The Financial Accounting Standards Board (FASB) recently issued a proposed Accounting Standards Update (ASU), Proposed Accounting Standards Update—Compensation—Stock Compensation (Topic 718) and Revenue from Contracts with Customers (Topic 606): Clarifications to Share-Based Consideration Payable to a Customer, to clarify guidance on share-based consideration payable to a customer in conjunction with selling goods or services.
Background
Some entities offer to provide consideration to a customer (or to other parties that purchase the entity’s goods or services from the customer) to incentivize the customer (or its customers) to purchase goods and services. When share-based consideration is granted to a customer (a grantee), it often vests upon the grantee purchasing a specified volume or monetary amount of goods and services from the grantor.
The amendments in ASU 2019-08 require that a grantor apply the guidance in Topic 718 to measure and classify share-based consideration payable to a customer. Under Topic 718, if share-based consideration payable to a customer contains vesting conditions, the grantor must determine whether the vesting conditions represent service conditions or performance conditions. That determination can affect when the grantor recognizes revenue because it is required to estimate the probable outcome of a performance condition (and, therefore, whether the share-based consideration is expected to vest or is expected to be forfeited). By contrast, for service conditions, instead of estimating forfeitures, a grantor can elect to account for forfeitures as they occur. When the grantor elects to account for forfeitures as they occur, revenue recognition may be delayed for awards that are not probable of vesting.
Practice issue
Under current generally accepted accounting principles (GAAP), the definitions of performance condition and service condition do not explicitly discuss purchases made by a customer or parties that purchase a grantor’s goods or services from the grantor’s customers. In addition, current GAAP also does not explicitly state whether the guidance in Topic 606 on constraining estimates of variable consideration applies to share-based consideration payable to a customer that is measured and classified under Topic 718.
To address diversity in practice, improve the operability of the guidance and decision usefulness of the resulting financial reporting information, stakeholders asked the FASB to:
- Clarify how to distinguish between service conditions and performance conditions
- More closely align how forfeitures of share-based consideration with service conditions and forfeitures of share-based consideration with performance conditions affect the measurement of the transaction price (which affects revenue recognition timing)
Amendments to definition of performance condition and forfeiture policy elections
The proposed ASU would revise the Master Glossary definition of the term performance condition for share-based consideration payable to a customer. The revised definition would include conditions that are based on the volume, monetary amount, or timing of a customer’s purchases of goods or services from the grantor. The revised definition also would include performance targets based on the volume of purchases made by other parties that purchase the grantor’s goods or services from the grantor’s customers.
Although the revised definition is expected to result in significantly fewer customer awards with service conditions, for those customer awards that are determined to have service conditions, the proposed ASU would eliminate the policy election permitting a grantor to account for forfeitures as they occur. Therefore, when measuring share-based consideration payable to a customer that has a service condition, the grantor would be required to estimate the number of forfeitures expected to occur. Separate policy elections for forfeitures would remain available for share-based payment awards with service conditions granted to employees and nonemployees in exchange for goods or services to be used or consumed in the grantor’s own operations.
Clarifications on applicability of guidance on constraining estimates of variable consideration
The proposed ASU would clarify that a grantor should not apply the guidance in Topic 606 on constraining estimates of variable consideration to share-based consideration payable to a customer. As such, a grantor would be required to assess the probability that an award will vest using only the guidance in Topic 718.
Proposed effective date and transition requirements
The effective date for the proposed ASU will be determined after the FASB considers feedback from stakeholders.
The proposed ASU would permit a grantor to apply the new guidance on either a modified retrospective or a retrospective basis. Under the modified retrospective basis, a grantor would be required to recognize a cumulative-effect adjustment to the opening balance of retained earnings as of the beginning of the period of adoption and would not recast any financial statement information before the period of adoption. Under the retrospective basis, a grantor would be required to recast comparative periods and recognize a cumulative-effect adjustment to the opening balance of retained earnings as of the beginning of the earliest period presented.
