IFRS 15, description of potential effects of future adoption, with quantification, lump sum royalties

Koninklijke Philips N.V. – Annual report – 31 December 2017

Industry: manufacturing

1 Significant accounting policies (extract)

New standards and interpretations (extract)

IFRS accounting standards to be adopted as from 2018 and onwards (extract)

IFRS 15 Revenue from Contracts with Customers

The IASB has issued a new standard that specifies how and when revenue is recognized and prescribes more informative and relevant disclosures. The standard supersedes IAS 18 Revenue, IAS 11 Construction Contracts and a number of revenue-related interpretations.

The new standard provides a single, principles-based five-step model to be applied to all contracts with customers and is based on the principle that revenue is recognized when control of a good or service transfers to a customer. Furthermore, it provides new guidance on whether revenue should be recognized at a point in time or over time. The standard also introduces new guidance on costs of fulfilling and obtaining a contract, specifying the circumstances in which such costs should be capitalized. Costs that do not meet the criteria must be expensed when incurred.

The actions needed to implement IFRS 15 in the organization have been finalized and the quantitative impacts determined, except for the determination of the final IFRS 15 disclosures to be included in the Annual Report for 2018. These will be finalized in the coming year. The following main impacted areas were identified.

Royalty income

Currently the Company recognizes revenue from intellectual property (IP) royalties, which is normally generated based upon a percentage of sales or a fixed amount per product sold, on an accrual basis based on actual or reliably estimated sales made by the licensees. Revenue generated from an agreement with lump-sum consideration is recognized on accrual basis based on the contractual terms and substance of the relevant agreement with a licensee. Under IFRS 15, revenues from the licensing of intellectual property should be recognized based on a right to access the intellectual property or a right to use the intellectual property approach. Under the first option revenue is recognized over time while under the second option revenue is recognized at a point in time. As a result, this will have an impact on revenues originating from the Company’s IP royalties with lump-sum consideration (within segment HealthTech Other) since under IFRS 15 such revenues will be recognized in the Statement of income at an earlier point in time rather than over time under the current methodology. An amount of EUR 34 million of deferred revenue will be recorded as an increase in retained earnings upon transition and a deferred tax asset of EUR 7 million will be released as a consequence. The net impact in equity will be EUR 25 million.

Costs of obtaining a contract

Under IFRS 15, the incremental costs of obtaining a contract with a customer are recognized as an asset if the entity expects to recover them.

The Company identified that certain sales commissions paid to third parties and internal employees that are typical for transactions in the segments Diagnosis & Treatment businesses and Connected Care & Health Informatics businesses qualify as incremental costs of obtaining a contract. These costs are mostly paid and capitalized as prepayment upon issuance of sales orders and recognition of revenue related to the sale of goods or rendering of services. Such costs are commonly expensed in line with the revenue recognition pattern of the related goods or services. Due to these sales commissions being largely amortized within a year, the Company decided to adopt the practical expedient of expensing sales commissions when incurred. An impact of EUR 68 million will be recorded as a retained earnings decrease in equity originating from the asset derecognition upon transition, and a deferred tax liability of EUR 17 million will be released as a consequence. The net impact in equity will be EUR 51 million.

Transition

IFRS 15 must be applied for periods beginning on or after January 1, 2018 and it is fully endorsed by the EU. The Company decided to adopt IFRS 15 in its consolidated financial statements for the year ending December 31, 2018, using the modified retrospective transition approach which means that the cumulative impact of the adoption will be recognized in retained earnings as of January 1, 2018 and that comparatives will not be restated. The standard will only be applied to contracts that are not completed as of the date of initial application.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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