IFRIC 12 Accounting for Service Concession Arrangements

A service concession arrangement is a partnership where a public body, like a government, contracts with a private company to build, upgrade, operate, and maintain a significant infrastructure asset. These arrangements often involve projects such as toll roads, airports, or hospitals. The private entity, referred to as the operator, delivers the project and manages the services for a specified period.

The accounting for these agreements is governed by IFRIC 12. This interpretation provides a framework for how the operator must recognize and measure the financial elements of the arrangement over its lifecycle. It clarifies the accounting for construction services and the consideration it receives in return, ensuring financial statements reflect the nature of these long-term contracts.

Scope of IFRIC 12

For an arrangement to fall under IFRIC 12, the agreement must meet two specific conditions related to control over the infrastructure asset. These conditions center on the authority retained by the grantor, the public sector entity that grants the contract. Both criteria must be satisfied for the interpretation to apply.

The first condition is that the grantor controls or regulates the services the operator must provide using the infrastructure. This includes specifying what services are delivered, to whom they must be provided, and at what price. For instance, in an agreement to build and operate a new toll bridge, the government would dictate that the asset must function as a public bridge and regulate the toll prices the operator can charge.

The second condition is that the grantor must control any significant residual interest in the asset at the end of the arrangement’s term. This means that when the contract concludes, the operator does not own the asset. The grantor dictates what happens to the infrastructure, retaining the rights to its remaining value and future use.

If the operator has the freedom to set its own prices without significant constraint or retains ownership of the asset at the end of the term, the arrangement would fall outside the scope of IFRIC 12. The presence of both grantor control over services and residual interest defines a service concession arrangement under this interpretation. This ensures the infrastructure remains fundamentally under public sector control despite being operated by a private entity.

The Two Accounting Models

Once an arrangement is determined to be within the scope of IFRIC 12, the operator’s compensation determines which of two primary accounting models must be used: the financial asset model or the intangible asset model. In many cases, a combination of both models is required.

The financial asset model applies when the operator has an unconditional contractual right to receive cash from the grantor. The operator’s payment is guaranteed and does not depend on the public’s use of the service. For example, an operator of a new hospital wing who is guaranteed a fixed annual payment from the government holds a financial receivable from the grantor.

The intangible asset model is used when the operator receives the right to charge the public for using the service. The operator’s revenue is directly linked to public demand, and it bears the risk that usage may be lower than projected. A toll road where the operator’s compensation is the tolls it collects from vehicles is an example, as this right to charge users is an intangible asset.

Many modern concession arrangements contain elements of both models, requiring a hybrid approach. For example, a government might guarantee an operator a minimum annual payment for running a new tunnel but also allow the operator to keep the toll revenue. The guaranteed payment portion represents a financial asset, while the right to collect tolls, which depends on traffic volume, represents an intangible asset. The operator must account for each component separately.

Initial Recognition and Measurement

After identifying the correct accounting model, the operator must perform the initial accounting entries at the inception of the arrangement. This process focuses on the exchange of construction services for a right to future compensation.

The operator accounts for revenue from its construction services under IFRS 15, Revenue from Contracts with Customers. Revenue is recognized over the construction period, reflecting the progress made. The value of these services is measured at fair value, which is often determined by the costs incurred plus a reasonable profit margin.

Simultaneously, the operator must record the asset it receives as consideration, which will be a financial asset, an intangible asset, or both. The asset is measured at the same fair value as the construction services provided. This creates a balanced entry where the revenue is matched by the new asset.

For example, if an operator recognizes $50 million in revenue for building a highway, it will simultaneously recognize a financial or intangible asset of $50 million. This entry establishes the carrying amount of the asset that will be subsequently measured.

Subsequent Measurement and Revenue

Following the initial recognition of the asset, the operator must perform ongoing accounting over the life of the concession. This subsequent measurement differs depending on whether the operator holds a financial asset or an intangible asset. The operator must also recognize revenue from its day-to-day operational services.

If the operator has a financial asset, its measurement is governed by IFRS 9, Financial Instruments. The asset is measured at amortized cost, which involves recognizing interest income over the contract’s term using the effective interest method. When the operator receives its guaranteed cash payments from the grantor, these receipts reduce the financial asset’s carrying amount.

When the operator has an intangible asset, it is accounted for under IAS 38, Intangible Assets. The operator must amortize this asset, spreading its cost as an expense over the concession period. This amortization reflects the consumption of the economic benefits of the right to charge users. The intangible asset must also be tested for impairment annually; if future expected cash flows decline significantly, the asset’s value must be written down.

Separately, the operator also earns revenue from providing ongoing operational services, such as maintenance. This operating revenue is recognized under IFRS 15 as the services are performed over the contract term. This ensures that the financial statements distinguish between the revenue earned from building the asset and the revenue earned from running it on a daily basis.