Like anyone interested in the basic accounting of e commerce entities, the newest babies to churn the accounting world, the recent guiding note on accounting by e commerce entities by Institute of Chartered Accountants of India, popularly known as ICAI, is a welcome and timely move. Yes, I do care to give its website details for careful study, implementation and later for auditing purposes.
https://taxguru.in/chartered-accountant/guidance-note-accounting-e-commerce-entities.html
| S.N. | Topic | Section Number |
Page No. |
| 1 | Introduction | 1-2 | 1 |
| 2 | E-Commerce | 3 -11 | 1 |
| 3 | Scope | 12 | 4 |
| 4 | Revenue Recognition | 13-15 | 4 |
| 5 | Membership and subscription | 16-27 | 6 |
| 6 | Merchandising activities | 28 -36 | 9 |
| 7 | Auctions | 37 -38 | 11 |
| 8 | Shipping and Handling activities | 39-40 | 11 |
| 9 | Multiple element arrangements | 41-42 | 12 |
| 10 | Right of Returns | 43-45 | 12 |
| 11 | Right of Return in exchange for cash | 46 | 14 |
| 12 | Right of return against goods or services or coupons | 47 | 16 |
| 13 | Consignment arrangements | 48 | 17 |
| 14 | Significant financing component | 49-50 | 18 |
| 15 | Warranties | 51-52 | 19 |
| 16 | Advertising services | 53-55 | 20 |
| 17 | Revenue from transactions involving exchange for non-cash consideration | 56-57 | 20 |
| 18 | Other services | 58-59 | 21 |
| 19 | Website/mobile application development cost | 60-64 | 22 |
| 20 | Rebates, discount, Gift vouchers, Loyalty and other sales incentives | 65-67 | 23 |
| 21 | Point and loyalty programmes | 68-92 | 23 |
| 22 | Accounting for gifts cards/ coupons | 93 | 40 |
| 23 | Equity Based Consideration | 94-98 | 40 |
| 24 | Inventory accounting | 99-102 | 42 |
| 25 | Advertisement cost | 103 | 43 |
| 26 | Cash handling | 104-105 | 43 |
| 27 | Disclosure | 106 | 44 |
| Appendix – Illustrative list performed at Planning of Activities Stage | 45 | ||
| Glossary | 48 |
What does the guiding note deal with?
This Guidance Note deals with accounting by e-commerce entities in respect of certain issues relating to revenue and expense recognition.
A natural question arises. Well, what is E – Commerce?
Though the following quotation is from the text.
“E-commerce (electronic commerce) is the activity of electronically buying or selling of products or online services over the Internet. Electronic commerce draws on technologies such as mobile commerce, electronic funds transfer, supply chain management, internet marketing, online transaction processing, electronic data interchange (EDI), inventory management systems, and automated data collection systems.
E-commerce is in turn driven by the technological advances of the semiconductor industry and is the largest sector of the electronics industry.
E-commerce is a business model that lets the firms and individuals conduct business over electronic networks, such as internet.
E-commerce, which can be conducted over computers, tablets, or smartphones may be thought of like a digital version of mail-order catalogue shopping. Nearly every imaginable product and service is available through ecommerce transactions, including books, music, plane tickets, and financial services such as stock investing and online banking.”
A little more example. (I do quote extensively since my view looks narrowed as compared with ICAI.)
- One form of e-commerce companies is that of on-line content companies focus on the content sites, i.e., the internet sites that provide news, information and knowledge as their main business.
- Another form of e-commerce is electronic retailing , the sale of goods and services through the Internet. E-tailing can include business-to-business (B2B) and business-to-consumer (B2C) sales of products and services.
- Examples of e-tailing vendors are Flipkart, Amazon, MakeMyTrip, Yatra.com, Trivago and Gofers. Electronic retailing includes a broad range of companies and industries.
- Mode of payments to ecommerce entities by customers may take various forms, such as, debit card, credit card, net banking, electronic wallet payment, cash against delivery or any other mode. Paytm is my favorite one.
Are there various market segments where e-commerce entities operate?
- Business to business (B2B)
- Business to consumer(B2C)
- Consumer to consumer(C2C)
- Consumer to business(C2B)
B2B sites link different businesses or different parts of a business. Transactions on these sites take place between industrial manufacturers, wholesalers or retailers.
Special features of these transactions are high volumes per customer, lesser number of customers, secured payment systems, privacy of information, etc.
Examples of sites in this category are indiaconstruction.com, clickforsteel.com and seekandsource.com.
B2C sites sell products or services directly to consumers. Examples of sites in this category are flipkart.com, amazon.com, urban clap, Swiggy, Zomato, uber eats, red bus, IRCTC, rediff.com, jaldi.com, indiatimes.com, zipahead.com, and fabmart.com.
C2C sites enable consumers to buy and sell from each other through auction or other similar sites. Examples of sites in this category are bazee.com, snapdeal.com, olx.com, quikr.com, jabong.com, ebay.com, myntra.com and bidorbuy.com.
C2B sites enable consumers to set prices and business entities bid to offer products and services. Examples of sites in this category are razorfinish.com and priceline.com.
How does an entity earn revenue?
Some of them are as under:
1. Sale of the product directly to consumer.
2. B2C and B2B can also earn by subscription mode.
3. Online advertising.
What are the elements of e-commerce transaction?
All traditional elements of commerce like a product or service, a place, namely a website, place to visit by clients, namely, web browser, a way to accept orders, an order form, and essentially a way to pay for the transaction: an obvious electronic mode payment. Normal modes of business like handing over of products/receiving return of goods, honoring a warranty, offering customer service physically or by electronic means etc., do exist.
Yes, time to answer the scope of the guiding note has arisen.
It is simply written as “This Guidance Note aims at providing a perspective on the various accounting issues which are unique to the e-commerce. This Guidance Note applies to companies preparing financial statements under Companies (Accounting Standards) Rules, 2006, as amended, under Section 133 of Companies Act, 2013.
This Guidance Note also applies to entities such as Limited Liabilities Partnership firms and Partnership firms that prepare financial statements under the Accounting Standards issued by the ICAI.
This Guidance Note deals with specific accounting aspects and does not deal with other generic accounting issues commonly faced across industries. This Guidance Note deals with the key issues of e-commerce companies.”
Let me narrate revenue recognition.
Main sources of revenue include merchandising activities, membership and subscription, advertising services and other services like web-hosting, content selling, etc.
Delivery being the most important event which triggers application of the ‘risk and rewards’ under Companies (Accounting Standards) Rules, 2006, as amended, under Section 133 of Companies Act, 2013.
The basic principles of revenue recognition as set out in Accounting Standard (AS) 9, ‘Revenue Recognition’, notified under Companies (Accounting Standards) Rules, 2006, as amended, under Section 133 of Companies Act, 2013 and that issued by the ICAI apply to recognition of revenue from the above sources. Reference to page 13 para 15 gives in block letters the relevant description from (AS) 9.
Let us clearly understand that under AS 9 principles, apart from the general criteria, revenue is recognized either on the transfer of property in the goods or transfer of significant risk and rewards of ownership. In evaluating the point at which the risks and rewards of ownership transfer from the seller to the buyer, one of the key considerations is the shipment terms. This should settle your queries on revenue recognition.
Similar treatment for membership and subscription gets elongated under para 16-27, merchandising activities under para 28-36, while auctions get covered under para 37-38, and shipping and handling activities under 39-40 paras, and more as under:
- Multiple element arrangements para 41-42
- Right of return para 43-45
- Right of return in exchange for cash para 46
- Right of return against goods or services or coupons under para 47
- Consignment arrangements para 48
- Significant financing component 49-50
- Warranties para 51-52
- Advertising services paras 53-55. All of us are aware of the income value as the web owner, nuisance value as a user of the services or appreciate its regular income potential throughout the day, 24*7 and 365 or 366 days, a completely unknown phenomena for senior accountants with past memories. One of the principal sources of revenue of e-commerce companies is from the sale of banner and sponsorship advertisements. Banner advertisements are usually hosted for a short duration. Sponsorship advertising contracts have longer terms than banner advertising contracts and also involve more service integration.
- An e-commerce entity’s obligations typically include guarantees of minimum number of impressions or click-through. Entities may also enter into agreements whereby they agree to host advertisements for customers, without any minimum guaranteed impressions.
- Paras 78-92 satiate any real lover of actual accounting entries as examples for a clear understanding.
The guide notes from ICAI para 6.1 of AS 9 specifically explains the time of recognition of revenue in case of products and reads as under:
“A key criterion for determining when to recognize revenue from a transaction involving the sale of goods is that the seller has transferred the property in the goods to the buyer for a consideration. The transfer of property in goods, in most cases, results in or coincides with the transfer of significant risks and rewards of ownership to the buyer. However, there may be situations where transfer of property in goods does not coincide with the transfer of significant risks and rewards of ownership. Revenue in such situations is recognized at the time of transfer of significant risks and rewards of ownership to the buyer. Such cases may arise where delivery has been delayed through the fault of either the buyer or the seller and the goods are at the risk of the party at fault as regards any loss which might not have occurred but for such fault. Further, sometimes the parties may agree that the risk will pass at a time different from the time when ownership passes.”
Paragraph 7.1 of AS 9 deals with timing of recognition in case of services and reads as follows: “Revenue from service transactions is usually recognized as the service is performed, either by the proportionate completion method or by the completed service contract method.”
It is not unexpected that a good Chartered Accountant, Management Accountant or Company Secretary dealing with online services and also looking after accounting issues will read the above statements several times and understand its implications. Though the last decade ranks among the most prolific decade for e-commerce and COVID 19 enlightening even a conventional giant like Unilever to break open its shackles and widen its net of customers from even rural areas, the most neglected sector in the past and show its potential as the maximum revenue earner for almost all companies dealing with goods and services.
Who could have thought of paying a pan by Paytm for Rs 45?
Under para 78, Awards that entitle the holder to discounted/free goods or services in the e-commerce website/mobile application. The concept of bifurcating the two elements of a transaction and accounting treatment for each element under the Deferment Model is explained. An example from pages 37-39 amply illustrates an actual accounting entry concept which clearly clarifies your incessant doubts.
All senior/junior accountants, both Chartered or not need to go through the samples in detail, discuss among all and arrive at conclusions which may be scrutinized at the time of auditing.
Inventory accounting
In the initial years huge inventories followed by working capital cost enhance the viability of the unit particularly an entity may face the issue of write-down of inventory balances as at the reporting date. Further, ascertaining cost versus net realizable value, whichever is lower, becomes a challenge as the margins on such inventory portfolios are slim, which may add to the inventory write down provision.
It is an emphatic statement that it becomes extremely important to maintain, monitor and control inventory for an effective inventory management.
How does a well drafted logistics agreement help?
Accounting for revenue
Certain logistics provider takes over the risk and rewards when such goods are collected from the companies’ warehouses, which could remove the delay and hassle of evidencing delivery from revenue recognition.
Mode of payment: Certain logistics provider collects cash from the respective customers and aggregate the same and deposit it into the entity’s bank account, by which the entity could mitigate its risk associated with handling the cash
Finally, cost recognition.
There are various ways a logistics provider is paid, per piece basis, monthly based on volumes, etc. It is critical that companies understand such arrangements as the related volume discount earned or monthly charges paid would need to be accounted appropriately.
Advertisement cost
Though one view is that advertising and marketing costs have long lasting effect and hence these costs could be postponed, it is advisable to expense them as they are incurred.
An interesting information about disclosure norms.
Para 106 reproduced below explains the disclosure norms.
“Besides the disclosure of the significant accounting policies as per the requirement of Accounting Standard (AS) 1, ‘Disclosure of Accounting Policies’, the bases for arriving at the fair values in respect of the following should be disclosed in the financial statements of an e-commerce entity: (i) Different elements comprising a multiple arrangement. (ii) Advertising barter transactions. (iii) Equity based consideration. In addition, the entities shall provide the disclosures as per the other accounting standards.”
As an appendix, Illustrative List of Activities Performed at Planning Stage, Illustrative List of Activities Performed at Website Development Stage, and an Illustrative List of Activities Performed at Graphics and Content Development Stages have been given on pages 53-56.
Conclusion
‘Guidance Note on Accounting by E-commerce Entities’ revised guidelines on E- Commerce entities have adequately covered accounting issues relating to revenue and expense recognition. However, as an exercise for intelligent accounting genii, I would like them to mentally analyze the following situations and pass accounting entries to get familiarized with the latest guide note on E-commerce entities:
- I get a membership in a website which deals with supply of goods of all types, services like free views of cricket matches, film shows both new and old at a cost of Rs 1000 per year or Rs 500 per quarter or Rs 300 per month. I paid the money and got the membership. What accounting entries for the e-commerce entity or for me if I am an entity for tax purposes.
- The e – commerce passes advertising expenses vouchers or accounts for this expenditure. Under the new guide note what would be the entries and can you quote the relevant para from ICAI note.
- The rules provide for cancellation of my films viewing but provision of goods and services free of shipping charges at a concessional rate but with the provision of minimum purchases per turn of purchase. What entries to be passed?
- Under Accounting Standards framework, both the Provision Model and Deferment Model are prevalent in India for accounting of customer loyalty programs. Can you recollect the instructions contained about these models from page 33 onward?
- Kindly go through various detailed examples given in the ICAI guide note for strict compliance.
- For any CA without any e- commerce entity as a client, an updating helps to guide, teach or lead the customer, particularly the new ones from India who constitute nearly 30% of world startups.
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Disclaimer: Being a passionate follower of ICAI guide notes, detailed instructions or strict orders, I have been following their publications, now their web communications or attend their meetings. The above article an attempt to view the guide notes in my own way is not definitely a legal/accounting service. Obviously neither me nor taxguru.in is responsible for any consequences. One must get properly certified professionals’ or lawyers’ guidance to take a firm business decision.
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