We’ve covered quite a bit of ground on our road to revenue thus far.
At our first stop we determined whether we have a contract with a customer, we learned what a contract was and what a customer was. At our second stop we figured out exactly what we have agreed to deliver to our customer as part of this contract. After a short break, we traveled a bit farther and came to our third stop. Here’s where we will consider the “fun” part, what we will be paid, the “transaction price.”
So, what exactly is the “transaction price”?
What Is a Transaction Price?
Our authoritative guidance, the ASC 606 – Revenue from Contracts with Customers (“ASC 606”) tells us that the transaction price is “the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer.”
The transaction price then, is what we will receive, typically cash, in exchange for the goods or services that we deliver to our customer. Seems pretty simple, doesn’t it?
In most instances that will be the case, the transaction price will be clearly spelled out in the contract. Often it will be fixed and will be easy to figure out.
In other cases the transaction price will be much more complex.
Dealing With Complex Transaction Prices
In some of these cases, all or a part of our price may vary depending upon our performance, the customers use of what we’ve delivered to them, or something else, this is what we call variable consideration. In some other cases the customer may be paying us over an extended period of time, this type of consideration then includes a significant financing component which we will need to consider in our price.
Still in other cases we may agree to accept something other than cash in exchange for what we provide to the customer, this is what we call the noncash consideration. A fourth case to consider is when we offer our customer a discount on the sales price in order to entice them to purchase your product or service. All of these will add some level of complexity to our analysis of our transaction price.
Here are some things to think about:
- Variable Price Components: If our price or part of our price to our customer will vary, it may be difficult to fully calculate the total transaction price because we may not know the value of this variable component when we enter into our agreement. What we would do in this case is estimate the variable portion of our price by either using the weighted average of the range of possible prices or use the amount that is most likely to be the case. This will take some judgement on our part and will require us to have processes and systems in place to monitor the variable components of our price so that we can adjust it as needed to reflect the final actual price. This is a change to how we currently look at transaction prices. Under our current guidance we can only consider those fees that are fixed or determinable/certain in coming up with our total revenue, that is our transaction price. Under this new guidance we will be able to include the uncertain, but estimable, variable component of our price in our total revenue.
- Financing Customer’s Purchases: There may be cases where we decide to allow our customer to pay over a period of time that is more than one year. We will need to take into consideration that part of the transaction price will include a financing component similar to an interest rate charged on a loan. This “interest” component with then become part of our transaction price.
- Noncash Components: What if part of what we receive from our customer is goods or services, “noncash”? In this case we would follow current guidance and measure that part of our consideration based upon its fair value.
- Customer Discounts: If we offer to pay something back to our customer and they are not required to provide a good or service in exchange for this payment, then in fact we are providing a discount to our customer that would go towards reducing the total transaction price.
What it comes down to is our transaction price is the total of everything that we expect to receive from your customer in exchange for the goods or services that we will be delivering to them.
Our transaction price may be fixed and simply stated in the contract, or it may be a combination of a fixed price plus one or more of the other types of consideration as we discussed above. Just like we did with performance obligations, we will take stock of all of the types of consideration we expect to receive from our customer as a result of delivering to them the goods or services we agreed to, this is our transaction price.
Thank you for traveling down the revenue recognition road with me to our third stop. At our stop we will be tackling a complex, but intriguing, subject, allocation our transaction price between our performance obligations. Stay tuned!
Keep going and read on. Read the next post in the Road to Revenue Series: Allocating Our Price.
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