The primary purpose of Accounting Standard 9 is to determine when revenue should be recognized in the profit and loss account. It also outlines the specific circumstances under which revenue recognition should be postponed. Revenue is defined as the gross inflow of cash, receivables, or other consideration that arises during the ordinary activities of an enterprise. This includes the sale of goods, rendering of services, and the use of enterprise resources by others, yielding interest, dividends, or royalties. Simply put, revenue is the charge made to customers or clients for goods supplied or services rendered.
Definition of Revenue as per AS 9
Revenue, according to AS 9, represents the gross inflow of cash, receivables, or other forms of consideration arising from ordinary business activities. These activities include the sale of goods, rendering of services, and the use of resources by others that generate income in the form of interest, royalties, or dividends. Revenue is measured by the charges made to customers for the goods delivered and services rendered. In an agency relationship, only the commission received is considered revenue, not the entire amount collected on behalf of the principal.
Timing of Revenue Recognition
Revenue from the sale of goods or rendering of services should be recognized when the sale is completed or the service is rendered. However, if there is significant uncertainty regarding the ultimate collection of the revenue at the time of sale or service, recognition should be postponed until it becomes reasonably certain that the collection will be made. This principle applies to revenues from price escalations, export incentives, interest, and similar items.
Scope and Applicability of AS 9
Accounting Standard 9 does not apply to all types of revenue. Specifically, it does not apply to revenue arising from construction contracts, hire purchase or lease agreements, government grants and subsidies, and insurance companies’ revenue from insurance contracts. Additionally, it does not cover gains, whether realized or unrealized, such as profits from the sale of fixed assets.
Recognition of Revenue from the Sale of Goods
Revenue from the sale of goods is recognized when several conditions are fulfilled. The seller must have transferred the ownership of the goods to the buyer for a price. This transfer can either be the legal transfer of title or the transfer of all significant risks and rewards of ownership. Furthermore, the seller must not retain any effective control over the goods sold. The consideration receivable should also be free from significant uncertainty.
Revenue Recognition with Delayed Delivery at Buyer’s Request
In cases where the delivery of goods is delayed at the buyer’s request but the buyer has taken title and accepted billing, revenue should be recognized immediately. However, the goods must be in the seller’s possession, clearly identified, and ready for delivery at the time of revenue recognition.
Revenue Recognition for Sales with Conditions
When the delivery of goods is subject to conditions such as installation and inspection, revenue should be recognized only after the goods are installed to the buyer’s satisfaction or after inspection and acceptance by the buyer. In cases of sale on approval, revenue should be recognized once the buyer has communicated their intention to purchase the goods. For guaranteed sales, the recognition should be based on the substance of the agreement or after a reasonable period has expired. In the case of warranty sales, revenue should be recognized immediately, but a provision must be made to account for the warranty obligations.
Revenue Recognition in Consignment Sales and Special Shipments
For consignment sales, revenue is recognized only when the goods are sold to a third party. In cases of special orders and shipments, revenue is recognized once the goods are identified and ready for delivery.
Recognition of Revenue from Subscriptions for Publications
When subscription items vary in value over time, revenue should be recognized based on the sales value of the items delivered. If the items do not vary significantly in value, revenue should be recognized on a straight-line basis over the subscription period.
Instalment Sales Revenue Recognition
For instalment sales, the revenue from the sale price excluding interest should be recognized on the date of sale. Interest income should be recognized proportionately over time, based on the unpaid balance.
Treatment of Revenue Swaps under AS 9 and IND AS 18
While IND AS 18 provides detailed provisions for revenue swaps, AS 9 does not contain corresponding provisions. According to IND AS 18, when goods or services are exchanged for others of similar nature and value, the exchange does not constitute a revenue-generating transaction. However, if dissimilar goods or services are exchanged, the transaction generates revenue. The value of the revenue is based on the fair value of the goods or services received, adjusted by any cash or cash equivalents exchanged.
Accounting for Repo Arrangements
Under IND AS 18, when two or more transactions are linked such that their commercial effect cannot be understood independently, they must be considered together. This principle applies to repo arrangements, where an enterprise sells goods and simultaneously agrees to repurchase them later. Such arrangements negate the substance of the sale and are treated as financing arrangements. AS 9 aligns with this view and requires that such cash inflows not be recognized as revenue.
Revenue from Rendering Services
Revenue from services is usually recognized as the service is performed. Two primary methods are used to measure the performance of service: the completed service contract method and the proportionate completion method. Under the completed service contract method, revenue is recognized once the service is almost completed and there is no significant uncertainty in collecting the service charges. In the proportionate completion method, revenue is recognized in proportion to the performance of each act, based on contract value, costs incurred, number of acts, or other suitable metrics, provided there is no significant uncertainty in collection.
Revenue Recognition for Installation Fees
Installation fees should be recognized as revenue once the installation is completed and accepted by the client.
Advertising and Insurance Agency Commission
Advertising commission is recognized when the advertisement is made public. Insurance commission is recognized on the effective date of policy commencement or renewal.
Financial Services Commission
Revenue from financial services commissions depends on several factors including whether the service is a one-time or ongoing service, the related costs, and the timing of payments. Commission for arranging or granting loans should be recognized when the loan is sanctioned and accepted. Commitment or loan management fees, which involve ongoing obligations or services, should be recognized over the loan term.
Admission and Tuition Fees
Revenue from admission fees related to events such as performances or banquets should be recognized when the event occurs. Tuition fees should be recognized over the period of instruction.
Entrance and Membership Fees
Revenue recognition for entrance and membership fees depends on the nature of services provided. Entrance fees are typically capitalized, while membership fees should be recognized systematically based on the timing and nature of the service.
Interest Income
Revenue from interest should be recognized on a time-proportion basis.
Royalty Income
Royalty income should be recognized on an accrual basis by the terms of the agreement.
Dividend Income
Dividend income should be recognized when the declaring company announces the dividend.
Effect of Uncertainty on Revenue Recognition
For revenue to be recognized, it must be measurable, and it should be reasonably certain that the amount will be collected at the time of sale or service. If there is uncertainty regarding the amount collectible, revenue recognition should be postponed. Revenue is only recognized once it becomes reasonably certain that the amount will be collected.
Subsequent Uncertainty in Collection
If uncertainty arises about the collection of revenue after it has already been recognized, it is preferable to make a provision for the potential loss instead of adjusting the already recognized revenue.
Disclosure Requirements under AS 9
When revenue recognition is postponed, the reasons for the postponement must be disclosed. In the statement of profit and loss, turnover should be disclosed in a specific format. The gross turnover should be shown, followed by a deduction for excise duty, resulting in the net turnover. The excise duty deducted should cover the full year, excluding the duty related to changes in stock levels. This excluded portion should be presented separately with an explanatory note in the notes to accounts.
Guidance Note on Accounting for Real Estate Transactions
Real estate activities and transactions come in many forms. Some transactions involve the sale of land, either developed or undeveloped, while others include construction, development, or sale of units that are not yet complete at the time an agreement is made. The Guidance Note provides direction for recognizing revenue, costs, and profits in real estate transactions and distinguishes between transactions that are in substance similar to construction contracts and those that resemble the sale of goods.
Application of AS 7 for Construction-Type Real Estate Transactions
The Guidance Note primarily recommends applying the percentage of completion method as described in Accounting Standard 7 for transactions that share the economic characteristics of construction contracts. These types of projects typically involve activities such as land development, structural engineering, and architectural design, and their duration usually extends beyond one year, covering more than one accounting period. Individual units in such projects may be contracted to separate buyers, but the development activities and provision of common amenities link these units into a single project. In such situations, revenue recognition should follow the percentage completion method to match revenue with the progress of construction and costs incurred.
Application of AS 9 for Real Estate Sales Resembling Sale of Goods
In cases where a real estate transaction resembles the sale of goods more than a construction contract, the principles of AS 9 are applied. Under this standard, revenue is recognized when all the significant risks and rewards of ownership have been transferred to the buyer, and the seller retains no effective control over the property. Possession of the property should also be handed over, and there should be no significant uncertainty regarding the amount of consideration to be received. The timing of recognition is determined by the terms and conditions outlined in the agreement of sale.
Conditions for Applying AS 9 to Real Estate Projects
The seller must transfer all significant risks and rewards to the buyer. The seller must also relinquish effective control over the real estate. Additionally, the seller must hand over possession of the property, and there should be no significant uncertainty about the consideration receivable. It must be reasonably certain that the buyer will complete payment. If the transaction meets all these criteria, revenue can be recognized at the time of sale, even if the legal title has not yet passed or possession has not been formally handed over. However, if substantial performance on other parts of the project is still pending, even if an individual contract appears to meet these conditions, revenue should not be recognized until those performance obligations are completed.
Using the Percentage Completion Method under AS 7
The percentage completion method is recommended when real estate projects are economically similar to construction contracts. Indicators that suggest using this method include the length of the project exceeding twelve months and falling into more than one accounting period, inclusion of land development and construction activities, and the provision of common features across different units within the project. In these cases, the seller acts similarly to a contractor after transferring all significant risks and rewards. The recognition of revenue is then based on the percentage of work completed, in accordance with the guidance in AS 7.
Rebuttable Presumption for Reliable Estimation
There is a rebuttable presumption that the outcome of a real estate project can be reliably estimated and that revenue should be recognized under the percentage completion method only when certain events are completed. These conditions include obtaining all critical approvals necessary to commence the project. Approvals may involve environmental clearances, design and plan approvals, title verification, and land-use changes. Another condition is that the project must reach a reasonable level of development. This is interpreted as incurring at least 25 percent of the total estimated construction cost. Furthermore, at least 25 percent of the saleable project area should be covered by legally enforceable contracts with buyers. Additionally, at least 10 percent of the total revenue as per the sale agreements must be realized by the reporting date, and there should be reasonable assurance that buyers will fulfill their payment obligations.
Treatment of Projects Not Meeting Revenue Recognition Thresholds
If a project does not meet all of the conditions described above, revenue should not be recognized under the percentage completion method. In such cases, any amounts received from buyers are treated as advances and not as income. The developer must wait until the threshold conditions are satisfied before recognizing revenue, even if a portion of the payment has already been received and work has begun.
Recognition of Revenue for Real Estate Transactions with Multiple Elements
Real estate transactions may include additional services or deliverables beyond the construction of units. These may include property management services, the sale of decorative fittings not integrated into the property, or income from temporary rental arrangements. In such cases, the total consideration received from the buyer must be allocated among the various components of the contract. Allocation should be based on the fair market value of each component. Revenue is then recognized separately for each element based on the applicable accounting standard and the timing of delivery or performance of that component.
Example of Revenue Recognition Using Percentage Completion Method
Consider a real estate project with a total saleable area of 20,000 square feet and estimated total costs of 600 lakhs, comprising 300 lakhs for land and 300 lakhs for construction. By the end of the reporting period, 360 lakhs has been incurred, including all land costs and 60 lakhs in construction. The developer has sold 5,000 square feet for a total sale value of 200 lakhs. At the reporting date, 50 lakhs has been realized. The work completed amounts to 60 percent of the total cost including land, or only 20 percent of the total construction cost. Since the construction cost incurred is less than 25 percent of the total, revenue cannot be recognized yet.
If the cost incurred at the end of the reporting period rises to 390 lakhs, which includes 90 lakhs in construction, the percentage of completion of construction becomes 30 percent. Now that the 25 percent construction threshold has been crossed and 10 percent of revenue has been realized, the developer can recognize revenue. For the 5,000 square feet sold, the agreement value is 200 lakhs. The percentage of completion is 65 percent based on the total project cost. Thus, revenue recognized would be 130 lakhs. Proportionate cost for this portion would be 97.5 lakhs. The resulting profit from the project would be 32.5 lakhs. The remaining project cost of 292.5 lakhs is treated as work in progress.
Recognition of Export-Related Benefits
Export benefits such as the Duty Entitlement Pass Book credit are recognized in the year of export if there is no uncertainty. The benefit is earned when the export activity occurs, and the revenue should be booked accordingly. The matching concept supports recognizing the benefit in the same period as the related export transaction. Even if the benefit is to be used in future imports, the credit arises as a result of the export, and not the import. If the credit is to be sold rather than used, it is treated in the same way, as long as there is no significant uncertainty about realization. However, where there is uncertainty regarding the amount or ultimate collection of the export benefit, recognition should be deferred until the uncertainty is resolved.
Treatment of Inter-Divisional Transfers
The Institute of Chartered Accountants has clarified that inter-divisional transfers do not qualify as revenue under AS 9. In such transfers, risks and rewards do not pass outside the enterprise, and no real consideration is involved from the perspective of the business as a whole. Since revenue recognition under AS 9 requires the transfer of significant risks and rewards of ownership and the receipt of consideration, these conditions are not met in internal transfers. Therefore, inter-divisional transactions should not be included as revenue in the financial statements.
Revenue Recognition in Special Situations
Revenue recognition can become more complex when special transactions or conditions are involved. AS 9 provides guidance on some of these cases, ensuring that revenue is neither overstated nor understated and reflects the actual flow of benefits.
Interest, Royalties, and Dividends
Revenue from interest, royalties, and dividends is recognized when no significant uncertainty exists regarding measurability and collectability. The timing of recognition differs from goods and services and is governed by specific principles:
- Interest:
Interest income is recognized on a time-proportion basis that takes into account the amount outstanding and the applicable interest rate. This method ensures that interest is recognized over the relevant time period during which it is earned. - Royalties:
Royalties are recognized on an accrual basis, in accordance with the terms of the relevant agreement. For example, a royalty for the use of a patent would be recognized based on the contract’s accrual schedule. - Dividends:
Dividends are recognized when the right to receive payment is established. This typically means the date on which the investee company declares the dividend.
Revenue from Service Transactions Spanning Multiple Accounting Periods
When services are rendered through an indeterminate number of acts over a specified period of time, revenue is recognized on a straight-line basis over the period unless another method better represents the service pattern. Examples include insurance, maintenance contracts, and annual subscriptions.
If the service consists of a single act or involves a specific stage, revenue is recognized when the act is completed or the stage is completed. This is known as the completed service contract method.
Rendering of Services Under Significant Uncertainty
If the revenue amount or collectability is uncertain, recognition is postponed. Revenue is only recognized when the uncertainty is resolved. In certain industries, such as construction or software implementation, estimates and judgments are heavily used. If the entity cannot reliably estimate the outcome, it should defer revenue recognition.
Post-Sale Events Impacting Revenue
In some cases, post-sale conditions may affect revenue recognition. AS 9 requires that if there is a significant possibility of return or refund, then revenue should be recognized only when the likelihood of return is minimal or estimable.
For example, if a company sells goods with a right of return, it should estimate future returns and reduce revenue accordingly. If no reasonable estimate can be made, revenue recognition should be delayed until the return period lapses.
Installment Sales
Revenue from installment sales should be recognized based on the accrual method. The total sale price is recorded at the time of sale, and interest income is recognized over the period as it accrues. This ensures the proper timing of revenue, separating principal and interest components.
Consignment Sales
In consignment sales, revenue is not recognized when goods are delivered to the consignee. It is recognized only when the consignee sells the goods to a third party. Until then, the consignor retains ownership and the risks and rewards of the goods.
Licensing and Franchise Fees
Licensing revenue may include one-time fees and ongoing royalty payments. A one-time fee is typically recognized when the license is granted, assuming no continuing performance obligation. Ongoing royalties are recognized as per the accrual principle. In franchise arrangements, fees may include initial franchise fees and periodic payments, which are recognized based on the terms and timing of the services provided.
Disclosure Requirements and Practical Implications of AS 9
Accounting Standard 9 not only outlines how and when revenue should be recognized but also mandates certain disclosures to promote transparency, comparability, and informed decision-making by stakeholders.
Disclosure Requirements Under AS 9
Entities must disclose the following in their financial statements:
Revenue Recognition Policies:
The accounting policies adopted for recognizing revenue from each of the following must be disclosed:
- Sale of goods
- Rendering of services
- Interest, royalties, and dividends
This disclosure enables users of the financial statements to understand the basis on which revenue has been reported.
Quantitative Disclosures:
Entities are also expected to disclose the amount of revenue recognized under each significant category:
- Revenue from sale of goods
- Revenue from services
- Interest income
- Royalty income
- Dividend income
This breakdown helps in evaluating the revenue sources and their relative importance.
Uncertainty in Revenue Recognition:
When revenue recognition is postponed due to significant uncertainty regarding its collection or amount, the circumstances must be disclosed. This includes:
- Nature of the uncertainty
- The reason why recognition was deferred
- Any changes in the condition that could impact future recognition
Such disclosures increase confidence in the quality and conservatism of the revenue reported.
Limitations of AS 9
Although AS 9 provides a strong framework for revenue recognition, it has some limitations:
- Lack of Guidance on Complex Transactions:
AS 9 does not cover complex arrangements like multiple-element contracts, bundled sales, or performance obligations spread across long durations in great detail. These areas are covered in more depth by Ind AS 115 (Revenue from Contracts with Customers), applicable to certain Indian companies. - Simplified Treatment of Services:
The standard does not fully address percentage-of-completion methods or input/output methods in service contracts, which can be essential for companies involved in construction, software implementation, or outsourcing. - Absence of Fair Value Consideration:
AS 9 focuses on nominal values and does not incorporate fair value measurement or time value of money considerations in revenue recognition.
Key Takeaways for Businesses
- Establish Clear Policies:
Companies should ensure that they have consistent and well-documented revenue recognition policies aligned with AS 9. This helps avoid inconsistencies in financial reporting. - Maintain Adequate Records:
Proper documentation of transactions, contracts, delivery terms, and payment schedules is critical to justify revenue recognition and support audits. - Monitor Changes in Customer Contracts:
Any change in contract terms can impact the timing or amount of revenue recognition. Businesses must be vigilant in reassessing their contracts periodically. - Consider Upgrading to Ind AS:
For companies required to follow Ind AS, transitioning from AS 9 to Ind AS 115 may necessitate changes in systems, processes, and disclosures. Even those not mandated can benefit from understanding how future standards might alter recognition practices. - Train Finance Teams:
Due to the nuances involved, regular training on AS 9 principles and real-world applications is essential for accounting and finance teams.
Conclusion
Revenue is a critical component of a company’s performance, and AS 9 offers foundational guidance on how to recognize it appropriately. Though it is a principle-based standard, its emphasis on risk transfer, measurement certainty, and the absence of significant uncertainty ensures revenue is recognized faithfully. Companies must not only apply these principles rigorously but also make necessary disclosures to uphold the integrity of their financial reporting.