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Article:

Will advance billing hurt your balance sheet?

09 March 2018

As IFRS 15 is about revenue recognition, you would expect it to have most impact on the P&L. However, as the pattern of revenue recognition changes, it will also affect companies’ balance sheets because they will need to reflect different performance obligations or contract assets. Companies that bill in advance for the delivery of goods or services may see a marked impact on their first balance sheet after adopting IFRS 15.

Accounting for advance billing under IAS 18 often initially resulted in the recognition of a trade receivable and deferred revenue. Under IFRS 15, this ‘grossing up’ of the balance sheet may not be appropriate – reducing gross assets and gross liabilities.

 

Practical example

A company has sold software maintenance services in a stand-alone transaction (ie not bundled with other goods or services) for a two-year ‘non-cancellable’ period. The company has decided to recognise the revenue evenly - £1,000 per month over the 24-month period. Payment for the service can be structured in one of the following ways:

  1. Invoiced in full at the start (say 1 January 2018) and payable in full on 31 March 2018
  2. Invoiced in full at the start but payable in 24 equal instalments at the end of each calendar month, or
  3. Invoiced and payable in 24 equal instalments at the end of each calendar month.

Under IAS 18, for options 1 and 2, companies would often have recognised a trade receivable of £24,000 and deferred revenue of £24,000 on 1 January 2018.

However, under IFRS 15, the contract liability and trade receivable should be shown net until the earlier of either:

  1. The date the payment becomes due (ie when the ‘receivable’ is recognised), or
  2. The date the goods or services are delivered (ie when a ‘contract asset’ is recognised).

Under IFRS 15, the fact that the contract is ‘non-cancellable’ affects the date at which payment becomes due: it is the date at which the cash payment should be received under the contract, not the invoice date of the trade receivable.

 

Comparison of accounting entries

Receivables and contract assets must be presented separately either in the notes or on the face of the balance sheet.

 

1 January

31 January

28 February

31 March

Option 1

IAS 18

Dr Receivable £24,000

Cr Deferred Revenue £24,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

 

Option 1

IFRS 15

Dr Contract asset   £1,000

Cr Revenue   £1,000

Dr Contract asset   £1,000

Cr Revenue   £1,000

Dr Receivable £24,000

Cr Contract asset   £2,000

Cr Revenue   £1,000

Cr Contract liability £21,000

Option 2

IAS 18

Dr Receivable £24,000

Cr Deferred Revenue £24,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

Dr Deferred Revenue   £1,000

Cr Revenue   £1,000

Option 2

IFRS 15

-

-

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

Option 3

IAS 18

 

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

Option 3

IFRS 15

-

-

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

Dr Receivable   £1,000

Cr Revenue   £1,000

 

The balance sheet effect

The new treatment under IFRS 15 will have no bearing on the pattern of revenue recognition or, of course, the cash position of the company. However, it may have a significant effect on the appearance of the balance sheet.

As can be seen in the example under IAS 18 both gross assets and gross liabilities are increased by £24,000 at 1 January. Under IFRS 15 this grossing up may occur at a later date (option 1) or not at all (option 2 and 3) 

If the changes to your balance sheet are going to be significant/material, you will want to explain them to the company’s stakeholders. This is done by making disclosures in your last annual report prior to implementing IFRS 15 (as required under IAS 8.30 – disclosures for new standards not yet effective).

For help and advice on revenue recognition issues please get in touch with your usual BDO contact or Tony Perkins.

 

Read more on revenue recognition:

IFRS 15 in the Spotlight: Variable consideration & the sales-based or usage-based royalty exception

IFRS 15 in the Spotlight: Variable consideration

Contract costs and IFRS 15

Contract modifications and IFRS 15

Significant financing components in contracts

To bundle or not to bundle, that is the question

Sale with a right of return

IFRS 15 in the spotlight: Accounting for vouchers
 

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