceable contract term.
-
View B — Payments to customers should be recognized as a reduction of revenue only over the current contract term. If a contract does not yet exist, the up-front payment should be recognized as a reduction of revenue immediately.
Implementation Q&A 43 indicates that View A would often be appropriate and that if an asset is recorded, it should be an asset as defined in FASB Concepts Statement 6.10 In addition, View B would sometimes be appropriate.
However, as also stated in Implementation Q&A 43,
the selection of either view is not an accounting policy election but
should be made after entities “understand the reasons for the payment,
the rights and obligations resulting from the payment (if any), the
nature of the promise(s) in the contract (if any), and other relevant
facts and circumstances for each arrangement when determining the
appropriate accounting.” Further, while acknowledging that some
diversity in practice may continue under the revenue standard, the FASB
staff emphasized that the standard’s requirement to provide increased
disclosure about judgments made in the determination of the transaction
price should help financial statement users understand an entity’s
accounting for up-front payments to customers.
For additional information and Deloitte’s summary of the
Implementation Q&As, see Appendix
C.
When determining how to account for an up-front payment to a
customer that is not in exchange for a distinct good or service, an entity
should first consider whether the up-front payment meets the definition of an
asset.
Connecting the Dots
In December 2021, the FASB issued FASB Concepts Statement 8, Chapter 4, whose guidance supersedes that in FASB Concepts Statement 6, including guidance on the definition of an asset. Under the legacy guidance of FASB Concepts Statement 6, assets are defined as “probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.” FASB Concepts Statement 8,
Chapter 4, updates this definition by providing that “[a]n asset is a
present right of an entity to an economic benefit,” further noting that
“[a]n asset has the following two essential characteristics:
- It is a present right.
- The right is to an economic benefit.”
Paragraph BC4.9 of FASB Concepts Statement 8, Chapter 4, states:
When
applied as intended, the definitions of assets and liabilities in
Concepts Statement 6 were not fundamentally problematic. However,
those definitions were often misunderstood. As a result, the Board
concluded that improving the definitions in Concepts Statement 6 by
making them clearer and more precise would enhance consistent
application of the definitions in developing standards.
While the Board made clarifications to the definition of an asset, we do not believe that the definition of an asset as updated in FASB Concepts Statement 8, Chapter 4, would result in a change in practice when
entities determine whether up-front payments to customers should be
recognized as assets.
In a speech at the 2016 AICPA Conference on
Current SEC and PCAOB Developments, Ruth Uejio, then a professional accounting
fellow in the OCA, provided the following guidance on determining whether an
up-front payment constitutes an asset:
From my perspective,
a company must first determine what the payment was made for. The following
are some of the questions that OCA staff may focus on to understand the
nature and substance of the payment:
-
What are the underlying economic reasons for the transaction? Why is the payment being made?
-
How did the company communicate and describe the nature of the payment to its investors?
-
What do the relevant contracts governing the payment stipulate? Does the payment secure an exclusive relationship between the parties? Does the payment result in the customer committing to make a minimum level of purchases from the vendor?
-
What is the accounting basis for recognizing an asset, or recognizing an upfront payment immediately through earnings?
Once a company has determined the substance
of the payment, I believe a company should account for the payment using an
accounting model that is consistent with the identified substance of the
payment and relevant accounting literature. Additionally, companies should
establish accounting policies that are consistently applied. I’d highlight
that there should be a neutral starting point in the accounting evaluation
for these types of arrangements. I believe that registrants must carefully
evaluate all of the facts and circumstances in arriving at sound judgments,
and should perform the analysis impartially. Additionally, in my view
“matching” is not a determinative factor to support asset
recognition.
To recognize an up-front payment to a customer as an asset, an
entity needs to be assured that it has obtained a present right to an economic
benefit in exchange for providing the customer with the up-front payment. In
evaluating whether an up-front payment to a customer meets the definition of an
asset, an entity should consider the following:
-
Whether the up-front payment is expected to be recovered through the customer’s purchases under the initial contract or an anticipated contract.
-
The entity’s history of renewals with that specific customer or similar classes of customers.
-
The negotiation process for the up-front payment and how the payment is characterized in the contract with the customer.
If the entity determines that the payment meets the definition
of an asset, the payment should be recognized as an asset and subsequently
“amortized” as a reduction of revenue as the related goods or services are
provided to the customer over a period that may continue beyond the current
contract term. If, on the other hand, the payment does not meet the definition
of an asset, it may be more appropriate to recognize the payment as a reduction
of revenue immediately. For example, we believe that for an asset to be
recognized, the payment must be recoverable. In our view, it would be reasonable
for an entity to assess recoverability by performing the same analysis it uses
to evaluate the costs of obtaining or fulfilling a contract under ASC
340-40.
Connecting the Dots
The SEC observer at the November 2016 TRG meeting noted
that an entity will need to use judgment in assessing up-front payments
to customers and emphasized that the entity must appropriately disclose
its conclusions related to the up-front payments in both its financial
statements and MD&A. In addition, the SEC observer noted that the
SEC staff intends to form its views on the topic by analyzing the
guidance in the revenue standard independently of its past decisions
that were based on the legacy guidance in ASC 605.
6.6.4 Warranty Payments Versus Variable Consideration
6.6.4.1 Accounting for Liquidating Damage Obligations as Warranties or Variable Consideration
Some contracts (e.g., service level agreements) provide for liquidating
damages or similar features that specify damages in the event that the
vendor fails to deliver future goods or services or the vendor’s performance
fails to achieve certain specifications.
In general, cash refunds, liquidating damages, fines, penalties, or other
similar features should be evaluated as variable consideration, as
illustrated in Example 20 in ASC 606-10-55-194 through 55-196 (reproduced
below). However, an entity must consider the specific facts and
circumstances in reaching this conclusion.
ASC 606-10
Example 20 — Penalty Gives Rise to
Variable Consideration
55-194 An entity enters into
a contract with a customer to build an asset for $1
million. In addition, the terms of the contract
include a penalty of $100,000 if the construction is
not completed within 3 months of a date specified in
the contract.
55-195 The entity concludes
that the consideration promised in the contract
includes a fixed amount of $900,000 and a variable
amount of $100,000 (arising from the penalty).
55-196 The entity estimates
the variable consideration in accordance with
paragraphs 606-10-32-5 through 32-9 and considers
the guidance in paragraphs 606-10-32-11 through
32-13 on constraining estimates of variable
consideration.
In limited situations, consideration paid to a customer that is required
under a warranty or similar claim may be accounted for in a manner
consistent with the warranty guidance in ASC 606-10-55-30 through 55-35.
Under ASC 606-10-32-25 through 32-27, consideration paid to a customer is a
reduction of the transaction price unless the payment is in exchange for a
distinct good or service. There may be limited situations in which the
consideration paid to a customer is intended to reimburse the cost of
warranty services that the customer has incurred directly and that the
vendor would have otherwise been obligated to provide to the customer. In
these limited instances, it would be appropriate to account for the
reimbursement amount paid to the customer as an in-substance assurance- or
service-type warranty.
Example 6-29
An entity sells a product to its customer. Shortly
after the purchase (within the warranty period), the
product does not perform as intended because of a
malfunctioning part. The customer pays a third-party
contractor $100 to fix the malfunctioning part. In
accordance with the warranty terms of the contract,
the entity reimburses the customer for the cost of
the third-party repairs ($100).
The cash reimbursement amount paid
to the customer is based on the cost of repairing
the product and is in accordance with the standard
warranty terms of the product. The vendor should
account for the repair cost as an assurance-type
warranty cost in accordance with ASC 606-10-55-32.
As a result, the $100 is presented as an expense
rather than a reduction of revenue.
6.6.4.2 Accounting for a Refund of the Purchase Price Following the Customer’s Return of a Defective Item
ASC 606-10-55-30 through 55-35 provide guidance on the accounting for
warranties under which an entity promises to repair or replace defective
items, requiring that the warranty obligation be accounted for either as a
separate performance obligation (for “service-type” warranties) or in
accordance with the guidance on product warranties in ASC 460-10 on
guarantees (for “assurance-type” warranties). The warranties guidance is
discussed in Section 5.5.
Entities will sometimes provide a customer with a full or partial refund with
respect to a defective item. This might be the only option offered to the
customer (i.e., the entity does not offer to repair or replace defective
items); alternatively, the customer may be entitled to choose between
receiving a refund and having the defective item repaired or replaced. A
right to receive such a refund might sometimes be described as a
“warranty.”
The guidance on accounting for warranties in ASC 606-10-55-30 through 55-35
should not be applied to an obligation to provide a full or partial refund
of consideration received for defective products. When amounts are expected
to be refunded to a customer for a defective product, a refund liability
should be recognized in accordance with ASC 606-10-32-10. The amount
expected to be refunded is consideration payable to a customer and therefore
reduces revenue in accordance with ASC 606-10-32-25 through 32-27. Because
the consideration payable to the customer includes a variable amount, the
entity would also need to estimate the transaction price in accordance with
ASC 606-10-32-5 through 32-13.
This accounting appropriately reflects that when a full or partial refund is
offered, the product delivered to the customer and the consideration payable
for that product are both different from what was originally agreed. If no
refund is due (i.e., there is no warranty claim), the entity receives full
payment for a product that meets agreed-upon specifications, whereas in the
case of a full refund, the entity has not delivered a functioning product
and has received no payment. A partial refund reflects that the entity has
accepted a lower price for an imperfect product.
In contrast, in the case of an assurance-type warranty, neither what is
delivered to the customer (a product meeting agreed-upon specifications) nor
the price eventually paid by the customer varies. Instead, the cost to the
entity of delivery varies, and this variability is appropriately reflected
in the warranty costs recognized in accordance with ASC 460-10 (or in the
costs of fulfilling the performance obligation in a service-type
warranty).
When an entity offers customers a choice between receiving a refund and
accepting repair or replacement of defective items, it will be necessary to
estimate the extent to which customers will choose each option and then
account for each obligation accordingly.
An entity will be required to use judgment to determine the appropriate
treatment of any additional amount paid to a customer over and above the
amount originally paid by the customer for the product.
6.6.5 Applying the Guidance on Consideration Received From a Vendor
ASU 2014-09 added ASC 705-20 to provide specific guidance on
consideration received from a vendor.
ASC 705-20
25-1 Consideration from a
vendor includes cash amounts that an entity receives or
expects to receive from a vendor (or from other parties
that sell the goods or services to the vendor).
Consideration from a vendor also includes credit or
other items (for example, a coupon or voucher) that the
entity can apply against amounts owed to the vendor (or
to other parties that sell the goods or services to the
vendor). The entity shall account for consideration from
a vendor as a reduction of the purchase price of the
goods or services acquired from the vendor unless the
consideration from the vendor is one of the
following:
-
In exchange for a distinct good or service (as described in paragraphs 606-10-25-19 through 25-22) that the entity transfers to the vendor
-
A reimbursement of costs incurred by the entity to sell the vendor’s products
-
Consideration for sales incentives offered to customers by manufacturers.
25-2 If the consideration from
a vendor is in exchange for a distinct good or service
(see paragraphs 606-10-25-19 through 25-22) that an
entity transfers to the vendor, then the entity shall
account for the sale of the good or service in the same
way that it accounts for other sales to customers in
accordance with Topic 606 on revenue from contracts with
customers. If the amount of consideration from the
vendor exceeds the standalone selling price of the
distinct good or service that the entity transfers to
the vendor, then the entity shall account for such
excess as a reduction of the purchase price of any goods
or services acquired from the vendor. If the standalone
selling price is not directly observable, the entity
shall estimate it in accordance with paragraphs
606-10-32-33 through 32-35.
25-3 Cash consideration
represents a reimbursement of costs incurred by the
entity to sell the vendor’s products and shall be
characterized as a reduction of that cost when
recognized in the entity’s income statement if the cash
consideration represents a reimbursement of a specific,
incremental, identifiable cost incurred by the entity in
selling the vendor’s products or services. If the amount
of cash consideration paid by the vendor exceeds the
cost being reimbursed, that excess amount shall be
characterized in the entity’s income statement as a
reduction of cost of sales when recognized in the
entity’s income statement.
25-4 Manufacturers often sell
their products to resellers who then sell those products
to consumers or other end users. In some cases,
manufacturers will offer sales discounts and incentives
directly to consumers — for example, rebates or coupons
— in order to stimulate consumer demand for their
products. Because the reseller has direct contact with
the consumer, the reseller may agree to accept, at the
point of sale to the consumer, the manufacturer’s
incentives that are tendered by the consumer (for
example, honoring manufacturer’s coupons as a reduction
to the price paid by consumers and then seeking
reimbursement from the manufacturer). In other
instances, the consumer purchases the product from the
reseller but deals directly with the manufacturer
related to the manufacturer’s incentive or discount (for
example, a mail-in rebate).
The recognition guidance in ASC 705-20-25 on consideration
received from a vendor has certain conceptual similarities to the measurement
guidance in ASC 606-10-32 on consideration payable to a customer.
ASC 606-10-32-25 states, in part, that an “entity shall account
for consideration payable to a customer as a reduction
of the transaction price and, therefore, of revenue
unless the payment to the customer is in exchange for a
distinct good or service (as described in paragraphs 606-10-25-18
through 25-22) that the customer transfers to the entity” (emphasis added).
Under ASC 606-10-32-26, “[i]f consideration payable to a customer is a payment
for a distinct good or service from the customer, then an entity shall account
for the purchase of the good or service in the same way that
it accounts for other purchases from suppliers. If the amount of
consideration payable to the customer exceeds the fair value of the distinct
good or service that the entity receives from the customer, then the entity
shall account for such an excess as a reduction of the transaction price”
(emphasis added).
Similarly, under ASC 705-20-25-1 and 25-2, an entity will need
to determine whether consideration from a vendor is in
exchange for a distinct good or service (as described in ASC
606-10-25-19 through 25-22) that the entity transfers to the vendor. If an
entity concludes that consideration received from a vendor is related to
distinct goods or services provided to the vendor, the entity should account for
the consideration received from the vendor in the same way
that it accounts for other sales (e.g., in accordance with ASC 606 if
distinct goods or services are sold to a customer). If the consideration is not
in exchange for a distinct good or service and is also unrelated to the items
described in ASC 705-20-25-1(b) and (c), the entity should account for
consideration received from a vendor as a reduction of the
purchase price of the goods or services acquired from the vendor. Also
similar to the guidance in ASC 606-10-32-25 and 32-26 is the requirement in ASC
705-20-25-2 that any excess of the consideration received from the vendor over
the stand-alone selling price of the good or service provided to the vendor
should be accounted for as a reduction of the purchase price of any goods or
services purchased from the vendor.11
Connecting the Dots
Under legacy U.S. GAAP (specifically, ASC 605-50),
consideration received from a vendor could be accounted for as revenue
(or other income, as appropriate) only if a separate benefit was
provided to the vendor. For that condition to be met, the identified
benefit provided would need to (1) be sufficiently separable from the
customer’s purchase of the vendor’s products and (2) have a readily
determinable fair value.
ASC 705-20 retains the “separate identified benefit”
concept, although it provides, in a manner consistent with the ASC 606
framework, that for a customer to account for consideration received
from a vendor as revenue, the consideration received must be in exchange
for the transfer of a distinct good or service. However, ASC 705-20 does
not require the distinct good or service to have a readily determinable
fair value. Rather, ASC 705-20-25-2 states, in part, that “[i]f the
standalone selling price is not directly observable, the entity shall
estimate it in accordance with paragraphs 606-10-32-33 through 32-35.”
This provision differs from the guidance in ASC 606 that allows an
entity to separately account for a distinct good or service obtained
from a customer only if the entity can reasonably estimate the fair
value of the good or service. Specifically, ASC 606-10-32-26 states, in
part, that “[i]f the entity cannot reasonably estimate the fair value of
the good or service received from the customer, it shall account for all
of the consideration payable to the customer as a reduction of the
transaction price.” Under ASC 705-20, an entity may separately account
for a good or service provided to a vendor regardless of whether the
entity can reasonably estimate the fair value of the good or
service.
The concepts in Section 6.6.2.1 that address how to
evaluate whether consideration payable to a customer is in exchange for distinct
goods or services purchased from a customer are also applicable to the
determination of whether consideration received from a vendor is in exchange for
distinct goods or services delivered to a vendor.
Notwithstanding the similarities between ASC 705-20 and ASC 606,
determining whether an entity is a customer or a vendor in certain arrangements
may be challenging. As discussed in Section 3.2.8, there are certain
arrangements in which an entity may enter into one or more contracts with
another entity that is both a customer and a vendor. That is, the reporting
entity may enter into one or more contracts with another entity to (1) sell
goods or services that are an output of the reporting entity’s ordinary
activities in exchange for consideration from the other entity and (2) purchase
goods or services from the other entity. In these types of arrangements, the
reporting entity will need to use judgment to determine whether the other entity
is predominantly a customer or predominantly a vendor. This determination might
not be able to be made solely on the basis of the contractual terms. In such
cases, the reporting entity will need to consider the facts and circumstances of
the overall arrangement with the other entity. The example below illustrates an
arrangement in which this issue may arise and discusses how the reporting entity
may determine whether the other entity in the arrangement is predominantly a
customer or predominantly a vendor. This distinction may be important to
determining whether the reporting entity should apply the guidance on
consideration payable to a customer in ASC 606 or the guidance on consideration
received from a vendor in ASC 705-20.
Example 6-30
Entity B offers digital media analytics
products and services that report on digital activity to
identify trends and provide insights to customers.
Entity B purchases data from third-party operators,
which it analyzes, measures, and combines with a wide
variety of other data obtained from various sources for
use in the products and services that it sells to its
customers.
Entity B has entered into an agreement
with Operator C, a telecommunications company, to
purchase C’s data. Operator C’s data will be combined
with data provided from other sources, analyzed, and
used as an input for delivering data subscription
services to B’s customers. Before negotiating the
agreement to purchase C’s data, B entered into an
agreement to provide data subscription services and
several other services to C. Consequently, B has
contracts with C to (1) purchase data from C in exchange
for cash consideration and (2) sell various services to
C in exchange for cash consideration.
Since C could be viewed as both a
customer and a vendor of B, B evaluates whether C is
predominantly a customer or predominantly a vendor in
their arrangement. Entity B’s conclusion may determine
whether (1) the consideration paid to C for C’s data
should be analyzed under ASC 606 (i.e., potentially as a
reduction of the transaction price for the data
subscription services provided to C) or (2) the
consideration received from C for the data subscription
services should be analyzed under ASC 705-20 (i.e.,
potentially as a reduction of the purchase price of the
data provided to B).
To determine whether C is predominantly
a customer or predominantly a vendor in the arrangement,
B considers qualitative and quantitative factors,
including the following:
-
The extent to which the data purchased from C are important to B’s ability to successfully sell its products and services to customers (e.g., whether C’s data represent a significant portion of all of the data analyzed and included in B’s products and services), or the extent to which the services purchased from B are important to C (e.g., whether C attributes significant value to the insights obtained from the data services provided by B).
-
The quantitative significance of B’s past, current, and expected future (1) purchases of data from C and (2) sales of data subscription services to C.
-
The extent to which B (1) sells other products and services to C and (2) purchases other products and services from C.
-
The historical relationship between B and C, as applicable.
-
The pricing of B’s products and services sold to C as compared with the pricing of products and services that B sells to other customers of similar size and nature.
-
The pricing of C’s data purchased by B as compared with the pricing of similar data that B purchases from other vendors.
-
The substance of the contract negotiation process or contractual terms between B and C, which may indicate that (1) B is the customer and C is the vendor or (2) C is the customer and B is the vendor.
-
The payment terms and cash flows between B and C.
-
The significance of other parties involved in the arrangement.
Regardless of whether B concludes that C
is predominantly a customer or predominantly a vendor in
the arrangement, B must evaluate whether its purchase of
C’s data is distinct from the services sold to C in
accordance with ASC 705-20 or ASC 606.
In addition, if the consideration paid
to C is accounted for under ASC 606 and B has concluded
that the consideration payable to C is a payment for a
distinct good or service, B should account for the
purchase of the data in the same way that it accounts
for other purchases from suppliers. However, B must
evaluate whether the consideration paid to C for the
data represents the fair value of the data received. If
the amount of consideration payable to C exceeds the
fair value of the data that B receives from C, B should
account for such an excess as a reduction of the
transaction price. If B cannot reasonably estimate the
fair value of the data received from C, it should
account for all of the consideration payable to C as a
reduction of the transaction price.
If the consideration received from C is
instead accounted for under ASC 705-20 and B has
concluded that the consideration from C is in exchange
for a distinct good or service, B should account for the
sale of the service in the same way that it accounts for
other sales to customers in accordance with ASC 606.
However, B must evaluate whether the services sold to C
were sold at the stand-alone selling price. If the
amount of consideration received from C exceeds the
stand-alone selling price of the services that B
transfers to C, B should account for the excess as a
reduction of the purchase price of the data acquired
from C.
Footnotes
7
In accordance with ASC 340-40, H should
consider whether the credit should be (1) expensed
or (2) recognized as a cost of obtaining a
contract (i.e., the contract with a new customer)
and evaluated for capitalization.
8
While this section discusses coupons, price
concessions that an entity intends to provide may be in other forms,
such as cash payments, rebates, and account credits. These would
also be regarded as forms of variable consideration.
9
ASC 705-20 also contains two other
exceptions that are not addressed in this section,
specifically situations in which (1) the supplier reimburses
the retailer for the costs of selling the supplier’s
products and (2) a manufacturer pays for sales incentives
offered to the retailer’s customers.
10
Since the issuance of the Implementation
Q&As, FASB Concepts Statement 6 has been superseded by FASB Concepts Statement 8, Chapter 4, which updates the definition of
an asset. However, as discussed below, we do not believe that
the definition of an asset as updated would result in a change
in practice.
11
If an entity concludes that the consideration received
from a vendor was not in exchange for a distinct good or service that
the entity transferred to the vendor, the entity will be required under
ASC 705-20-25-1 to (1) determine whether the consideration received was
either a reimbursement of costs incurred by the entity to sell the
vendor’s products or consideration for sales incentives offered to
customers by manufacturers and (2) account for the consideration
received accordingly.