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HKFRS 15 becomes effective from 1 January 2018. This note gives a brief analysis of how HKFRS 15 may affect traditional business such as trading, manufacturing, service and construction companies.
This note aims to provide supplementary guidance on the common issues encountered by traditional businesses and is not meant to exhaustively address all potential issues involving the adoption of HKFRS 15.
The core principle of HKFRS15 is that an entity recognises 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.
An entity recognises revenue when (or as) it satisfies a performance obligation by transferring a promised good or service to a customer (which is when the customer obtains control of that good or service). Revenue is recognised over time (i.e. performance obligation is satisfied over time) if any one of the following criteria is met:
If a performance obligation is satisfied over time, i.e. any one the three criteria is met, the entity should recognise revenue over time by measuring the progress towards completion.
If a performance obligation is not satisfied over time, i.e. not a single criterion is met, the performance obligation is satisfied at a point in time, and the entity should recognise revenue when the customer obtains control of the promised goods or services.
For a traditional trading or manufacturing entity, it is not common that a sale of goods contract with a customer entails a performance obligation that is satisfied over time as none of the three criteria above is met.
A traditional trading or manufacturing entity most likely recognises revenue at a point in time when control of goods passes to the customers. The guidance of HKFRS 15 on whether a customer obtains control is not very different from the existing protocol, which includes considering the transfer of physical possession or legal title of the goods to customer, customer acceptance of the goods, the entity’s right to receive payment from customer and after all, transfer of significant risks and rewards of ownership of the goods to the customer.
The following paragraphs briefly illustrate the application of three criteria mentioned above.
If an entity manufactures specialised goods to the specific requirements of customers and such goods are assumed to be useless to the entity. The entity may need to recognise revenue over time under criteria (b) if it can demonstrate that it has an enforceable right to receive payment for works performed to date in case the contract is terminated (other than by the entity’s faults). However, simply having an agreed payment schedule may not be sufficient to demonstrate such enforceable right.
A typical construction contractor would satisfy the performance obligation over time under criteria (c) since, in most of the cases, the assets are created on a customer’s site and accordingly are under both the physical and legal possession of its customers.
Most conventional service entities, e.g. cleaning service company would recognise revenue over time under criteria (a) as their customers could simultaneously receive and assume the services.
In conclusion, we expect HKFRS does not, in substance, dramatically shift the pre-existing revenue recognition criteria under HKAS 18 that the traditional businesses adhered to.
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