The Dilemma of Combining Contracts as per IFRS 15!

Hello fellow finance enthusiasts,

Did you know that after the introduction of the new IFRS 15 standard, one of the most contentious issues & challenges is – when should an entity combine two or more contracts as a single contract?

Let’s understand with the help of a simple example:

Oracle Inc (a leading IT company), entered into a contract with the Indian Oil Corporation Ltd to create a fully automated procurement system that would save their time immensely. Two weeks later, Oracle Inc entered into a similar contract with Bharat Petroleum Corporation to sell the same system.

Both Indian Oil Corporation and Bharat Petroleum are controlled by the Ministry of Petroleum and Natural Gas, i.e., both the companies are Government-owned. While negotiating the contract with these entities, Oracle Inc consented to provide a deep discount only if both the companies agreed to purchase the Automated procurement system from Oracle Inc.

Oracle Inc. is in a dilemma as to whether to account for this as 2 separate contracts or a single contract? Let us solve the dilemma as per IFRS 15!

If two or more contracts are entered “around the same time” and “with the same customer”, they can be accounted for as a single contract, if any one of the following are met:

• Criteria 1: The contracts are negotiated as a package with a single commercial objective.
• Criteria 2: The consideration of one contract depends upon the Price or Performance of the other contract.
• Criteria 3: The goods or services promised in the contract are not distinct i.e., they qualify as a single performance obligation.

Important Note: A judgement needs to be made by the entity if the contracts are entered “around the same time” as the standard does not provide a specific period to define such term.

Coming back to Oracle Inc’s dilemma,

Both Indian Oil Corporation and Bharat Petroleum are owned by the Government of India, which means that the contracts are entered with the same customer.

The contracts are entered within two weeks, and it would be safe to assume that this classifies as ‘near same time’ for Oracle Inc.

It is evident from the negotiations of Oracle Inc. that services would be provided at a discount only when “BOTH” the government owned entities purchase the automated system. This implies that the contracts are negotiated with a single commercial objective and consideration of one contract is dependent on the other contract.

Oracle Inc. thus fulfils not just one, but two criteria which are stated above.

Thus, the contracts with Indian Oil Corporation and Bharat Petroleum should be accounted for as a single contract by Oracle Inc.

If you have encountered a situation where you had to determine whether two or more contracts should be combined or not, let me know in the comments below!

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