7.4 Allocation of a Discount
It is not uncommon for contracts containing multiple goods and services to
include a discounted bundled price rather than the sum of the individual goods’ or
services’ respective stand-alone selling prices (see the Codification example in
Section 7.2). In accordance
with the general allocation principle discussed in Section 7.2, the discounted transaction price
is allocated proportionately to each distinct good and service on the basis of its
relative stand-alone selling price. However, there may be instances in which the
result of this allocation approach does not faithfully depict the amount of
consideration to which the entity expects to be entitled in exchange for the
underlying goods or services. That is, the allocation approach may result in revenue
recognition that is inconsistent with the core principle in the revenue standard.
This may occur, for example, if certain goods or services are routinely sold at a
very low margin while others are routinely sold at a very high margin. An entity may
routinely discount the high-margin goods or services but not discount the low-margin
goods or services. Allocating a discount proportionately to these goods or services
may result in an allocated amount that does not accurately depict the amount of
consideration to which the entity expects to be entitled in exchange for the goods
or services. Consequently, ASC 606-10-32-37 provides an exception for allocating a
discount to one or more, but not all, distinct goods or services in a contract if
certain criteria are met.
ASC 606-10
32-36 A customer receives a discount for purchasing a bundle of goods or services if the sum of the
standalone selling prices of those promised goods or services in the contract exceeds the promised
consideration in a contract. Except when an entity has observable evidence in accordance with paragraph
606-10-32-37 that the entire discount relates to only one or more, but not all, performance obligations in a
contract, the entity shall allocate a discount proportionately to all performance obligations in the contract. The
proportionate allocation of the discount in those circumstances is a consequence of the entity allocating the
transaction price to each performance obligation on the basis of the relative standalone selling prices of the
underlying distinct goods or services.
32-37 An entity shall allocate a discount entirely to one or more, but not all, performance obligations in the
contract if all of the following criteria are met:
- The entity regularly sells each distinct good or service (or each bundle of distinct goods or services) in the contract on a standalone basis.
- The entity also regularly sells on a standalone basis a bundle (or bundles) of some of those distinct goods or services at a discount to the standalone selling prices of the goods or services in each bundle.
- The discount attributable to each bundle of goods or services described in (b) is substantially the same as the discount in the contract, and an analysis of the goods or services in each bundle provides observable evidence of the performance obligation (or performance obligations) to which the entire discount in the contract belongs.
32-38 If a discount is allocated entirely to one or more performance obligations in the contract in accordance
with paragraph 606-10-32-37, an entity shall allocate the discount before using the residual approach to
estimate the standalone selling price of a good or service in accordance with paragraph 606-10-32-34(c).
Paragraph BC283 of ASU 2014-09 summarizes the views of the FASB and IASB on the application of ASC
606-10-32-37:
The Boards . . . noted that paragraph 606-10-32-37 would typically apply to contracts for which there are at least
three performance obligations. This is because an entity could demonstrate that a discount relates to two or
more performance obligations when it has observable information supporting the standalone selling price of a
group of those promised goods or services when they are sold together. The Boards noted it may be possible
for an entity to have sufficient evidence to be able to allocate a discount to only one performance obligation in
accordance with the criteria in paragraph 606-10-32-37, but the Boards expected that this could occur in only rare
cases.
The example below, which is reproduced from ASC 606, illustrates how an entity would
allocate a discount when there are multiple performance obligations.
ASC 606-10
Example 34 — Allocating a Discount
55-259 An entity regularly sells
Products A, B, and C individually, thereby establishing the
following standalone selling prices:
55-260 In addition, the entity
regularly sells Products B and C together for $60.
Case A — Allocating a Discount to One or
More Performance Obligations
55-261 The entity enters into a
contract with a customer to sell Products A, B, and C in
exchange for $100. The entity will satisfy the performance
obligations for each of the products at different points in
time.
55-262 The contract includes a
discount of $40 on the overall transaction, which would be
allocated proportionately to all 3 performance obligations
when allocating the transaction price using the relative
standalone selling price method (in accordance with
paragraph 606-10-32-36). However, because the entity
regularly sells Products B and C together for $60 and
Product A for $40, it has evidence that the entire discount
should be allocated to the promises to transfer Products B
and C in accordance with paragraph 606-10-32-37.
55-263 If the entity transfers
control of Products B and C at the same point in time, then
the entity could, as a practical matter, account for the
transfer of those products as a single performance
obligation. That is, the entity could allocate $60 of the
transaction price to the single performance obligation and
recognize revenue of $60 when Products B and C
simultaneously transfer to the customer.
55-264 If the contract requires the
entity to transfer control of Products B and C at different
points in time, then the allocated amount of $60 is
individually allocated to the promises to transfer Product B
(standalone selling price of $55) and Product C (standalone
selling price of $45) as follows:
Case B — Residual Approach Is
Appropriate
55-265 The entity enters into a
contract with a customer to sell Products A, B, and C as
described in Case A. The contract also includes a promise to
transfer Product D. Total consideration in the contract is
$130. The standalone selling price for Product D is highly
variable (see paragraph 606-10-32-34(c)(1)) because the
entity sells Product D to different customers for a broad
range of amounts ($15 – $45). Consequently, the entity
decides to estimate the standalone selling price of Product
D using the residual approach.
55-266 Before estimating the
standalone selling price of Product D using the residual
approach, the entity determines whether any discount should
be allocated to the other performance obligations in the
contract in accordance with paragraphs 606-10-32-37 through
32-38.
55-267 As in Case A, because the
entity regularly sells Products B and C together for $60 and
Product A for $40, it has observable evidence that $100
should be allocated to those 3 products and a $40 discount
should be allocated to the promises to transfer Products B
and C in accordance with paragraph 606-10-32-37. Using the
residual approach, the entity estimates the standalone
selling price of Product D to be $30 as follows:
55-268 The entity observes that the
resulting $30 allocated to Product D is within the range of
its observable selling prices ($15 – $45). Therefore, the
resulting allocation (see above table) is consistent with
the allocation objective in paragraph 606-10-32-28 and the
guidance in paragraph 606-10-32-33.
Case C — Residual Approach Is
Inappropriate
55-269 The same facts as in Case B
apply to Case C except the transaction price is $105 instead
of $130. Consequently, the application of the residual
approach would result in a standalone selling price of $5
for Product D ($105 transaction price less $100 allocated to
Products A, B, and C). The entity concludes that $5 would
not faithfully depict the amount of consideration to which
the entity expects to be entitled in exchange for satisfying
its performance obligation to transfer Product D because $5
does not approximate the standalone selling price of Product
D, which ranges from $15 – $45. Consequently, the entity
reviews its observable data, including sales and margin
reports, to estimate the standalone selling price of Product
D using another suitable method. The entity allocates the
transaction price of $105 to Products A, B, C, and D using
the relative standalone selling prices of those products in
accordance with paragraphs 606-10-32-28 through 32-35.
The two examples below further illustrate how an entity may allocate
a discount in a contract.
Example 7-13
Entity W regularly sells Item A, Item B, and
Item C on a stand-alone basis. The stand-alone selling price
(SSP) of each item is shown in the following table:
On January 1, 20X1, W enters into a contract
with a customer to provide the customer with one of each
item for consideration of $135 (a $15 discount) in
accordance with the following schedule:
Assume that W also sells bundles regularly
at combined prices as follows:
On the basis of the selling prices of the
bundled goods, the entity does not
have sufficient evidence to demonstrate that the discount in
the contract is related to any specific performance
obligation (i.e., the evidence does not support a
determination that the discount is anything more than a
volume-based discount attributable to a customer’s purchase
of a bundle of items).
Accordingly, the discount of $15 should be
allocated pro rata to each of the performance obligations on
the basis of their individual stand-alone selling prices as
follows:
The entity would therefore recognize revenue
as follows:
-
When Item A is transferred, recognize revenue of $27 ($30 – $3).
-
When Item B is transferred, recognize revenue of $63 ($70 – $7).
-
When Item C is transferred, recognize revenue of $45 ($50 – $5).
Thus, the total revenue recognized on the
contract is $135 ($27 + $63 + $45).
Example 7-14
Assume the same facts as in the example
above, except that the entity regularly sells bundles at
combined prices as follows:
In this scenario, the evidence based on the
selling prices of the bundled goods supports a determination
that (1) there is a discount of $15 when the entity sells a
bundle of two items that includes Item A and (2) there is a
discount of $0 for all other bundles that contain items
other than Item A. Consequently, it is reasonable to
conclude that the discount of $15 should be allocated
entirely to Item A in accordance with ASC 606-10-32-37.
The entity would recognize revenue as
follows:
-
When Item A is transferred, recognize revenue of $15 ($30 [stand-alone selling price of Item A] – $15 [full discount]).
-
When Item B is transferred, recognize revenue of $70.
-
When Item C is transferred, recognize revenue of $50.
Thus, the total revenue recognized on the
contract is $135 ($15 + $70 + $50).
7.4.1 Application of the Discount Allocation Guidance to Goods or Services Not Sold Separately
Generally, for the criterion in ASC 606-10-32-37(a) to be met,
the entity will regularly sell and therefore have observable prices for all of
the performance obligations in the contract to allocate a discount to one or
more (rather than all) of the performance obligations. However, there may be
instances in which an entity does not regularly sell each distinct good or
service, but regularly sells some of the distinct goods and services as a bundle
and regularly sells other distinct goods and services separately. In these
cases, an entity may be able to conclude that the discount is allocable to the
bundle of distinct goods and services.
This determination requires judgment. In all cases, an entity
should maximize the use of observable evidence when determining stand-alone
selling prices and allocating discounts. An entity should exercise caution when
considering whether to allocate a discount in an arrangement to a distinct good
or service that is not sold separately since the stand-alone selling price needs
to be estimated.
The example below illustrates how an entity may allocate a
discount to a bundle of distinct goods and services.
Example 7-15
Company X enters into a contract to sell
License A, Service B, and Service C. In addition, X
regularly sells, and therefore has observable evidence
of sales of, a bundle consisting only of License A and
Service B (“Bundle A + B”) for $50 and also regularly
sells Service C for $20.
The tables below show the stand-alone
selling price of each distinct good and service and each
bundle of distinct goods and services that X sells.
Scenario 1: Contract
Price = $70
As shown below, the value of the
discount (in dollars) in this scenario is the same for
(1) X’s observable and regular sales of Bundle A + B and
(2) the contract that requires X to transfer License A,
Service B, and Service C.
Since the observable sales price of
Bundle A + B plus the observable sales price of Service
C is equal to the contract price, there is no
incremental discount for purchasing Service C in
addition to Bundle A + B. Accordingly, X should
attribute to Bundle A + B the discount of $15 off the
total of License A’s and Service B’s respective
stand-alone selling prices to arrive at the observable
selling price of License A and Service B when sold
together.
If necessary (e.g., if the time at which
control of License A is transferred is different from
when control of Service B is transferred), $50 of
consideration (inclusive of the discount of $15) should
be allocated between License A and Service B on a
relative stand-alone selling price basis (step 2
allocation in the table below). In this fact pattern,
the absence of observable stand-alone sales of License A
does not prohibit the application of the guidance on
allocating discounts in ASC 606-10-32-27 to Bundle A +
B. Note, however, that the guidance could not be applied
if X lacked observable stand-alone selling prices for
either Service C or Bundle A + B.
The resulting allocations are as
follows:
Scenario 2: Contract
Price = $60
As shown below, when the contract price
for purchasing License A, Service B, and Service C is
$60, the contract includes a $25 discount in comparison
with the sum of the stand-alone selling prices of
License A, Service B, and Service C. Because the $25
discount in this contract is not the same as the $15
discount that a customer receives when purchasing
License A and Service B together, the $25 discount must
be allocated to each distinct good or service in the
contract.
Because the discount for purchasing
Bundle A + B ($15) is not substantially the same as the
discount provided in the contract ($25), the criterion
in ASC 606-10-32-37(c) is not met. Therefore, X may not
allocate the discount in the contract entirely to Bundle
A + B. Rather, the $25 discount should be allocated to
each distinct good or service on a relative stand-alone
selling price basis. The resulting allocations are as
follows:
Connecting the Dots
Entities often sell their goods and services in bundles
priced at a discount instead of selling each good or service separately.
Stakeholders have questioned whether the guidance in ASC 606-10-32-37 on
allocating discounts to one or more, but not all, of the performance
obligations is a requirement (i.e., whether an entity needs to prove
that it does not meet the criteria in ASC 606-10-32-37 to allocate a
discount proportionately to all of the performance obligations).
We believe that if the criteria in ASC 606-10-32-37 are
met, an entity should allocate a discount to one or more, but not all,
of the performance obligations in a contract. We believe that failing to
do so would result in an allocation that is inconsistent with the core
allocation principle of ASC 606 — namely, that an entity should allocate
the transaction price to each performance obligation in an amount that
depicts the amount of consideration to which the entity expects to be
entitled in exchange for transferring the promised goods or
services.
The level of effort required to determine whether the
criteria in ASC 606-10-32-37 are met will depend on the entity’s
specific facts and circumstances. Often, an entity’s established pricing
practice or customary business practices will provide sufficient
evidence that the criteria in ASC 606-10-32-37 are met (or not met).
However, in certain circumstances, it may not be evident that those
criteria are met (or not met), and an entity may therefore be required
to perform further analysis. Even so, we do not believe that an entity
must perform an exhaustive analysis to prove that the criteria in ASC
606-10-32-37 are not met before it can apply the general allocation
guidance in ASC 606-10-32-29 (i.e., allocate the discount
proportionately to the performance obligations).
However, in determining whether the criteria in ASC
606-10-32-37 are met, an entity should not ignore information that is
reasonably available without undue cost and effort. Entities may need to
document their pricing strategies for each good or service (which may be
part of the determination of stand-alone selling prices for each good or
service), including (1) how the goods or services are marketed, (2)
internally communicated pricing guidelines, (3) relative direct costs
attributed to goods or services, and (4) relevant market
information.
Entities may also need to assess their internal controls
to evaluate the manner in which they adhere to the requirement in ASC
606-10-32-37. An entity should develop a reasonable approach to
evaluating how discounts should be allocated, and it should apply that
approach consistently to similar contracts and in similar
circumstances.
7.4.2 Allocation of a Premium or Surplus
Entities often enter into arrangements for which the sum of the
stand-alone selling prices of the individual performance obligations exceeds the
transaction price. ASC 606-10-32-36 requires any discount under the contract to
be allocated proportionately to all performance obligations unless an entity has
observable evidence that the entire discount is related only to one or more, but
not all, of the performance obligations in the contract. ASC 606-10-32-37
specifies the criteria an entity must meet to conclude that the discount does
not need to be allocated proportionately to all performance obligations.
However, ASC 606 does not explicitly discuss situations in which
the transaction price exceeds the sum of the stand-alone selling prices of the
individual performance obligations, which would suggest that a customer is
paying a surplus or a premium for purchasing the goods or services.
Before assessing how to allocate a premium or surplus, given
that this scenario is expected to be relatively uncommon, an entity should
determine whether an apparent surplus indicates that an error, such as one of
the following, has been made in the analysis:
-
A significant financing component in the contract has not been identified.
-
The contract includes an incentive (i.e., performance bonus) that has not been identified or properly constrained.
-
Additional performance obligations have not been identified.
-
The stand-alone selling prices of performance obligations have not been correctly identified.
If, after further assessment, it is determined that a premium or
surplus exists, the entity should allocate that premium in a manner consistent
with the requirements of ASC 606 for allocation of a discount (i.e., on a
relative stand-alone selling price basis in accordance with ASC 606-10- 32-29,
subject to the exception in ASC 606-10-32-36 through 32-38).