You are on page 1of 11

5/30/2016

Application of BAS 18

Session overview

Practical insights into


application of
BAS 18 and BAS 11

Level of compliance with BFRS / BAS


Key definitions and concepts
Identification of the transaction
Sale of goods:
Revenue recognition point
Measurement of revenue
Rendering of services:
Revenue recognition point
Measuring stage of completion
Interest, royalties and dividends
Revenue recognition point

Level of compliance with BFRS macro perspective

BAS 18 Key definitions and concepts


Revenue
The gross inflow of economic benefits during the period arising in the course of the ordinary activities
of an entity when those inflows result in increases in equity, other than increases relating to
contributions from equity participants. [BAS 18 (7)]

Factors affecting individual reporting entities level of compliance with BFRS / BAS:

Size and nature of entity

Sector

Regulation

Users / purpose of financial statements

Stakeholders shareholders, lenders / donors etc.

Attitude of tax authorities

In-house expertise / resources

Fair value
The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. [BAS 18 (8)]
Measurement of revenue
Revenue shall be measured at the fair value of the consideration received or receivable. [BAS 18
(9)]
Concept of materiality
Financial statements are to be free from material misstatement.

5/30/2016

BAS 18 Identification of the transaction

BAS 18 Identification of the transaction

The recognition criteria in this Standard are usually applied separately to each transaction.

Illustrative example - Bundled arrangement

However, in certain circumstances, it is necessary to apply the recognition criteria to the separately
identifiable components of a single transaction in order to reflect the substance of the
transaction.

X is a mobile operator company that offers a package for of BDT 950 consisting of a mobile handset
and data service comprising the following separable components:

Handset
100 free MB data (valid for for a month)

Fair value
BDT
900
100

How should the revenue be recognised by X?

BAS 18 Identification of the transaction

BAS 18 Sale of goods

Illustrative example - Bundled arrangement (contd)

Point of revenue recognition


As per standard
The revenue should be recognised as follows:
Revenue from the sale of the handset should be recognised when the risks and rewards of ownership
pass to the buyer, which will normally be on delivery to the customer.
Free data transfer represent the rendering of services. Thus, free data transfer should be recognised
based on actual data usage.
Revenue should be recognized by applying the discount based upon relative fair value. The bundled
package represents a BDT 50 discount (total fair value of the individual components being
BDT 1,000 less package price of BDT 950).

Handset
Free data

FV
900
100
1000

%
90%
10%

Discount
45
5
50

Revenue
855
95
950

[BAS 18 (14)] Revenue from the sale of goods shall be recognised when all the following conditions
have been satisfied:
(a) the entity has transferred to the buyer the significant risks and rewards of ownership of the
goods;
(b) the entity retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
(c) the amount of revenue can be measured reliably;
(d) it is probable that the economic benefits associated with the transaction will flow to the entity; and
(e) the costs incurred or to be incurred in respect of the transaction can be measured reliably.

Practical considerations
Handset are sold at cost (say 800) instead of at a margin because it is through this handset the
operator gains a voice/data customer and continuing future revenue stream. Revenue recognised on
handset sale at BDT 800
Revenue recognised on data sale BDT 150 (balancing figure)

5/30/2016

BAS 18 Sale of goods: Revenue recognition point

BAS 18 Sale of goods: Revenue recognition point

Illustrative example recognition point

Illustrative example recognition point (contd)

FMCG company X has annual sales of BDT 1,500m. X delivers goods to its wholesale customers
through a third party transportation agency. As per the agreement with the transport agency, in case of
any damage incurred during transit the agency is to bear the first BDT 0.5m of the loss (per transit); the
average value of each transit / consignment is BDT 2.5m. X company faced only one damage
incidence during transit in the last five years.

As per standard
Significant risk and reward of ownership seem to remain with X during transit. Revenue should not be
recognised until goods reach customer.
Practical considerations

On 31 December 2015, X dispatched goods worth of BDT 5m via the transport agency out to the
customers.

At what stage should the revenue be recognized by X?

Most deliveries reach distributor within the same day


Recognising revenue based on issuance of goods received note not practicable given volume and
time lag
One days sale is not deemed material in context of entire years sales.

Accordingly, X recognises revenue upon despatch from its factory.

BAS 18 Sale of goods: Measurement of revenue


Illustrative example free goods
Pillar Plc is a cement manufacturing company. For every 10 bags purchased, Pillar offers a further
free bag of cement to its customers. On 1 January 2016, X sold 10 bags of cement of BDT 100
each.
How this transaction should be accounted for?

BAS 18 Sale of goods: Measurement of revenue


Illustrative example free goods (contd)
As per standard
Dr. Accounts receivable 1,000
Dr. Sales Rebate
100
Cr. Revenue
1,100
Presentation
Revenue
Less sales rebate

1,100
100
1,000

Practical considerations
In practice, entities treat sales rebates as marketing/promotion expense instead of as
reduction of revenue.
GP margin sensitivities Tax authorities and management KPI

5/30/2016

BAS 18 Sale of goods: Measurement of revenue

BAS 18 Sale of goods: Measurement of revenue

Illustrative example volume rebate / interim financials

Illustrative example volume rebate / interim financials (contd)

Company X sells goods and grants a 15% rebate to each customer that spends at least
BDT 100,000 during a calendar year (January to December). Usually, very few customers
cumulative purchases exceeds BDT 100,000 within September and the majority of sales
take place in the fourth quarter (October to December).

As per standard

X's annual reporting period is also ended on 31 December. However it prepares interim 6
months accounts up to 30 June also.

The amount of revenue recognised at the year ended 31 December should be gross
revenue less actual rebate each customer is entitled to based on their actual cumulative
purchase value at the year-end date.

X concludes that it is probable that a particular customer will buy goods worth 110,000
over the full year, reflecting its past experience and the current year's forecasts.

How should X measure its revenue as at 31 December and 30 June?


For the 30 June interim financial statements, X should estimate the number or proportion
of customers who will exceed BDT 100,000 threshold by 31 December based on past
experience, year to date (6 months sales) and forecast sales for the rest of the year. It
should then apply the 15% rebate on the 6 months sales to that many customers.
Practical considerations
Customer and product mix may change year to year
Small entities may not have retained information on sales volumes per customer or by
product

BAS 18 Sale of goods: Measurement of revenue

BAS 18 Sale of goods: Measurement of revenue

Illustrative example Right to return

Illustrative example Right to return (contd)

Super shop retailer SR offers customers the option to return goods within 30 days if they
are not fully satisfied. In December 2015, total sales was BDT 100,000. In 2014, average
sales return was 2% of sales.

As per standard
Revenue should be recognised as BDT 100,000 less returns provision of BDT 2,000, i.e.
BDT 98,000.

What amount of revenue should be recognised in December 2015?


Practical considerations

In practice we see that retail shops do not follow the above treatment. Instead, they
tend to recognize returns on an actual basis and as an admin expense. Some possible
reasons are as follows:
Limited management information
Concern over GP margin due to challenge from the tax authority
Management concerns over KPI
Product mix and customer behavior may change over time; past trend may not
reflect the future
If returns are accounted for on an actual basis, overall impact may be minimal

5/30/2016

BAS 18 Sale of goods: Measurement of revenue

BAS 18 Sale of goods: Measurement of revenue

Payment term extending beyond normal credit term

Illustrative example Interest-free credit

An entity may provide interest free credit to the buyer or accept a note receivable bearing a below market interest rate from
the buyer as consideration for the sale of goods. When the arrangement effectively constitutes a financing transaction, the
fair value of the consideration is determined by discounting all future receipts using an imputed rate of interest. The
imputed rate of interest is the more clearly determinable of either:

SBL, a manufacturer and retailer of home appliances and electronic goods, sold a refrigerator to Mr.
A for BDT 50,000 on 1 July 2015. SBLs normal practice is to allow 90 days of interest free credit to
its customers. However, a new scheme was introduced whereby customers are offered 12 month
interest free credit. The scheme was only available on purchases made between 15 June to 15 July
2015.

(a) the prevailing rate for a similar instrument of an issuer with a similar credit rating; or

(b) a rate of interest that discounts the nominal amount of the instrument to the current cash sales price of the goods or
services.

Mr. A chose to avail the interest free scheme. Current interest rate based on market-participant
assumptions for a similar level of risk is 25% (imputed rate of interest).

SBL has a 31 December year end. What is the amount of revenue to be recognised?
The difference between the fair value and the nominal amount of the consideration is recognised as interest revenue in
accordance with paragraphs 29 and 30 and in accordance with BAS 39.

17

BAS 18 Sale of goods: Measurement of revenue

18

BAS 18 Sale of goods: Measurement of revenue

Illustrative example Interest-free credit


As per standard

Practical consideration

1 July 2015

The complexities in recognising revenue from the above kind of sale stem mainly from determining a
imputed rate interest / discount rate to find out the fair value of the consideration. In practice we see
companies to using one of / combination of the following variables:

Trade receivable

Dr.

40,000 (50,000 discounted at 10%pa)

Revenue from sale of goods

Cr.

40,000

31 December 2015
Trade receivable

Dr.

5,000

Finance income

Cr.

5,000

Trade receivable

Dr.

5,000

Finance income

Cr.

5,000

Bank / Cash

Dr.

50,000

Trade receivable

Cr.

50,000

30 June 2016

19

Companys cost of borrowing funds for an identical term;

Interest rate offered in a credit card;

Rate charged to customers by competitors for a similar scheme;

Movement in bad debt expense;

Commission paid to sales man;

Cost of operating the scheme

20

5/30/2016

BAS 18 Rendering of services

BAS 18 Rendering of services

Point of revenue recognition

Point of revenue recognition Financial services fees

[BAS 18 (20)] When the outcome of a transaction involving the rendering of services can be
estimated reliably, revenue associated with the transaction shall be recognised by reference to the
stage of completion of the transaction at the end of the reporting period. The outcome of a transaction
can be estimated reliably when all the following conditions are satisfied:

[BAS 18 (IE14)] The recognition of revenue for financial service fees depends on the purposes for
which the fees are assessed and the basis of accounting for any associated financial instrument.
The description of fees for financial services may not be indicative of the nature and substance of the
services provided. Therefore, it is necessary to distinguish between:

(a) the amount of revenue can be measured reliably;


(a) fees that are an integral part of the effective interest rate of a financial instrument;
(b) it is probable that the economic benefits associated with the transaction will flow to the entity;
(b) fees that are earned as services are provided; and
(c) the stage of completion of the transaction at the end of the reporting period can be measured
reliably; and

(c) fees that are earned on the execution of a significant act.

(d) the costs incurred for the transaction and the costs to complete the transaction can be measured
reliably.

BAS 18 Rendering of services

BAS 18 Rendering of services

Illustrative example Financial services fees


Fee type

Integral part
of effective
interest

Illustrative example Financial services fees (contd)


Earned as
service is
provided

Earned on
execution of
significant act

Loan origination / arrangement fees Although the act of origination is completed upfront, such
fees may include compensation for activities such as evaluating the borrower's financial condition,
evaluating and recording guarantees, collateral and other security arrangements, negotiating the
terms of the instrument, preparing and processing documents and closing the transaction.

Loan origination

Loan servicing fees - Fees charged by an entity for servicing a loan are recognised as revenue as
the services are provided.

Loan servicing

Investment management fees - Fees charged for managing investments are recognised as revenue
as the services are provided.

Investment management
Loan syndication

Loan syndication fees - A syndication fee received by an entity that arranges a loan is
compensation for the service of syndication. Such a fee is recognised as revenue when the
syndication has been completed.

5/30/2016

BAS 18 Rendering of services

BAS 18 Rendering of services

Illustrative example Financial services fees (contd)


Fee type

Loan origination

Integral part
of effective
interest

Earned as
service is
provided

Earned on
execution of
significant act

Loan servicing
Investment management
Loan syndication

Measuring the stage of completion


[BAS 18 (24)] The stage of completion of a transaction may be determined by a variety of methods.
An entity uses the method that measures reliably the services performed. Depending on the nature of
the transaction, the methods may include:
(a) surveys of work performed;

(b) services performed to date as a percentage of total services to be performed; or

Practical considerations

Not all banks have technology to automatically integrate fees into effective interest calculation.
Minimus threshold is often applied, smaller fees are recognized upfront whilst larger fees are
manually integrated into EIR calculation (see BAS 39 session).

Fee income is increasingly become the focus area for banks

BAS 18 Rendering of services: Measurement of


revenue
Illustrative example rendering of service
Mobile operator Airnet offers a prepaid airtime package for BDT 30 whereby customers get 30
minutes talk time valid for 30 days.
A customer purchases the above package on 15 December 20X5. On 31 December 20X5 the
customer has unused balance of 20 minutes remaining.
How much revenue should Airnet recognize on by 31 December 2015 with regards to the above
customer?

(c) the proportion that costs incurred to date bear to the estimated total costs of the transaction. Only
costs that reflect services performed to date are included in costs incurred to date. Only costs that
reflect services performed or to be performed are included in the estimated total costs of the
transaction.
Progress payments and advances received from customers often do not reflect the services
performed.

BAS 18 Rendering of services: Measurement of


revenue
Illustrative example rendering of service (contd)
As per standard
Revenue should be recognized in the accounting period when the service is rendered. This should
be based on stage of completion or as in this case based on actual usage of airtime.
On 15 December 20X5
Dr. Bank/Cash
30
Cr. Unearned revenue 30
On 31 December 2015
Dr. Unearned revenue
Cr. Revenue

10*
10

On 15 January 20X6
If there are any unused minutes remaining on the packages expiry date, Airtel would recognize the
remaining revenue then as it has no remaining obligation to fulfill towards the client nor is there any
cash refund. This is referred to in the industry as elapsed minutes revenue.

5/30/2016

BAS 18 Rendering of services: Measurement of


revenue

BAS 18 Interest, royalties and dividends

Illustrative example rendering of service (contd)


Point of revenue recognition
Practical considerations

[BAS 18 (29)] Revenue arising from the use by others of entity assets yielding interest, royalties
and dividends shall be recognised on the bases set out in paragraph 30 when:

We see that there is a mix in practices in this area. Some operators is recognise revenue on
straight-line basis (i.e. equally over the 30 day period) whilst others recognize the entire
package price upfront at time of selling the package.

(a) it is probable that the economic benefits associated with the transaction will flow to
the entity; and

The above approaches, particularly upfront recognition, gives rise to cut-off errors in revenue
measurement.

(b) the amount of the revenue can be measured reliably.

Reasons include technical limitations in customer consolidating data (each operator has 2-5
crore customers) on unused minutes to arrive at a total revenue / deferred revenue figure.

[BAS 18 (29)] Revenue shall be recognised on the following bases:

On a rolling basis, opening and closing cut-off errors somewhat offset each other.

(a) interest shall be recognised using the effective interest method as set out in IAS 39,
paragraphs 9 and AG5AG8; (see BAS 39 session)
(b) royalties shall be recognised on an accrual basis in accordance with the substance of the
relevant agreement; and
(c) dividends shall be recognised when the shareholder's right to receive payment is established.

BAS 18 Interest, royalties and dividends

BAS 18 Interest, royalties and dividends


Illustrative example Interest income on loans (contd)

Illustrative example Interest income on loans

As per Standard

ABC Bank disburses a loan of BDT 20,000 for a year at a rate of 10% on 31 December 2010.
Principal and interest of BDT 22,000 is payable on maturity on 31 December 2011. At the time of
disbursement of loan the bank charged a loan origination fee of BDT 500.

Although the interest rate is 10%, the effective interest rate (EIR) is higher, i.e. 12.82%, because the
origination fee charged by the bank was considered to derive the EIR. The carrying amount of the loan is
amortized at EIR to book the interest income (Actual interest amount) over the tenor of the loan.
Period

Customer defaults the loan on due date 31 December 2011. On impairment assessment the bank
understands that they will be able to recover BDT 16,000 after another year, on 31 December 2012.
Date

Particulars

31 Dec 2010

Amount disbursed (net off fee)

19,500

31 Dec 2011

Scheduled repayment (including interest)

22,000

31 Dec 2012

Recoverable amount

16,000

2010
2011

Carry value b/f


(a)

(Payment)/ Receipt in
period
(b)

(19,500)
-

Interest income (P&L)


(c) = (a) * EIR
2,500

Carrying Value c/f


(d) = (a) + (c)

19,500
22,000

As at 31 Dec 2011 the bank assessed that only BDT 16,000 is recoverable of the loan. The carrying
amount of the loan as at the reporting date will be BDT 14,182 [i.e. 16,000/1.1282]. The initial EIR (12.82%)
will be applied on the new carrying amount to recognize interest income. The impairment loss of BDT 7,818
will be charged to P&L, the carry value is adjusted to BDT 14,182

Amount (BDT)

Period
1
2

31

Carry value b/f


(a)
14,182

(Payment)/ Receipt in period Interest income (P&L)


(b)
(c) = (a) * EIR
16,000

1,818

Carrying Value c/f


(d) = (a) + (c)
14,182
-

32

5/30/2016

BAS 18 Interest, royalties and dividends

BAS 18 Interest, royalties and dividends


Illustrative example Interest income on loans

Practical considerations - dividends

Practical considerations

Dividends Although the right to receive is normally established when the dividend is
declared in the AGM, companies normally recognise dividend income when they receive it.

BPRD 14 (master circular on loan provisioning) dictates classification of loans 60 days overdue
SMA, 90 days substandard

Interest income accrued after loan becomes substandard is posted to interest suspense account
(BS) instead of to P&L

Upon recovery, interest in suspense balance (to the extent recovered) is credited to P&L

33

BAS 11 Key definitions and concepts

Application of BAS 11

Key definitions and concepts

BAS 11 prescribes the criteria for the accounting of revenue and costs in relation to construction contracts.
Due to the nature of such contracts, the commencement and completion dates are usually well separated,
often crossing reporting period ends. The standard focuses on the allocation of revenue and costs to
those reporting periods in which the construction contract is executed.

Contract costs

The Standard shall be applied in accounting for construction contracts in the financial statements of
contractors.

Session overview

Contract costs incurred prior to securing a contract


Construction contract

Recognition of contract revenue and expenses


Reliably estimating the contract outcome
Determining stage of completion
Treatment of expected loss on contract

Contract specifically negotiated for the construction of an asset or a combination of assets that are closely
interrelated or interdependent in terms of their design, technology and function or their ultimate purpose or
use.
Fixed price contract
Construction contract in which the contractor agrees to a fixed contract price, or a fixed rate per unit of
output, which in some cases is subject to cost escalation clauses.
Cost plus contract
Construction contract in which the contractor is reimbursed for allowable or otherwise defined costs, plus a
percentage of these costs or a fixed fee.

35

36

5/30/2016

BAS 11 Contract costs

BAS 11 Contract costs

Contract costs shall comprise:

Practical considerations

(a) costs that relate directly to the specific contract (guidance given in p17);

Costs that are attributable to contract activity in general and can be allocated to the contract

(b) costs that are attributable to contract activity in general and can be allocated to the contract
(guidance given in p18); and

(c) such other costs as are specifically chargeable to the customer under the terms of the contract
(guidance given in p19).

Such costs to be allocated using methods that are systematic and rational and are applied
consistently this allows for judgement and thus we see variety of allocation methods being used

Costs outside of those stated in para 18 (insurance, design and technical assistance,
construction overheads) are often allocated to contracts

Costs that cannot be attributed to a contract and hence should be excluded from contract costs
(para 20 general admin, selling costs, R&D, depreciation of idle plant) are often allocated to
contracts.

37

38

BAS 11 recognition of contract revenue and


expenses

BAS 11 Contract costs


Contract costs incurred prior to securing a contract
[BAS 11 (21)] Contract costs include the costs attributable to a contract for the period from the date
of securing the contract to the final completion of the contract.
However, costs that relate directly to a contract and are incurred in securing the contract are also
included as part of the contract costs if they can be separately identified and measured reliably and it
is probable that the contract will be obtained.
When costs incurred in securing a contract are recognised as an expense in the period in which they
are incurred, they are not included in contract costs when the contract is obtained in a subsequent
period.
Practical considerations
Costs incurred prior to securing a contract are in practice included in the cost of any eventually
secured contracts even though there is no prior certainty of securing the contract. By doing this
these costs are built into work in progress and thus increasing revenue in that period.

When the outcome of a construction contract can be estimated reliably, contract revenue and
contract costs associated with the construction contract shall be recognised as revenue and
expenses respectively by reference to the stage of completion of the contract activity at the end of
the reporting period.

When the outcome of a construction contract cannot be estimated reliably:

(a) revenue shall be recognised only to the extent of contract costs incurred that it is probable will be
recoverable; and

(b) contract costs shall be recognised as an expense in the period in which they are incurred.

An expected loss on the construction contract shall be recognised as an expense immediately.

39

40

10

5/30/2016

BAS 11 recognition of contract revenue and


expenses

BAS 11 recognition of contract revenue and


expenses

Illustrative example Contract cost and revenue recognition

Illustrative example Contract cost and revenue recognition (contd)

NRE Ltd. is executing a project of constructing the tallest building in the country. The project is
expected to take 3 years to complete.

a) Contract cost incurred to date

The company has signed a fixed price contract of $12,000,000 for the construction of this prestigious
tower.
Costs incurred in by end of year 1 year are as follows:
Site labor costs
Cost of construction material
Depreciation of special plant and equipment used in construction
Marketing and selling costs to get the contract
Total costs incurred to date

$1,000,000
$3,000,000
$500,000
$1,000,000
$5,500,000

Estimated cost to completion

$5,500,000

Site labor cost


Material cost
Depreciation of special plant and equipment
Total
b) Percentage of completion

$1,000,000
$3,000,000
$500,000
$4,500,000
= 4,500,000 /(4,500,000+5,500,000)
= 45%

c) Revenue, costs, and profits to be recognized at end of Year 1

What is the contract cost, percentage of completion revenues and expenses to be recognised at end
of year 1?

Revenue
Costs
Profit

= 12,000,000 0.45 = $5,400,000


= 10.000,000 0.45 = $4,500,000
= $900,000

41

BAS 11 recognition of contract revenue and


expenses

42

BAS 11 recognition of contract revenue and


expenses

Practical considerations

Practical considerations

Reliably estimating the contract outcome


In recent years, many construction contractors have emerged with limited prior experience /
resources to carry out accurate cost estimations

Treatment of expected loss on contract

Recent unprecedented rise and then fall in commodity prices (affecting prices of cement, rod,
steel etc).

With falling property market, past prices offer limited guidance as to future selling prices

When there are indications of loss on overall construction contract (particularly during current difficult
market conditions), there is an incentive for contractors to conceal such losses with the hope that the
market will improve and an overall profit will be achieved on the contract.
The above is particularly relevant as construction projects are often heavily (debt) leveraged.
Contractors would be cautious not to report anything that would influence lenders (banks) to
withdraw credit lines etc.

Determining stage of completion


A common approach to this is the percentage of cost incurred. This is impacted by the inherent
limitations in determining contract costs (see slides 38 and 39).
Costs incurred prior to securing a contract are in practice included in the cost of any eventually
secured contracts even though there is no prior certainty of securing the contract.

43

44

11