Accounting For Customer Loyalty Programs – FAQ | IFRS

Accounting for Customer Loyalty Programs

Accounting for Customer Loyalty Programs in IFRS 15 is about customer options for additional goods or services and includes cases that should facilitate an easier understanding of this subject. Accounting for Customer Loyalty Programs

When a contract grants a customer the option to acquire additional goods or services, such an option is treated as a separate performance obligation if it gives ‘a material right’ to the customer. It other words, when it is different from a regular marketing/promotional offer. If this is the case, the customer has in substance prepaid for goods or services to be delivered in the future. A material right is a right that (IFRS 15 B39-B41): Accounting for Customer Loyalty Programs

  • the customer would not receive without entering into that contract and
  • gives the customer an option to acquire an additional good or service at a price that is lower than the stand-alone selling price (SSP). Accounting for Customer Loyalty Programs

It is necessary to estimate SSP of an option in order to allocate a part of transaction price to this option as it is treated as a separate performance obligation. Such an estimate takes into account the following factors (IFRS 15 B42): Accounting for Customer Loyalty Programs

  • the discount that this option gives Accounting for Customer Loyalty Programs
  • the discount that the customer could receive without the option under analysis and
  • the likelihood that the option will be exercised. Accounting for Customer Loyalty Programs

Revenue relating to the option is recognised when future goods or services are transferred or when the option expires (IFRS 15 B40).

Examples / Cases

See links to Examples 49, 50, 51 and 52 in IFRS 15 or the cases below.

Case 1: an option for additional good

Entity A sells to its customer product X for EUR 1,500 and grants and option to purchase product Y for EUR 750.  Product Y is sold separately by Entity A for EUR 1,050. Entity A determines that the option to purchase product Y for EUR 750 is a material right to a customer. Entity A must therefore determine the stand-alone selling price (SSP) of this option and estimates as follows:

This option to purchase product Y for EUR 750 (regular price EUR 1,050) provides a discount of EUR 300, normally returning customer (not buying product X) receive a discount of EUR 75, so cost of the additional discount is EUR 225, entity A estimates the likelihood that a customer will exercise this option at 80%. so: Accounting for Customer Loyalty Programs

the SSP of this discount is [300 – 75] * 80% = EUR 180

The transaction price in the contract of EUR 1,500 is allocated between product X and an option for product Y as follows:

Amounts in EUR

Stand-alone Selling price

Proportionate value contribution

Price allocation

Product X

1,500

89%

1,335

Calculation

= 1,500 / 1,680

= 89% * 1,500

Option for Product Y with purchase of product X

180

11%

165

Calculation

= 180 / 1,680

= 11% * 1,500

Total combined purchase X plus Y

1,680

1,500

On delivery of Product X to the customer, the customer pays EUR 1,500 of which Entity A recognises EUR 1,335 of revenue (and the (normal) cost of Product X as an expense). The cost of the option to buy product Y of EUR 165 (the remainder) is presented as contract liability.

When the customer exercises his option, it purchases Product Y for EUR 750. Entity A recognises revenue of EUR 750 plus the release of theAccounting for Customer Loyalty Programs option liability of EUR 165 (total revenue EUR 915). The (normal) cost of product Y is of again recognised as an expense at the same time.

Case 2: Customer loyalty program – own operation

Entity A operates a customer loyalty programme. For every EUR 100 worth of purchases, a customer receives 5 loyalty points. These points can be spent on purchases from Entity A and each point can be spent on EUR 1 worth of purchases. Entity A estimates that 90% of points will be redeemed by customers and remaining 10% will expire, therefore the stand-alone selling price of one point is EUR 0.9 (EUR 1 x 90% redemption likelihood). Points can be redeemed by the end of the year following the year of issuance of the points.

During year 20X1, Entity A sells products for EUR 100 million. Therefore, 5 million points were awarded to customers. Total transaction price of EUR 100 million is allocated between products sold and points awarded as follows: Accounting for Customer Loyalty Programs

Amounts in EUR

Stand-alone Selling price

Proportionate value contribution

Price allocation

Products sold

100,000,000

96%

96,000,000

Calculation

= 100 / 104.5

= 96% * 100

Loyalty points awarded

4,500,000

4%

4,000,000

Calculation

= 4.5 / 104.5

= 4% * 100

104,500,000

100,000,000

Entity A accounts for these transactions on a daily basis, resulting in an annual cash receipt of EUR 100M of which EUR 96M is recognised as revenue in profit or loss (with an accompanying (automated matching) cost of sales entry) and EUR 4M as a loyalty points (contract) liability.

Amounts in EUR millions

DT

CR

Cash

100

Revenue

96

Loyalty points (contract) liability

4

100

100

During year 20X2, 3.5 million points are redeemed by customers for purchases of products. Entity A updates its assessment and now believes that 95% of points will be redeemed and only 5% will expire. As a result, EUR 3 million of contract liability is released to revenue (3.5 million points / 4.75 million points expected to be redeemed x EUR 4 million of the allocated transaction price) and EUR 1 million remains recognised as contract liability and will be recognised in year 20X3 when the remaining points will be redeemed or expire. Obviously, the cost of products given to customers in exchange for loyalty points is recognised in P/L. Accounting for Customer Loyalty Programs

Case 3: Customer loyalty program – third party operation

Entity A takes part in a customer loyalty programme operated by a large electronics retailer + Entity X.  For every EUR 100 worth of purchases, a customer receives 5 loyalty points. These points can be spent on purchases from Entity X only and each point can be spent on EUR 1 worth of purchases. Entity A estimates the stand-alone selling price of one point to be EUR 0.9. For each point transferred to a customer, Entity A pays Entity X EUR 0.7. Accounting for Customer Loyalty Programs

During year 20X1, Entity A sells products for EUR 100 million. Therefore, 5 million points were awarded to customers. Total transaction price of EUR 100 million is allocated between products sold and points awarded as follows (same as in case 1):

Amounts in EUR

Stand-alone Selling price

Proportionate value contribution

Price allocation

Products sold

100,000,000

96%

96,000,000

Calculation

= 100 / 104.5

= 96% * 100

Loyalty points awarded

4,500,000

4%

4,000,000

Calculation

= 4.5 / 104.5

= 4% * 100

104,500,000

100,000,000

Additionally, Entity A concludes that it acts as an agent of Entity X. Therefore, Entity A recognises revenue immediately when points are awarded to customers, as its performance obligation as an agent was to provide customers with the loyalty points of Entity X. Entity A recognises revenue relating to loyalty points on a net basis (a commission), which is the allocated price of EUR 4 million less EUR 3.5 million paid to Entity X. Accounting for Customer Loyalty Programs

The entries made by Entity A are as follows: Accounting for Customer Loyalty Programs

Step 1 – products are sold and points awarded

Amounts in EUR millions

DT

CR

Cash

100

Revenue

96

Loyalty points (contract) liability

4

100

100

Step 2 – Revenue relating to loyalty points is recognised as a commission and payment to Entity X is made:

Amounts in EUR millions

DT

CR

Cash

3.5

Revenue

0.5

Loyalty points (contract) liability

4

4

4

Paragraphs IFRS 15 B44-B47 require entities to estimate the so-called ‘breakage’, that is the amount/value of contractual rights that will never be exercised. This usually concerns gift cards and non-refundable tickets. Such an estimated breakage is recognised as revenue when the likelihood of the customer exercising its remaining rights becomes remote, even though the performance obligation has not been satisfied. See Example 52 in IFRS 15. Accounting for Customer Loyalty Programs

Non-refundable upfront fees should be assessed against the criteria for identifying a performance obligation which will determine their accounting treatment. Usually, the upfront fee does not result in the transfer of a distinct good or service to the customer and therefore is not treated as a separate performance obligation. Instead, it is allocated to other performance obligations identified in the contract (IFRS 15 B48-B50). Accounting for Customer Loyalty Programs

When the up-front fees are deemed to be a compensation for set-up costs incurred by the entity, those costs can be recognised as costs to fulfil a contract (assets) (IFRS 15 B51).

See Example 53 in IFRS 15.

See also: The IFRS Foundation

Leave a comment