Here’s how revenue recognition generally works in a software consulting business:
- Identifying the Contract: The first step is to determine whether a contract exists with a customer. A contract is a legally enforceable agreement that specifies the rights and obligations of both the customer and the software consulting company.
- Identifying Performance Obligations: Next, the software consulting company identifies the performance obligations within the contract. Performance obligations are promises to transfer goods or services to the customer and may include activities such as software development, implementation, training, and support.
- Determining the Transaction Price: The transaction price is the amount of consideration that the software consulting company expects to receive in exchange for transferring goods or services to the customer. It may be fixed or variable and can include monetary or non-monetary consideration.
- Allocating the Transaction Price: If a contract includes multiple performance obligations, the transaction price is allocated to each obligation based on its standalone selling price. The standalone selling price is the price at which the software consulting company would sell the goods or services separately to a customer.
- Recognizing Revenue: Revenue is recognized when (or as) the software consulting company satisfies a performance obligation by transferring control of the promised goods or services to the customer. This typically occurs over time as the services are performed or at a point in time when control is transferred.
- Measuring Progress: If revenue is recognized over time, the software consulting company must determine the progress toward satisfying the performance obligation. This may involve using input or output methods to measure progress, such as the passage of time or the completion of milestones.
- Disclosures: Both IFRS 15 and ASC 606 require extensive disclosures about revenue recognition, including information about the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.