CPA Canada’s IFRS Discussion Group recently discussed some issues arising from covid-19.
The fact pattern for one of them is this:
- As a result of government-imposed closures due to the pandemic, many businesses have sent employees home with pay. These employees are inactive while at home but are expected to return to work whenever operations resume.
Those are luckier employees than many you may know of, but anyway, that’s not the issue. The group considered how to account for the employee costs in that situation. On the one hand, you might think the salaries and wages should be accrued and expensed at the point when the employees become inactive, based on an estimate of the amount to be paid over the course of the action: this view sees the expense to be paid to them as providing no benefit. Alternatively, you might take the view that “wages and salaries are paid to employees to stay at home, partially to ensure a smooth transition when business returns to normal. As a result, the inactive employees are providing benefits to the employer throughout the period of inactivity.” In this case the cost would be expensed as incurred, no differently from general wages and salary costs.
IAS 19 has a concept of “non-accumulating paid absences,” to cover things like holidays and sick leave when those paid absences don’t carry forward, and don’t entitle employees to a cash payment for unused entitlement: it requires recognizing the cost of those absences when they occur, noting that an “entity recognizes no liability or expense until the time of the absence, because employee service does not increase the amount of the benefit.” Although the covid-19 fact pattern set out above fits into that general concept, it’s obviously somewhat different: an employer offers those other kinds of paid absences as a necessary element of attracting and retaining employees on an ongoing basis, whereas the covid-19-imposed closures are a reflection of (one hopes) an extraordinary one-time disruption, the costs and benefits of which lie beyond usual economic reckoning.
Anyway, the group members supported the second view set out above, noting “that the employees are not terminated. Instead, these employees are standing ready to return to work during this inactive period to ensure a smooth transition when business normalizes. Therefore, the employees’ salary and wages should be accrued and expensed over time.” Although that seems like the best answer, it seems rather like one imposed by the unknowability of the situation. If, for example, one knew with certainty that the employees would be inactive for exactly three months, providing no benefit during that period other than collecting money and waiting to return, the argument for accruing the estimated cost of that period would seem to be a little higher at least. But I suppose the group’s consensus recognizes the dismal reality of economic activity in this scenario, with the relationship between inputs and outputs harshly disrupted, and with no real visibility over when it might be repaired.
Here’s another fact pattern:
- Entity A is a manufacturer with long term contracts with customers for its products. Revenue for these contracts are recognized over time in accordance with IFRS 15 Revenue from Contracts with Customers.
- As a result of covid-19, Entity A has closed its manufacturing facilities. Entity A expects that it may not be able to meet the contractual delivery deadline for the products to its customers and may have to pay penalties.
- Historically, Entity A has not estimated any payment of penalties in accounting for its long-term contracts.
You’ll recall that the penalties fall within the concept of “variable consideration,” for which the amount an entity includes in the transaction price is constrained to the amount for which it is highly probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainties related to the variability are resolved. Plainly, unanticipated closures of this kind will affect that assessment. But the group pointed out that the implications might go further, requiring a broader reassessment of the probability that the entity will collect the consideration it expected. Depending on the situation, the entity might realistically anticipate providing price concessions going beyond the contractual penalties, further affecting the assessment of variable consideration. Depending on the extent of this uncertainty, the arrangement might even fail to any longer be considered as a contract within the scope of IFRS 15 (which requires for instance that the entity can identify the payment terms for the goods or services to be transferred, and that it is probable that it will collect the consideration to which it will be entitled). Or alternatively, the scope or price of the contract may have changed to the extent of identifying a contract modification, with various accounting implications depending on the facts and circumstances. Or maybe the much-discussed but not so often applied “onerous concept” of IAS 37 comes into play.
Needless to say, in both those fact patterns, the utility of the accounting treatment depends on providing full disclosure of the situation, the related uncertainties and the consequent accounting judgments and determinations. I expect that in both cases, and in others arising from covid-19, it’s unusually easy to imagine the real-world stories that might drive such scenarios…
The opinions expressed are solely those of the author