A contractor (an entity) and Without Borders Ltd enter into a contract for the sale of equipment and motor parts.
On 21 December 2018, Without Borders Ltd pays for the equipment and motor parts. The company takes physical possession of the equipment. Due to lack of space in Without Borders Ltd.’s warehouse, the company requested that the motor parts be safely kept at the contractor’s warehouse.
Without Borders Ltd has requested for this arrangement. The motor parts are distinctly identified and stored by the contractor as the property of Without Borders Ltd. The contractor cannot use the motor parts or direct them to another customer. But for the lack of storage space in the warehouse of Without Borders Ltd, the motor parts are presently ready for physical transfer to the customer.
The seller expects to offer the custodial services over the customer’s motor parts for four years.
How will the performance obligations to transfer the equipment and spare parts be treated, respectively?
See the suggested solution to practice activity 13.20 here.
Suggested solution to practice activity 13.20
The performance obligations to transfer the equipment and motor parts are separate. Hence, there are two promises that will be performed and each will be satisfied at a specific time.
The contractor provides the custodial service over the motor parts for Without Borders Ltd. The service is a distinct performance obligation. It is different from the sale of equipment and motor parts by the contractor. The custodial service is a performance obligation.
The contract features three promises: sale of equipment, motor parts, and provision of custodial services over the motor parts. The seller should account for the performance obligations arising from them.
The seller should allocate the transaction price to each of the three performance obligations. Consequently, the seller recognises revenue when or as control transfers to the buyer.
Revenue recognition
There is a bill-and-hold arrangement in the contract. On 21 December 2018, Without Borders Ltd obtains control of equipment when the company takes the equipment from the seller and physically possesses the equipment.
The seller assesses the indicators in IFRS 15 to determine the specific time that control of the motor parts transfers to the buyer. Based on the indicators, the entire criteria for the seller to recognise revenue are satisfied. The seller recognises revenue for the spare parts on 21 December 2018 when control transfers to the buyer.
The promise to provide custody for the spare parts is satisfied over time as the custodial services are provided. Thus, the seller recognises revenue over time as the custodial services are provided.
The seller will need to assess the nature of the payment terms, determine whether they comprise a significant financing component, and account for the same.
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