Chasing Myths: Common Misapplications of IFRS and Their Implications Myth #2: CONTRACT ASSETS

According to #IFRS 15 (paragraphs 65 and 105 to 109), there is a distinction between accounts receivable / trade receivables (which are financial assets) and contract assets (which are not financial assets).

According to Appendix A of the standard (IFRS 15), a contract asset is a right to consideration associated with the transfer of goods/services to the customer when this right is conditional on something other than the passage of time, such as future performance.

Paragraph 31 of the standard establishes that revenue can only be recognized when (and to the extent that) the entity satisfies the performance obligations of the contract.

Thus, how can a contract asset arise when the right is conditional on future performance? If the entity has not yet fulfilled all performance obligations, it cannot recognize revenue. If it cannot recognize revenue, it does not have a contract asset, as there is no existing right (under the terms of the conceptual framework). On the other hand, if the entity has already fulfilled the performance obligations in a way that allows it to recognize revenue, then it already has a contractual right to receive consideration, which means it has a financial asset and not a "contract asset."

Therefore, contract assets only arise in very limited circumstances, such as payments made to a customer (which are, in substance, advance discounts) or the situation described in illustrative example 39 of IFRS 15 (which, in practice, results in a right to returned assets).

The traditional concept of “accrued income” is not synonymous with a #contract asset. Consider the following examples:

1. Under a contract with a customer, an entity undertakes a performance obligation to provide security services for the customer's premises over 12 months. Billing occurs at the end of each quarter, but revenue is recognized evenly over the contract term. Thus, the revenue to be recognized, for example, in the first two months of the contract does not correspond to a contract asset but to a contractual right to receive the agreed consideration (a financial asset).
2. Under a contract with a customer, an entity undertakes a performance obligation to construct an asset (infrastructure). The entity concludes that the customer controls the asset as construction progresses, and consequently, the corresponding revenue is recognized over time based on a measure of construction progress. Any revenue amounts recognized before the customer pays or before the corresponding invoices are issued do not result in a contract asset but in a contractual right to receive the agreed consideration (a financial asset).
3. Under a contract with a customer, an entity undertakes a performance obligation to carry out a feasibility study for a business segment of the customer. According to the contract provisions, the entity is entitled to compensation for the work already performed, and this work has no alternative use. Consequently, the corresponding revenue is recognized over time based on a measure of the progress of the study. Any revenue amounts recognized before the customer pays or before the corresponding invoices are issued do not result in a contract asset but in a contractual right to receive the agreed consideration (a financial asset).

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