SaaS Contract with Implementation, Bonus and Seat Addition
Northwind Software Ltd, a UK SaaS provider, signed a three-year contract on 1 January 20X5 with a retail customer. The fixed consideration is £1,200,000: £900,000 for cloud subscription, £200,000 for implementation and configuration, and £100,000 for support. The implementation significantly customises the cloud environment, and the customer cannot benefit from the subscription without it; the implementation does not transfer a separate asset. Standalone selling prices are £1,000,000 for subscription, £250,000 for implementation and £50,000 for support. Northwind also expects a £150,000 bonus if uptime exceeds 99.9%; similar bonuses have been earned on only two of its last ten contracts. At the end of year 1, the customer pays £180,000 to add 200 seats for the remaining two years; the standalone price would have been £220,000. Northwind prepares IFRS financial statements and has a 31 December year end.
1. Identify the performance obligations in the Northwind contract and allocate the £1,200,000 fixed consideration. Justify the treatment of implementation.
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Step 1 - identify promises that are distinct. The customer can benefit from the subscription only once the implementation has configured the environment, and the implementation significantly customises and integrates the service. It therefore is not separately identifiable and cannot be a separate performance obligation. Subscription and implementation form one combined performance obligation recognised over time. Support is distinct: the customer can benefit from support alongside the software, and it is separately identifiable.
Step 2 - allocate on relative standalone selling price. Combined SSP = £1,000,000 + £250,000 = £1,250,000. Support SSP = £50,000. Total SSP = £1,300,000.
Combined allocation = £1,200,000 × 1,250,000/1,300,000 = £1,153,846. Support allocation = £1,200,000 × 50,000/1,300,000 = £46,154.
Step 3 - recognise. The combined obligation is recognised over the three-year service period, approximately £384,615 each year if straight-line. Support is recognised over the period the support is provided, approximately £15,385 each year. No separate £200,000 implementation revenue is recognised at inception; doing so would overstate revenue and understate the remaining service obligation.
2. How should Northwind account for the £150,000 uptime bonus at contract inception and at 31 December 20X5?
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The bonus is variable consideration. IFRS 15 requires an estimate using either the expected-value or most-likely-amount method, depending on which better predicts the outcome. Because the bonus is binary, the most-likely amount is £0; an expected-value calculation gives £30,000 (£150,000 × 2/10), but that does not override the constraint.
The constraint permits inclusion only to the extent that a significant reversal of cumulative revenue is highly probable when the uncertainty is resolved. A 20% historical success rate is not strong evidence that the 99.9% uptime threshold will be met. At inception, Northwind should therefore constrain the bonus to nil and recognise no variable revenue.
At 31 December 20X5, reassess. If the bonus relates to annual uptime and the 20X5 target has actually been achieved, the uncertainty for that year is resolved; recognise £150,000 for 20X5 if no clawback or refund applies. If the bonus depends on cumulative uptime over the full three years, continue to constrain it until achievement is highly probable, then recognise a cumulative catch-up. Disclosure of the judgement and the constraint is required.
3. Account for the £180,000 modification at the end of year 1.
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At the end of year 1, Northwind must assess whether the modification adds distinct goods or services and whether the price reflects their standalone selling price. The additional 200 seats are capable of being distinct, but the £180,000 price is £40,000 below the £220,000 standalone price. Because the price is not at standalone selling price, the modification is not accounted for as a separate contract.
Instead, treat it as termination of the existing contract and creation of a new contract. The unrecognised consideration from the original contract is the remaining two-thirds of the combined allocation (£769,231) plus the remaining support allocation (£30,769), totalling £800,000. Add the new consideration of £180,000, giving £980,000 to allocate to the remaining services.
Allocate the £980,000 between the remaining original services and the additional seats on a relative standalone selling price basis. If the additional seats are not distinct from the combined subscription service, combine them into the single remaining performance obligation and recognise over the remaining two years. The £40,000 discount is effectively spread over the remaining term rather than recognised immediately.