IFRS for SMEs:
Revenue
Definition
Revenue is the inflow of economic benefits from activities carried out in the ordinary course of business.
Measurement
Revenue is measured at the fair value of the consideration received or receivable.
Fair value is the open market rate. It's the amount of money you would receive for something if it was sold through an arm's length transaction in the open market.
Deferred/delayed payment
When payment is deferred significantly beyond normal credit terms, there is an increase in sale price. This increase should be recorded as a Finance Income, instead of Revenue. From the customer-end, it should be recorded as Finance Expense. This should be done only if the finance portion is material or significant enough.
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The finance portion can be found by using an imputed rate of interest to discount the future payment amounts to present value, and deducting it from the actual payment amounts. The imputed rate of interest can be found based on the rate of interest applied to similar transactions in the market. The finance portion should be recognized on the income statement using the effective rate of interest method.
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Exchange of goods and service (barter transaction)
When two parties exchange good/service for a good/service, it is called a Barter Transaction. If there is no commercial substance in the transaction, nothing has to be recorded. There is commercial substance if economically unequal fair value of goods/services are being exchanged. In this case, Revenue has to be recorded by both parties at the fair value of the good/service (non-monetary consideration) received/receivable, and the cost of the good/service given up to should be charged to Cost of Sales.
Conditional discounts
If a customer receives a discount from a supplier on the condition that the customer would provide something for the supplier, then this is also a barter transaction. For the customer, the value of Revenue is the discount received..
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Recognition of a sale of goods
A sale of goods is made when all the following conditions are met.
- Significant risks and rewards of ownership of goods are transferred to buyer
- Seller retains neither continuing managerial involvement to the degree usually associated with ownership, nor effective control over the goods sold
- Amount of revenue can be measured reliably
- It's probable that economic benefits associated with the transaction will flow to the seller
- Costs incurred/to be incurred in respect of the transaction can be measured reliably
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Recognition of providing a service
A service is provided when
- The amount of revenue can be measured reliably
- It's probable that economic benefits associated with the transaction will flow to the service provider
- The stage of completion can be measured reliably
- Costs incurred for and costs to complete the can be measured reliably
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The extent to which a service has been provided is measured using the percentage of completion method. This is based on the percent of estimated total cost which has been incurred up to date, or the number of stages of work completed.
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Percentage of completion method
This is a method used to find out revenue amount to be recognized at a point in time.
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The percentage of completion can be estimated based on the most reliable method of the following:
- Proportion of costs incurred (excluding any prepayments) in relation to the estimated total costs.
- Completion of a specified physical stage or proportion of work
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If the percent of completion cannot be estimated reliably, then the costs incurred in relation to providing the good/service up to a point should be recognized as revenue, because that amount is deemed recoverable. This means, Revenue and Cost of Sales will be equal, and Gross profit would be zero. This can continue until the percent of completion can be estimated reliably.
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Dividends, Interest and Royalty Incomes
- Dividend income needs to be recognized as income when you, the shareholder, gets the right to receive dividend payment. This is usually when dividends are declared by the company you are a shareholder of.
- Interest income related to a period needs to be recognized in that period, by calculating the interest amount using the effective interest rate method. Effective rate of interest is the internal rate of return (IRR).
- Royalties need to be recognized in accrual basis, in accordance with the substance of the relevant agreement.
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Construction contracts
The above guidance can be used to recognize and measure revenue and costs from construction of assets or groups of assets. You must follow the matching principle (revenue and its related costs should be recognized at the same time).