On April 14, 2016, the Financial Accounting Standards Board (FASB) released Accounting Standards Update No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing. The amendments in ASU 2016-10 affect the guidance in ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which is not yet effective. ASU 2016-10 will become testable on the CPA Exam in 2018.
The core principle of the guidance in Topic 606 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps:
1. Identify the contract(s) with a customer.
2. Identify the performance obligations in the contract.
3. Determine the transaction price.
4. Allocate the transaction price to the performance obligations in the contract.
5. Recognize revenue when (or as) the entity satisfies a performance obligation.
IDENTIFYING PERFORMANCE OBLIGATIONS
The amendments in this Update reduce the cost and complexity of applying the guidance on identifying promised goods or services by adding the following guidance:
- An entity is not required to assess whether promised goods or services are performance obligations if they are immaterial in the context of the contract with the customer.
- An entity is permitted to account for shipping and handling activities that occur after the customer has obtained control of a good as an activity to fulfill the promise to transfer the goods rather than as an additional promised service.
- An entity determines whether the nature of its promise in the contract is to transfer each of the goods or services (i.e., promise is distinct), or whether the promise is to transfer a combined item(s) (i.e., promise is not distinct) to which the promised goods and/or services are inputs.
LICENSING: CUSTOMER PROMISE
Topic 606 also includes implementation guidance on determining whether an entity’s promise to grant a license provides a customer with either a right to use the entity’s intellectual property (IP), which is satisfied at a point in time, or a right to access the entity’s intellectual property, which is satisfied over time.
Functional Intellectual Property (FIP)
Functional intellectual property has a significant standalone functionality, and includes software, biological compounds or drug formulas, and completed media content (e.g., films, television shows, or music). An entity’s promise to grant a customer a license to FIP does not include supporting or maintaining that intellectual property during the license period. Rather, the entity’s promise is to provide a right to use the entity’s intellectual property as that intellectual property exists at the point in time the license is granted (unless the entity is expected to undertake activities that will change the functionality of the intellectual property to which the customer has rights).
An entity’s promise to provide a customer with a right to use the entity’s FIP is satisfied at the point in time the customer is able to use and benefit from the license, because the entity’s promise in granting the license is solely to make the underlying intellectual property available for the customer’s use and benefit.
Symbolic Intellectual Property (SIP)
Symbolic intellectual property does not have significant standalone functionality, and includes brands, team or trade names, logos, and franchise rights. An entity’s promise to grant a customer a license to SIP includes supporting or maintaining that intellectual property during the license period. Therefore, the nature of the entity’s promise to the customer is both to:
- grant the customer rights to use and benefit from the entity’s intellectual property and make that underlying intellectual property available for the customer’s use and benefit, and
- support or maintain the intellectual property during the license period (or over the remaining economic life of the intellectual property, if shorter).
Consequently, a license to symbolic intellectual property is satisfied over time.
LICENSING: ROYALTY REVENUE RECOGNITION
Topic 606 includes implementation guidance on when to recognize revenue for a sales-based or usage-based royalty promised in exchange for a license of intellectual property. The amendments in this Update clarify the scope and applicability of this guidance as follows:
- An entity should not split a sales-based or usage-based royalty into a portion subject to the recognition guidance on sales-based and usage-based royalties and a portion that is not subject to that guidance. That requirement does not affect allocation of the transaction price to performance obligations.
- The guidance on sales-based and usage-based royalties applies to a royalty whenever the predominant item to which the royalty relates is a license of intellectual property.
LICENSING: TRANSFERRING ADDITIONAL GOODS OR SERVICES
Contractual provisions that, explicitly or implicitly, require an entity to transfer control of additional goods or services to a customer (e.g., by requiring the entity to transfer control of additional rights to use or rights to access intellectual property that the customer does not already control) should be distinguished from contractual provisions that, explicitly or implicitly, define the attributes of a single promised license (e.g., restrictions of time, geographical region, or use). “Attributes” define the scope of a customer’s right to use or right to access an entity’s intellectual property but do not define whether the entity satisfies its performance obligation at a point in time or over time, and do not create an obligation for the entity to transfer any additional rights to use or access its intellectual property.
The effective date for the contract performance obligations and licensing update is December 2017 (i.e., the same as ASU 2014-09, whose original effective date of December 2016 was deferred by one year by ASU 2015-14). Therefore, ASU 2016-10 will become testable on the CPA exam January 2018.
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