ACCOUNTING FOR OWN EMPLOYEE TRAINING COSTS INCURRED ON CUSTOMER CONTRACTS

This article seeks to provide guidance on
the most appropriate accounting under Ind AS 115 Revenue from Contracts with
Customers to account for own employee training costs incurred on customer
contracts.

FACT PATTERN

Consider the following fact pattern:

1. Ez Co enters
into a contract with a customer, Ti Co, that is within the scope of Ind AS 115.
The contract is for the supply of outsourced services. Ez’s employees take
calls from Ti’s customers and provide them with online assistance for
electronic products purchased from Ti.

2. To be able to
provide the services to Ti, Ez incurs training costs for its employees so that
they understand Ti’s equipments and processes. Applying Ind AS 115, Ez does not
identify the training as a performance obligation.

3. The contract
permits Ez to recharge to Ti the costs of training (i) Ez’s employees at the
beginning of the contract, and (ii) new employees that Ez hires as a result of
any expansion of Ti’s operations. Ez is unable to recharge costs associated
with training replacement employees (i.e., new employees of Ez recruited to
replace those that leave Ez’s employment).

Whether Ez should
recognise an asset for the training costs incurred to fulfil a contract with
the customer (Ti)?

RESPONSE

Training costs
should not be capitalised as a cost to fulfil a contract, regardless of whether
they are explicitly rechargeable in Ez’s contract with its customer.

ANALYSIS

Paragraphs 95-96 of
Ind AS 115 state:

95  If the costs incurred in fulfilling a contract
with a customer are not within the scope of another Standard (for example, Ind
AS 2 Inventories, Ind AS 16 Property, Plant
and Equipment or Ind AS 38 Intangible Assets), an entity shall
recognise an asset from the costs incurred to fulfil a contract only if those
costs meet all of the following criteria:

(a)  The costs relate directly to a contract or to an
anticipated contract that the entity can specifically identify (for example,
costs relating to services to be provided under renewal of an existing contract
or costs of designing an asset to be transferred under a specific contract that
has not yet been approved);

(b)  the costs generate or enhance resources of the
entity that will be used in satisfying (or in continuing to satisfy)
performance obligations in the future; and

(c)  the costs are expected to be recovered.

96  For costs incurred in fulfilling a contract
with a customer that are within the scope of another Standard, an entity shall
account for those costs in accordance with those other Standards.

In this context,
training costs are specifically addressed in Ind AS 38. Ind AS 38.69 requires
that (extract):

‘In some cases,
expenditure is incurred to provide future economic benefits to an entity, but
no intangible asset or other asset is acquired or created that can be
recognised. … Other examples of expenditure that are recognised as an expense
when it is incurred include:

a)   …

b)   Expenditure on training activities

c)   …

d)   …’

Paragraph 3 of Ind AS 38 states (extract) – ‘If another Standard
prescribes the accounting for a specific type of intangible asset, an entity applies
that Standard instead of this Standard. For example, this Standard does not
apply to:

(a)….

…….

(i)   assets arising from contracts with customers
that are recognised in accordance with Ind AS 115, Revenue
from Contracts with Customers’.

It may be noted
that Ind AS 115 does not apply specifically to training costs. Consequently,
Ind AS 38 will apply. As a result, training costs that are incurred in respect
of a contract with a customer cannot be recognised as an asset and must be
expensed as incurred. A prohibition on capitalising employee training costs is
consistent with the requirement that an asset must be controlled. Since an
employer does not control its employees, it follows that training costs that
enhance the knowledge and performance of employees cannot be capitalised (see
paragraph 15 of Ind AS 38). This is also consistent with the requirements of
paragraph B 37 of Ind AS 103 Business Combinations, which prohibits the
recognition of an asset for an acquired assembled workforce because it is not
an identifiable asset.

The training costs
meet the following requirements of paragraph 95 Ind AS 115:

A key difference
between Ind AS 115.95 and the criteria in Ind AS 38 is that, under Ind AS
115.95, the entity does not need to control the resource. It is not necessary to demonstrate that the employees are controlled
by Ez; instead, it is sufficient that Ez’s resources (the employees) have been
enhanced by the training.

Paragraph 95 of Ind
AS 115 requires an entity to recognise an asset from the costs incurred to
fulfil a contract with a customer not within the scope of another Ind AS
Standard only if those costs meet all the three criteria specified in paragraph
95. Consequently, before assessing the criteria in paragraph 95, an entity
first considers whether training costs incurred to fulfil a contract are within
the scope of another Standard.

Paragraph 5 of Ind
AS 38 states that ‘this Standard applies to, among other things, expenditure
on advertising, training, start-up, research and development activities’.

Accordingly, in the
fact pattern described, the entity applies Ind AS 38 in accounting for the
training costs incurred to fulfil the contract with the customer. Since an
employer does not control its employees, it follows that training costs that
enhance the knowledge and performance of employees cannot be capitalised.