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Chapter 2 – Premium Liability

Premiums

- are articles of value such as toys, dishes, silverware and other goods given to customers as result of past sales or
sales promotion activities

- return of product labels, box tops, wrappers and coupons

Accounting Entries

When premiums are purchased: When premiums are distributed to the customer:
Premiums xxx Premium Expense xxx
Cash xxx Premiums xxx
# #
At the end of the year, if premiums are still outstanding:
Premium Expense xxx
Estimated Premium Liability xxx
#
Estimated Liability

- are obligations which exist at the end of reporting period although their amount is not definite

FREE PRODUCT, DISCOUNT AND REBATE

- in a contact of sale of goods, an entity may offer customer incentives such as free product coupons, discount
coupons and rebate coupons with the end in view of stimulating sales

- IFRS 15, paragraph 22, provides that at contract inception, an entity shall assess the goods promised in a contract
with customer and shall identify as a performance obligation each promise to transfer to the customer either:

a. a distinct good

b. a series of distinct goods that are substantially the same and that have the same pattern of transfer to the
customer

- under paragraph B40, such options to purchase additional goods provide the customer a material right and
therefore gives rise to a performance obligation that the seller must satisfy

- if the options provide a material right to the customer, the customer in effect pays the seller in advance for future
delivery of additional goods

- accordingly, the entity has two performance obligations in these customer options, namely:

1. to deliver or transfer the goods or products sold

2. too satisfy the customer options for coupons for free product, discount and rebate

Under IFRS 15, paragraph 74, an entity is required to allocate the transaction price of goods sold between the products
sold and the customer options based on relative stand-alone selling price.

The allocated transaction price of the customer options shall be deferred and recognized as income when options are
exercised when the options expire.

A. Illustration – Free Product Coupon

An entity sells shelf organizers for P1,500 each. There is a promotion wherein if a customer buys 3 pieces in a single
transaction, a customer receives a coupon for one additional piece for free. During 2022, the entity sold 1,800 pieces or
an equivalent of 600 free additional pieces. The selling price of the products sold is 1,800 multiplied by P1,500 or
P2,700,000. It is expected that 75% of the coupons will be redeemed. During 2023, the entity delivered 150 free
additional pieces to the customer. The stand-alone selling price of the coupons is equal to the selling price of the free
product adjusted by the expected redemption.
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Number of free additional product (1,800/3) 600

Multiply by actual selling price 1,500
Selling price of free products 900,000
Multiply by expected redemption 75%
Stand-alone selling price of coupons 675,000

Allocation of Transaction Price

Stand-Alone Fraction Allocated The fractions are multiplied by
Products sold 2,700,000 2,700 /3,375 0.8 2,160,000 the selling price of the products
sold of P2,700,000 to get the
Coupons 675,000 675/3,375 0.2 540,000
allocated transaction price for
3,375,000 2,700,000 the products and coupons.

To record the sales for 2022:

Cash 2,700,000
Sales 2,160,000
Deferred revenue – coupons 540,000
To record the delivery of 150 free products in 2023:
Deferred Revenues 135,000
Sales 135,000

Stand-alone selling price of 600 coupons 540,000

Coupons redeemed (150/600 x 540,000) 135,000
Deferred Revenue – December 31, 2023 405,000

B. Illustration – Discount Coupon

An entity is a retailer that sells clothing. The entity has launched a promotional campaign wherein customers who
buy clothing with single purchase of at least P10,000 shall be granted “40% discount coupons” on future purchases.
The coupons may be used for 3 months following immediately the campaign. During the campaign, the entity sold
clothing worth P7,600,000 and issued simultaneously 100 “40% discount coupons” to the customers. It is expected
that 80% of the coupons will be redeemed and the customers using the discount coupons will spend an average price
of P12,500.The stand-alone selling price of the discount coupons is equal to the amount of discount on future
purchases adjusted by the expected redemption.

Average price of future purchases 12,500

Multiply by number of discount 100
Total amount of future purchases 1,250,000
Multiply by percentage of discount 40%
Total discount on future purchases 500,000
Expected redemption 80%
Stand-alone selling price of coupons 400,000

Stand-alone Fraction Allocated The fractions are multiplied by

the selling price of products of
Products Sold 7,600,000 76/80 0.95 7,220,000 P7,600,000 to get the allocated
Coupons 400,000 4/80 0.05 380,000 transaction price of the
products sold and the discount
8,000,000 7,600,000
coupons.
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To record the sales:

Cash 7,600,000
Sales 7,220,000
Deferred revenue - coupons 380,000

To record the redemption of coupons:

Cash 600,000
Deferred revenue – coupons 380,000
Sales 980,000

Total amount of future purchase 1,250,000

Discount (40% x 1,250,000) (500,000)
Net Price 750,000
Expected redemption 80%
Cash received from customers 600,000

C. Illustration – Rebate Coupons

Manufacturers sell their products to retailers who in turn sell them to end-customer. End-customers may receive
coupons for discounts if they purchase the same product from the retailers in the future. Since the retailers shall
receive a lower consideration due to the discount, manufacturers may reimburse them for such discount. In effect,
the manufacturer would recognize a refund liability or rebate liability to the retailers. Such liability is reduced when
the manufacturer reimburses the retailers.

- Under IFRS 15, paragraph 70, the transaction price shall be allocated between the products sold and the rebate
liability based on relative stand-alone selling price.

- The stand-alone selling price of the rebate coupon is equal to the discount on the products sold during the year
adjusted by the expected redemption.

ILLUSTRATION:

An entity is a manufacturer and sells its product to local retailers. Retailers sell the product to its customers and for
each product purchased by the customers, a coupon of P50 discount is given and may be used on future purchase of
the same product. Retailers are reimbursed for the discount by the manufacturer.

During the current year, the manufacturer sold 30,000 products to the retailers at P150 each product or P4,500,000.
It is expected that 755 of the coupons will be redeemed. At year-end, the manufacturer paid the retailer P200,000 as
reimbursement.
Stand-alone Fraction Allocated
Products sold (30,000 x 150) 4,5000,000 4,500/5,625 3,600,000
Rebate coupons 1,125,000 1,125/5,625 900,000
5,625,000 4,500,000

To record the sales to retailers:

Cash 4,500,000
Sales 3,600,000
Rebate Liability 900,000

To record the reimbursement to retailers:

Rebate Liability 200,000
Cash 200,000

Gift Certificates

- Department store may sell gift certificates or gift cards to customers in exchange for future delivery of goods. the gift
certificates are usually nonrefundable and therefore the seller should consider that some customers might nit
redeem such certificates.
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- Under IFRS 15, the nonredemption of the gift certificates is referred to a “breakage”

- The seller shall recognize revenue from breakage based on the value of certificates redeemed n proportion to the
expected value of certificates to be redeemed.

ILLUSTRATION

During the current year, an entity sold gift certificates worth P5,000,000 to customers in exchange for future delivery of
its product. The gift certificates are nonrefundable and the entity expects that 10% of the certificates will not be
redeemed. The entity redeemed gift certificates worth P1,800,000 during the current year

Expected value of breakage (5,000,000 x 10%) 500,000

Expected value of certificates to be redeemed (5,000,000 x 10%) 4,500,000

Value of certificates redeemed 1,800,000

- the breakage revenue is equal to the proportion of value of certificates redeemed to the expected value of the
certificates to be redeemed multiplied by the expected value of breakage

Breakage Revenue (1,800,000/4,500,000 x 500,000) = 200,000

To record the sale of gift certificates;

Cash 5,000,000
Deferred Revenue – gift certificates 5,000,000
To record the value of certificates redeemed:
Deferred Revenue – gift certificates 1,800,000
Sales 1,800,000
To record the breakage revenue:
Deferred Revenue – gift certificates 200,000
Breakage Revenue 200,000

Customer Loyalty Program

- many entities use a customer loyalty program to build brand loyalty, retain their valuable customers and of course,
increase sales volume

- the customer loyalty program is generally designed to reward customers for past purchases and to provide them
with incentives to make further purchases

- if a customer buys goods or services, the entity grants the customer award credits often described as “points”

- the entity can redeem the “points” by distributing to the customer free or discounted goods or services

- customers may be required to accumulate a specified minimum number of award credits or “points” before they can
be redeemed

<Measurement>

- an entity shall account for the award credits as a separately component of the initial sale transaction

- in other words, the granting of award credits is effectively accounted for as a future delivery of goods or services

- IFRS 15, paragraph 74, provides that an entity shall allocate the transaction price to each performance obligation
identified in a contract on a relative stand-alone selling price basis

- the stand-alone selling price is the price at which an entity would sell a promised good or service separately to a
customer
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<Recognition>

- the consideration allocated to the award credits is initially recognized as deferred revenue and subsequently
recognized as revenue when the award credits are redeemed

- the amount of revenue recognized shall be based on the number of award credits that have been redeemed relative
to the total number expected to be redeemed

- The estimated redemption rate is assessed each period. changes in the total number expected to be redeemed do
not affect the total consideration for the reward credits

- instead, the changes in the total number of award credits expected to be redeemed shall be reflected in the amount
of revenue recognized in the current and future periods

- in other words, the calculation of the revenue to be recognized in any one period is made on a “cumulative basis” in
order to reflect the changes in estimate

ILLUSTRATION

An entity, a grocery retailer, operates a customer loyalty program The entity grants program members loyalty points
when they spend a specified amount on groceries. Program members can redeem the points for further groceries, the
points have no expiry date. The sales during 2022 amounted to P9,000,000 based on stand-alone selling price. During
2022, the customers earned 10,000 points. But management expects that 80 or 8,000 of these points will be redeemed.
The stand-alone selling price of each loyalty point is estimated at P100. On December 31, 2022, 4000 points have been
redeemed in exchange for groceries. In 2023, the management revised expectations and now expects that 90% or 9,000
points will be redeemed altogether. During 2023, the entity redeemed 4,100 points. In 2024, a further 900 points are
redeemed. Management continues to expect that only 9,000 points will ever be redeemed, meaning, no more point swill
be redeemed after 2024.

Allocation of Transaction Price

Product Sales 9,000,000

Points – stand-alone selling price (10,000 x 100) 1,000,000
Total 10,000,000
Product Sales (9,000,000/10,000,000 x 9,000,000) 8,100,000
Points (1,000,000/10,000,000 x 9,000,000) 900,000
Total Transaction Price 9,000,000

Journal Entries
To record the initial sale in 2022:
Cash 9,000,000
Sales 8,100,000
Unearned Revenue – points 900,000

Redemption of 4,000 points in 2022

Unearned Revenue – points 450,000
Sales 450,000
Revenue to be recognized in 2022
(4,000/8,000 x 900,000) 450,000

Redemption of 4,100 points in 2023

Unearned Revenue – points 360,000
Sales 360,000

Points redeemed in 2022 4,000

Points redeemed in 2023 4,100
Total Points Redeemed to December 31, 2023 8,100
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Cumulative Revenue on December 31, 2023

(8,100/9,000 x 900,000) 810,000
Revenue recognized in 2022 (450,000)
Revenue to be recognize in 2023 360,000

Redemption of 900 points in 2024

Unearned Revenue – points 450,000
Sales 450,000

Points redeemed in 2022 4,000

Points redeemed in 2023 4,100
Points redeemed in 2024 900
Total points redeemed to December 31, 2024 9,000
Cumulative revenue – December 31, 2024
(9,000/9,000 x 900,000) 900,000
Cumulative revenue – December 31, 2023 (810,000)
Revenue to be recognized in 2024 90,000

Third Party Operates Loyalty Program

An entity, a retailer of electrical goods, participates in a customer loyalty program operated by an airline. The entity
grants program members one air travel point for every P1,000 spent on electrical goods. Program members can redeem
the points for travel with the airline subject to availability. The entity pays the airline P60 for each point. During the
current year, the entity sold electrical goods for consideration totaling P4,500,000 based on stand-alone selling price and
granted 5,000 points with stand-alone selling price of P100 per point.

Selling Price Fraction Allocated

Product sales 4,5000,000 45/50 4,050.000
Points (5,000 x 100) 500,000 5/50 450,000
5,000,000 4,500,000

Revenue from points 450,000

Payment to airline (5,000 x 60) (300,000)
Net Revenue from points 150,000
The entity has fulfilled its obligation by granting the points.

Therefore, revenue from points is recognized when the electrical goods are sold.

To record the initial sale:

Cash 4,500,000
Sales 4,050,000
Revenue from points 450,000
To record payment to airline:
Loyalty program expense 300,000
Cash 300,000