Significant financing component

Learning objectives

• Determine whether a contract contains a significant financing component, in the light of the difference between the promised consideration and the cash selling price and of the time between transfer and payment, and the cases in which there is none.L2, L3
• Calculate the transaction price adjusted using the rate that would be reflected in a separate financing transaction with the customer, and the related interest expense or income.L3, L4
• Explain the practical expedient when the expected period between transfer and payment is one year or less.L2
• Recognise interest separately from revenue from contracts with customers.L3

Normative references

• IFRS 15 §60When the timing of payments agreed, explicitly or implicitly, provides the customer or the entity with a significant benefit of financing, the entity adjusts the promised amount of consideration for the effects of the time value of money; the contract then contains a significant financing component, whether the financing promise is explicit or implied.
• IFRS 15 §61The objective of the adjustment is to recognise revenue at the amount that the customer would have paid if it had paid cash when the goods or services were transferred (cash selling price). In assessing whether a contract contains a financing component and whether it is significant, the entity considers all relevant facts and circumstances, including the difference between the promised consideration and the cash selling price, and the combined effect of the expected length of time between transfer and payment and the prevailing market interest rates.
• IFRS 15 §62There is no significant financing component in particular when: the customer paid in advance and the timing of transfer is at its discretion; a substantial amount of the consideration is variable and depends on a future event not substantially within the control of the parties (for example, a sales-based royalty); or the difference between the promised consideration and the cash selling price arises for reasons other than financing (for example, protection against the other party's failure to perform), the difference being proportional to that reason.
• IFRS 15 §63The entity need not adjust the consideration for the effects of a financing component if it expects, at contract inception, that the period between the transfer of the good or service and payment will be one year or less.
• IFRS 15 §64The adjustment uses the rate that would be reflected in a separate financing transaction between the entity and the customer at contract inception, reflecting the credit characteristics of the party receiving financing and any collateral. That rate can be determined by discounting the consideration to the cash selling price; it is not updated subsequently for changes in interest rates or credit risk.
• IFRS 15 §65The effects of financing (interest income or interest expense) are presented separately from revenue from contracts with customers. Interest is recognised only to the extent that a contract asset (or receivable) or a contract liability is recognised.

Original summaries of the paragraphs (reference register), never a quotation of the standard.

17 questions

• Vitralis delivers glazing to a property developer, which obtains control on delivery. The developer will pay EUR {amount_due} in {payment_delay} years. Vitralis concludes, based on its judgement, that this payment schedule provides the customer with a significant benefit of financing; the rate that would be used in a separate financing transaction between the parties is {financing_rate}% per year (case data). Compute the transaction price, i.e. the amount the developer would have paid in cash on delivery.L3
• The contract between Mirabel and its customer mentions neither an interest rate nor any financing. Mirabel can therefore conclude, without further analysis, that it contains no significant financing component.L2
• Aubrac sells agricultural greenhouses payable in several annual instalments. To assess whether its contracts contain a significant financing component, which items must it in particular consider?L2
• In which of the following situations does the standard state that there is no significant financing component?L2
• To assess whether the financing component of a contract is significant, Puymorens considers in particular the expected length of time between the transfer of the goods to the customer and their payment, combined with market interest rates.L2
• Castagnède sells a machine payable 3 years after delivery and has concluded that there is a significant financing component. The available data are: risk-free rate 2%, Castagnède's borrowing rate 4%, rate at which Castagnède would separately finance this customer given its credit risk and the collateral provided 7%, promotional rate shown in the brochure 0%. Which rate should be used to adjust the consideration?L3
• In 20X1 Lescure discounted a payment deferred for 3 years at a rate of 6%. As market rates rose sharply in 20X2, it must revise this rate at the 20X2 reporting date.L3
• On 1 January 20X1, Montagut transfers control of a press to Riols, which will pay {promised_amount} in {deferral} years. Montagut has concluded that there is a significant financing component; the rate of a separate financing transaction with Riols at that date is {financing_rate}% (case data). Interest is computed each year on the opening balance of the receivable (teaching assumption). Compute the revenue recognised on transfer and the interest income for 20X1.L3
• On 1 January 20X1, Sabarthès delivers a bottling line to the cooperative Vinsobres, which will pay {deferred_price} at the end of a {credit_period}-year credit period. The contract contains a significant financing component. The rate at which Sabarthès would separately finance Vinsobres is {customer_rate}%; the risk-free rate is {risk_free_rate}% (case data). Interest is computed on each year's opening balance (teaching assumption). Compute the revenue from the delivery and the interest income for 20X2.L4
• On 1 January 20X1, Pradelles receives an advance of {advance} for a custom-made tank that it will deliver in {lead_time} years. It has concluded that there is a significant financing component; the rate that would apply in a separate financing transaction from the customer to Pradelles, given Pradelles' credit risk, is {entity_rate}% (case data). Interest is computed on the opening balance of the contract liability (teaching assumption). Compute the interest expense for 20X1 and the revenue recognised on delivery.L3
• On 1 January 20X1, the shipowner Kerdonis pays the full price, {prepayment}, of a tug that the shipyard Plouzac will deliver on 31 December 20X3, i.e. in {years_to_transfer} years. Plouzac has concluded that this advance payment provides it with a significant financing benefit. The rate that would apply in a separate financing transaction from Kerdonis to Plouzac, given Plouzac's credit risk, is {borrowing_rate}% (case data); interest is computed on each year's opening balance (teaching assumption). Compute the interest expense for 20X3 and the revenue recognised on delivery.L4
• On 1 January 20X1, Varenne delivered an industrial oven whose cash selling price is {cash_selling_price}; the customer will pay {promised_consideration} on 31 December 20X2. On delivery, Varenne recognised revenue and a receivable of 300,000. The rate of a separate financing transaction with this customer is {rate}% (case data); interest is computed on the opening balance of the receivable (teaching assumption). Record the entry at 31 December 20X1 relating to the financing.L3
• On 1 January 20X1, Kerlan installed a postal sorting system at Ardoise; control was transferred on that date. The cash price is {cash_price} and Ardoise will pay {amount_due} on 31 December 20X3. Kerlan recognised a receivable of 400,000 on installation; the rate of a separate financing transaction with Ardoise is {financing_rate}% (case data) and interest is computed on each year's opening balance (teaching assumption). Record the financing entry at 31 December 20X2.L3
• On 1 January 20X1, Morvan receives {advance_received} from a customer for a flight simulator that it will deliver on 31 December 20X2. It recognised a contract liability and concluded that there is a significant financing component. The rate of a separate financing transaction from the customer to Morvan, reflecting Morvan's credit risk, is {separate_financing_rate}% (case data). Record the financing entry at 31 December 20X1.L3
• Bastide renovates the façade of a building for 900,000. In accordance with industry practice, the customer withholds 5% of the price for 1 year after acceptance, to protect itself against defective work; this amount is released if no reservation is raised. The price includes no mark-up linked to this delay, and the retention is judged proportionate to its purpose (case data). How should Bastide analyse this retention?L3
• Valcros manufactures custom-built turbines. A customer offers to pay 2,400,000 on order, 4 years before delivery, instead of 3,000,000 on delivery, the price it would pay in cash at that date. Valcros accepts in order to finance production without borrowing. Its finance director proposes to recognise a contract liability of 2,400,000 and to release it unchanged to revenue on delivery. Which analysis do you retain?L4
• Tarnos Pompes delivers industrial pumps to a customer. From contract inception, it expects to be paid 10 months after delivery, at a price slightly above the cash price. Must it adjust the promised consideration for the effects of a financing component?L2