IFRS 15 Revenue Recognition: Summary, Practice Questions & Decision Tree

A contract only enters the five-step model when it passes five gate criteria (IFRS 15.9): the parties have approved it and are committed to their obligations, each party's rights can be identified, payment terms can be identified, the contract has commercial substance, and it is probable the entity will collect the consideration it is entitled to. That last test is assessed at the customer level — a contract with a customer in severe financial difficulty may fail at the gate, in which case any cash received sits as a liability until the position changes (IFRS 15.15–16).

Contracts entered into at or near the same time with the same customer are combined when they were negotiated as a package, the price of one depends on the other, or the goods and services form a single performance obligation (IFRS 15.17).

A performance obligation is a promise to transfer a distinct good or service (IFRS 15.22). Distinct means two things at once (IFRS 15.27): the customer can benefit from the item on its own or together with readily available resources, and the promise is separately identifiable from the other promises in the contract — the entity is not using the goods and services as inputs to one combined output, one item does not significantly modify another, and the items are not highly interdependent (IFRS 15.29).

This step drives everything downstream. A software licence sold with routine installation that any IT firm could perform is two performance obligations. A construction contract where design, materials and labour are inputs into a single building is one. Get the unit of account wrong and the timing and amount of every revenue number after it will be wrong too.

The transaction price is the consideration the entity expects to be entitled to in exchange for the goods or services (IFRS 15.47). Four adjustments matter most in exams. Variable consideration — discounts, rebates, bonuses, penalties — is estimated using either the expected value (probability-weighted, suited to many similar contracts) or the most likely amount (suited to two possible outcomes) (IFRS 15.53). A significant financing component is stripped out and accounted for as interest when the timing of payment gives one party a financing benefit (IFRS 15.60). Non-cash consideration is measured at fair value (IFRS 15.66). Consideration payable to the customer reduces revenue unless it pays for a distinct good or service (IFRS 15.70).

The transaction price is split across the performance obligations in proportion to their standalone selling prices — what each item would sell for separately (IFRS 15.74, 76). When a standalone price is not directly observable, it is estimated: adjusted market assessment, expected cost plus margin, or (in restricted cases) the residual approach (IFRS 15.79). A discount in the contract is normally spread pro-rata across all obligations, unless evidence shows it relates entirely to specific ones (IFRS 15.81–82).

Revenue is recognised when the performance obligation is satisfied — when the customer obtains control of the good or service (IFRS 15.31). The default question is not risk-and-reward but control: the ability to direct the use of, and obtain substantially all the remaining benefits from, the asset. Each performance obligation is assessed at contract inception as either satisfied over time or at a point in time — and if it fails the over-time tests, it is point in time by default (IFRS 15.32).

A performance obligation is satisfied over time when any one of three criteria is met (IFRS 15.35): the customer simultaneously receives and consumes the benefits as the entity performs (routine services like cleaning or payroll); the entity's performance creates or enhances an asset the customer controls as it is created (a building on the customer's land); or the asset being created has no alternative use to the entity and the entity has an enforceable right to payment for performance completed to date (a bespoke asset the entity cannot redirect elsewhere).

Over-time revenue needs a measure of progress — output methods (surveys, milestones, units delivered) or input methods (costs incurred, hours worked) — applied consistently and updated each period (IFRS 15.39–41). If none of the three criteria is met, revenue waits for the point in time when control passes, indicated by things like physical possession, legal title, acceptance, and the present right to payment (IFRS 15.38).

Estimating variable consideration is only half the job. The estimate is then constrained: it enters the transaction price only to the extent it is highly probable that a significant reversal of cumulative revenue will not occur when the uncertainty resolves (IFRS 15.56). Factors pointing to a reversal risk include consideration highly susceptible to factors outside the entity's influence, a long resolution period, limited experience with similar contracts, and a broad range of possible outcomes (IFRS 15.57). One special case is carved out: sales- and usage-based royalties on licences of intellectual property are recognised only when the underlying sale or usage happens (IFRS 15.B63).

The balance sheet side of IFRS 15 uses three positions (IFRS 15.105–108). A receivable is an unconditional right to consideration — only the passage of time stands between the entity and payment. A contract asset is revenue recognised for work performed where the right to payment is still conditional on something other than time, such as completing a remaining obligation. A contract liability is the mirror image: consideration received (or unconditionally due) before the related performance obligation is satisfied — deferred revenue by another name. Getting the receivable/contract-asset boundary right is a favourite exam test, because it turns on whether the right to payment is conditional.