QUESTION 42 Illustration 42–Allocation of variable consideration An entity enters into a contract with a customer for two intellectual property licenses (Licenses A and B), which the entity determines to represent two performance obligations each satisfied at a point in time. The stand-alone selling prices of Licenses A and B are $ 1,600,000 and $ 2,000,000, respectively. The entity transfers License B at inception of the contract and transfers License A one month later. Case A: Variable consideration allocated entirely to one performance obligation. The price stated in the contract for License A is a fixed amount of $ 1,600,000 and for License B the consideration is three per cent of the customer's future sales of products that use License B. For purposes of allocation, the entity estimates its sales-based royalties (i.e. the variable consideration) to be $ 2,000,000. Allocate the transaction price. Case B: Variable consideration allocated on the basis of stand-alone selling prices. The price stated in the contract for Licence A is a fixed amount of $ 600,000 and for License B the consideration is five per cent of the customer's future sales of products that use Licence B. The entity's estimate of the sales-based royalties (i.e. the variable consideration) is $ 3,000,000. Allocate the transaction price and determine the revenue to be recognized for each licence and the contract liability, if any.

Solution

In accordance with IFRS 15, the transaction price should be allocated to the performance obligations based on their relative stand-alone selling prices.

Case A:

The stand-alone selling prices of License A and License B are $1,600,000 and $2,000,000 respectively. The price stated in the contract for License A is a fixed amount of $1,600,000 and for License B the consideration is three per cent of the customer's future sales of products that use License B. The entity estimates its sales-based royalties (i.e. the variable consideration) to be $2,000,000.

  • Transaction price for License A: $1,600,000
  • Estimated transaction price for License B: $2,000,000
  • Total transaction price: $1,600,000 + $2,000,000 = $3,600,000

Under IFRS 15, the variable consideration (in this case, the sales-based royalty for License B) should be allocated to the performance obligation (License B) to which the variable consideration pertains. So, the entire $2,000,000 is allocated to License B, and $1,600,000 is allocated to License A.

Case B:

The stand-alone selling prices of License A and License B are $1,600,000 and $2,000,000 respectively. The price stated in the contract for License A is a fixed amount of $600,000 and for License B the consideration is five per cent of the customer's future sales of products that use License B. The entity's estimate of the sales-based royalties (i.e. the variable consideration) is $3,000,000.

  • Transaction price for License A: $600,000
  • Estimated transaction price for License B: $3,000,000
  • Total transaction price: $600,000 + $3,000,000 = $3,600,000

The allocation of the transaction price should be based on their relative stand-alone selling prices:

  • Proportion of License A = $1,600,000 / ($1,600,000 + $2,000,000) = 0.444
  • Proportion of License B = $2,000,000 / ($1,600,000 + $2,000,000) = 0.556

Allocating the transaction price to the licenses:

  • Transaction price for License A = 0.444 * $3,600,000 = $1,598,400
  • Transaction price for License B = 0.556 * $3,600,000 = $2,001,600

As License B is transferred at the inception of the contract, $2,001,600 of revenue is recognized at that point. The remaining revenue of $1,598,400 would be recognized once License A is transferred.

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