5.2.2: Identify the Performance Obligations

This is a critical step, as the performance obligations will determine when revenue is recognized. The standard requires that the promised performance obligation be identified either as distinct goods and services or as a series of distinct goods and services that are substantially the same and that have the same pattern of transfer to the customer. A performance obligation exists only if there is a transfer of goods or services to a customer. This limitation in the definition means that internal administrative tasks required to manage a contract are not, in themselves, performance obligations.

During the development and implementation of IFRS 15, there was a great deal of discussion around the concept of distinct goods or services. The definition of "distinct" in this context contains two criteria: the customer can benefit from the good or service either on its own or together with other resources that are already available to the customer, and the contract contains a separately identifiable promise to transfer the good or service. It is important to note that both of these criteria must be satisfied to meet the definition of "distinct." For some contracts, the satisfaction of the second criteria may require some analysis. The standard provides further clarification by specifying the following indicators of a combined good or service (i.e., a single performance obligation):

• Significant services in integrating the goods or services with other goods or services are provided in the contract.
• The goods or services provided significantly modify or customize other goods or services provided in the contract.
• The goods or services are highly interdependent.

The standard provides further detailed examples to illustrate these concepts. A common, simple example can also illustrate the idea of "distinct". Consider a customer who wishes to build a brick wall. There are two ways this could be done. The customer could arrange with a local building supply warehouse to deliver all the required materials (bricks, mortar, tools, etc.) The company could then arrange a separate contract with a local mason to build the wall. In this case, there are two separate contracts. In the first contract, the performance obligation is satisfied when the materials are delivered to the building site. The performance obligation in the second contract will be satisfied when the mason completes construction of the wall.

Now consider a different scenario: the company hires a local contractor to build the wall. The contractor purchases all the materials and arranges to have them delivered to the building site. Although these materials could meet the first criteria (i.e., the customer could benefit from them), the second criteria is not met. The contractor has made a promise for a single good: the completed wall. The contractor is going to provide significant services in integrating the goods (assembling the bricks with the mortar), the service modifies the goods, and the goods and services are interdependent (the skilled labour of the contractor is required to assemble the raw materials). In this case, the delivery of the materials to the building site does not satisfy a performance obligation. The performance obligation is not satisfied until the wall is completed.

To provide further clarity on the nature of performance obligations, the standard provides the following examples of goods and services:

• Sale of goods produced by the entity
• Resale of goods purchased by the entity
• Resale of rights to goods or services purchased by the entity
• Performing a contractually agreed upon task
• Providing a service of standing ready to provide goods or services
• Providing a service of arranging for another party the transfer of goods or services
• Granting rights to goods or services to be provided in the future that the customer can resell
• Constructing, manufacturing, or developing an asset on behalf of a customer
• Granting licenses
• Granting options to purchase additional goods or services

(CPA Handbook – Accounting, IFRS 15.26)

In some of the examples above, it is apparent that the entity would be acting as an agent for the benefit of a principal. In determining whether an agency relationship exists, the key factor to consider is control. If the entity controls the good or service before it is transferred to the customer, then the entity is a principal. If the entity does not control the good or service, the entity would be considered an agent. The main concern from an accounting perspective in these situations is the amount of revenue to recognize. For a principal, the gross amount of consideration expected from the transaction is considered revenue. For an agent, only the fee or commission earned from the transfer of goods or services is reported as revenue.