Principal versus agent considerations exist when more than one party is involved in providing goods or services to a customer, the standard requires an entity to determine whether it is a principal or an agent in these transactions by evaluating the nature of its promise to the customer. Principal versus agent considerations
An entity is a principal (and, therefore, records revenue on a gross basis) if it controls a promised good or service before transferring that good or service to the customer. Principal versus agent considerations
Control over good or service
In the Basis for Conclusions, the Board explained that in order for an entity to conclude that it is providing the good or service to the customer, it must first control that good or service. That is, the entity cannot provide the good or service to a customer if the entity does not first control it. Principal versus agent considerations
If an entity controls the good or service, the entity is a principal in the transaction. If an entity does not control the good or service before it is transferred to the customer, the entity is an agent in the transaction (IFRS 15 BC 385D). Principal versus agent considerations
Manufacturing goods or services – Principal
In the Basis for Conclusions, the Board noted that an entity that itself manufactures a good or performs a service is always a principal if it transfers control of that good or service to another party. There is no need for such an entity to evaluate the principal versus agent application guidance because it transfers control of or provides its own good or service directly to its customer without the involvement of another party.
For example, if an entity transfers control of a good to an intermediary that is a principal in providing that good to an end-customer, the entity records revenue as a principal in the sale of the good to its customer (the intermediary) (IFRS 15 BC 385E).
An entity is an agent (and, therefore, records as revenue the net amount that it retains for its agency services) if its role is to arrange for another entity to provide the goods or services. Principal versus agent considerations
Extract from IFRS 15
When another party is involved in providing goods or services to a customer, the entity shall determine whether the nature of its promise is a performance obligation to provide the specified goods or services itself (ie the entity is a principal) or to arrange for those goods or services to be provided by the other party (ie the entity is an agent).
An entity determines whether it is a principal or an agent for each specified good or service promised to the customer. A specified good or service is a distinct good or service (or a distinct bundle of goods or services) to be provided to the customer (see paragraphs 27–30).
If a contract with a customer includes more than one specified good or service, an entity could be a principal for some specified goods or services and an agent for others.
To determine the nature of its promise (as described in paragraph B34), the entity shall:
An entity is a principal if it controls the specified good or service before that good or service is transferred to a customer. However, an entity does not necessarily control a specified good if the entity obtains legal title to that good only momentarily before legal title is transferred to a customer.
An entity that is a principal may satisfy its performance obligation to provide the specified good or service itself or it may engage another party (for example, a subcontractor) to satisfy some or all of the performance obligation on its behalf.
The decision tree illustrates the process for performing a principal versus agent evaluation:
Document your decisions in your financial close file to facilitate internal review and approval and external audits.
The last principal/agent question in the above decision tree focuses on the fact that for each specified good or service, the entity questions whether it controlled it before it is transferred to the customer.
As part of this analysis, entities are required to consider the definition of control in IFRS 15 33 and, as additional support, may find it helpful to consider the indicators in IFRS 15 B37, as follows.
If it is unclear whether the entity controls a specified good or service after consideration of the definition of control in IFRS 15 33, consider the following indicators from IFRS 15 B37 as additional support:
- The entity is primarily responsible for fulfilment and acceptability.
- The entity has inventory risk before or after transfer to customer.
- The entity has discretion in setting the price. Principal versus agent considerations
The principal versus agent application guidance applies regardless of the type of transaction under evaluation or the industry in which the entity operates. Entities that:
1. do not stock inventory
do not stock inventory and may employ independent warehouses or fulfilment houses to drop-ship merchandise to customers on their behalf; or
2. services by an independent service provider
offer services to be provided by an independent service provider (e.g., travel agents, magazine subscription brokers and retailers that sell goods through catalogues or that sell goods on consignment) may need to apply significant judgement when applying this application guidance of IFRS 15.
See also: The IFRS Foundation
Principal versus agent considerations