A retailer sells a product and grants the customer a loyalty-program option to buy future goods at a discount well beyond any discount offered to customers who did not make this purchase, and the discount is significant enough that the customer would not obtain it without entering into this contract. Under ASC 606-10-55-42, how should the retailer treat this option?
- As a material right, accounted for as a separate performance obligation to which a portion of the transaction price is allocated
- As a marketing cost, expensed immediately and unrelated to the transaction price of the current sale
- As a warranty obligation, accounted for under the assurance-type warranty guidance
- It has no accounting effect until the customer actually exercises the discounted future purchase option
Why A? And why not the others?
Correct answer: A. As a material right, accounted for as a separate performance obligation to which a portion of the transaction price is allocated
ASC 606-10-55-42 explains that when a contract grants a customer an option to acquire additional goods or services, that option gives rise to a separate performance obligation only if it provides a material right the customer would not receive without entering into the contract, such as a discount that is incremental to the range of discounts typically given for those goods or services to that class of customer. Because the discount here is significantly better than what other customers receive and depends on having made the original purchase, it is a material right, so a portion of the transaction price from the original sale must be allocated to it and recognized when the future goods are transferred or the option expires. Treating the option purely as a marketing cost unrelated to the transaction price ignores that ASC 606 specifically recharacterizes a material-right discount option as revenue-generating consideration owed to the customer, not merely a promotional expense. Warranty guidance is inapplicable because nothing here promises that a delivered product is defect-free or meets specifications; the option concerns a future purchase, not assurance about goods already sold. Waiting until the customer exercises the option to record any accounting effect is incorrect because the material right creates a performance obligation, and therefore an allocation of transaction price, at the time of the original sale — the deferred revenue sits on the balance sheet as a contract liability until exercise or expiration, rather than being unrecognized until then.
Source: FASB Accounting Standards Codification: ASC 606-10-55-42, Revenue from Contracts with Customers — Customer Options for Additional Goods or Services