Contract Cost

Incremental Costs of
Obtaining a Contract

also referred to as “Avoidable Costs”, are

costs that would not have been incurred had
the contract not been obtained.

Costs to Fulfill a
Contract

costs incurred in fulfilling a contract that are

within the scope of other standards are accounted
for using those standards.
 ILLUSTRATION: REVENUES AND COSTS
On Dec. 1, 20x1, ABC Co. grants a customer a license to use ABC’s patented
technology over a 4-year period. The contract price is P1,000,000, payable in
full at contract inception. During Dec. 20x1, ABC Co. incurs direct contract
costs of P120,000 and indirect costs of P30,000. The customer obtains
control of the license on Jan. 2, 20x2.

Case 1: Right to use

Journal Entries
20x1
Dec. 1, 20x1

Cash 1,000,000

Contract Liability 1,000,000

Deferred Contract costs 120,000

Expense 30,000

Cash 150,000
 ILLUSTRATION: REVENUES AND COSTS
On Dec. 1, 20x1, ABC Co. grants a customer a license to use ABC’s patented
technology over a 4-year period. The contract price is P1,000,000, payable in
full at contract inception. During Dec. 20x1, ABC Co. incurs direct contract
costs of P120,000 and indirect costs of P30,000. The customer obtains
control of the license on Jan. 2, 20x2.

Case 1: Right to use

Journal Entries
20x2
Jan. 2, 20x2

Contract Liability 1,000,000

Revenue 1,000,000

Cost of License 120,000

Deferred Contract Costs 120,000

 ILLUSTRATION: REVENUES AND COSTS
On Dec. 1, 20x1, ABC Co. grants a customer a license to use ABC’s patented
technology over a 4-year period. The contract price is P1,000,000, payable in
full at contract inception. During Dec. 20x1, ABC Co. incurs direct contract
costs of P120,000 and indirect costs of P30,000. The customer obtains
control of the license on Jan. 2, 20x2.

Case 1: Right to access

Journal Entries
20x1
(the same journal entries shown in the previous slide)

20x2
( no entries )
 ILLUSTRATION: REVENUES AND COSTS
On Dec. 1, 20x1, ABC Co. grants a customer a license to use ABC’s patented
technology over a 4-year period. The contract price is P1,000,000, payable in
full at contract inception. During Dec. 20x1, ABC Co. incurs direct contract
costs of P120,000 and indirect costs of P30,000. The customer obtains
control of the license on Jan. 2, 20x2.

No revenue is recognized on Jan. 2, 20x2 because the performance obligation is

satisfied over time. ABC will start recognizing revenue on Jan. 31, 20x2 onwards.

20x2
Jan. 31, 20x2 Contract Liability (1,ooo,ooo/4 yrs.) x 1/12 20,833.33

Revenue 20,833.33

Cost of license (120,000/ 4 yrs.) x 1/12 2,500

Deferred contract costs 2,500

 Significant Financing
Component in a Contract
Significant financing in a contract occurs when the timing of payments provides the customer or the
entity with a material economic benefit due to the delay in payment.

When determining the transaction price, the promised consideration is discounted if the timing of
payments offers a significant financing benefit.

The discount rate should reflect the cash selling price if the customer had paid in full upfront. Once
set, the discount rate is not updated for future interest rate changes.

The difference between the undiscounted and discounted amounts is recognized as interest revenue
or expense using the effective interest method. However, if the payment is collectible within one
year, no discounting is necessary.
 Step 1: Understanding the
ILLUSTRATION: Contract
On Jan. 1, 20x1, ABC Co. enters into a ABC Co. has a contract with a customer for a license
contract with a customer to transfer a with a total price of P100,000. The payment
license for a fixed fee of P100,000 payable structure is:
as follows:
- 20% upfront upon signing (P20,000).
20% upon signing of contract. - The remaining 80% is paid in four equal annual
Balance due in 4 equal annual installments starting in the following year.
installments starting Dec. 31, 20x1. The
discount rate is 12%. Step 2: Identify the Performance
Obligation
ABC incurs direct contract costs of
P20,000 in 20x1. ABC transfers the license The contract has a single performance obligation:
to the customer on Jan. 3, 20x2. The transferring the license. This obligation is satisfied
license provides the customer with the when the license is transferred on January 3, 20x2.
right to use ABC's intellectual property as
it exists at grant date.
Requirement: Compute for the profits in
20x1 and 20x2, respectively.
 Step 3: Calculating the
ILLUSTRATION: Transaction Price
On Jan. 1, 20x1, ABC Co. enters into a The transaction price is computed as follows:
contract with a customer to transfer a
license for a fixed fee of P100,000 payable Down payment (100,000 x 20%) 20, 000
as follows:
PV of notes payable
20% upon signing of contract. (100,000 x 80%) / 4 60, 747
Balance due in 4 equal annual
TRANSACTION PRICE 80, 747
installments starting Dec. 31, 20x1. The
discount rate is 12%.
Step 4:
ABC incurs direct contract costs of
P20,000 in 20x1. ABC transfers the license The transaction price is allocated to the sole
to the customer on Jan. 3, 20x2. The performance obligation of granting the license.
license provides the customer with the
right to use ABC's intellectual property as
it exists at grant date.
Requirement: Compute for the profits in
20x1 and 20x2, respectively.
Step 5: Recognizing revenue Since the license is transferred in 20x2, the entire transaction price
of P80,747 will be recognized as revenue at that time.
The profits for 20x1 and 20x2 are computed as follows: In 20x1, no revenue is recognized yet because the performance
obligation is not fulfilled. However, we incur costs.

Item 20x1 20x2 Amortization Table:

Revenue P0 P80,747 Interest Present

Date Collections Amortization
Income Value
Cost of
P0 (P20,000) 12/31/2
Franchise P20,000 P7,290 P12,710 P48,037
0x1

Gross Profit P0 P60,747

12/31/2
P20,000 P5,764 P14,236 P33,801
0x2
Interest Income P7,290 P5,764
12/31/2
Indirect Costs P0 P0 P20,000 P4,056 P15,944 P17,857
0x3

Profit for the 12/31/2

P7,290 P66,511 P20,000 P2,143 P17,857 P0
Year 0x4