Business of Contract

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Definition A contract is an agreement between two or more parties that creates enforceable rights and obligations.

A contract does not exist if each party has an enforceable right to terminate a wholly unperformed contract without compensating the other party.

Combination of contracts Two or more contracts entered into at or near the same time with the same customer (or related parties) must be combined and treated as a single contract if one or more of the following conditions are present:

 the contracts are negotiated as a package with a single commercial objective;

 the amount of consideration to be paid in one contract depends on the price or performance of the other contract; or

 the goods or services promised in the contracts (or some goods or services promised in the contracts) are a single performance obligation.

Application criteria The general IFRS 15 model applies only when or if:

 the parties have approved the contract and are committed to perform their respective obligations;

 the entity can identify each party’s rights;  the entity can identify the payment terms for the goods and services to be transferred;

 the contract has commercial substance (i.e. it is expected to change the risk, timing or amount of an entity’s future cash flows); and

 it is probable the entity will collect the consideration.

 

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Aperformance obligationis a promise in a contract with a customerto transferto the customer either:

a good or service (or a bundle of goods or services) that is distinct; or

b. a series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer.

Performance obligations are normally specified in the contract but could also include promises implied by an entity’s customary business practices, published policies or specific statements that create a valid customer expectation that goods or services will be transferred under the contract.

Distinct goods and services At the inception of a contract the entity must assess the goods or services promised in a contract and identify as a performance obligation each promise to transfer to the customer either:

 

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It also includes the followings

 a good or service (or a bundle of goods or services) that is distinct; or

 a series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer (described by reference to promises satisfied over time, and progress to completion assessment).

A good or service is distinct if both of the following criteria are met:

 the customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer; and

 the entity’s promise to transfer the good or service is separately identifiable from other promises in the contract.

 

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If a promised good or service is not distinct, it must be combined with other promised goods or services until a bundle of goods or services that is distinct can be identified.

This could mean that all of the goods or services promised in a contract might be accounted for as a single performance obligation.

This sounds quite complicated but simply means that at the inception of a contract an entity must determine whether the contract is for the sale of a single deliverable or several deliverables.

This is important as revenue is recognised as these separate goods and services are delivered to the customer.