1.1 The Interpretations Committee's approach to accounting for service concessions

The Interpretations Committee views the primary accounting determination for the operator as being whether control over the infrastructure assets rests with to the operator or whether any new or existing assets under the concession arrangement are controlled by the grantor.

The Interpretations Committee suggests that arrangements where control does not rest with the grantor, and the asset is either derecognised by the grantor or is an asset constructed for the concession that the grantor never controls, can be dealt with adequately by other accounting standards or interpretations. [IFRIC 12.BC11‑BC13]. The interrelationship with other accounting standards is discussed further at 2.2 below.

Infrastructure assets controlled by the grantor are the subject of IFRIC 12. This applies whether the assets are constructed or acquired by the operator for the concession, that become those of the grantor because it controls them, or existing assets that remain under the grantor's control and to which the operator is granted access. [IFRIC 12.7].

‘Control’ is therefore a central concept in IFRIC 12. Control is not determined by attributing risks and benefits to identify the ‘owner’ of the infrastructure. Instead, IFRIC 12 regards control in terms of the operator's ability (or lack thereof) to decide how to use the asset during the concession term and how it will be deployed thereafter. Its definition and consequences are discussed further at 3 below.

Thus, any infrastructure that is under the control of the grantor will be accounted for using IFRIC 12. In doing so, the Interpretations Committee establishes the following principles for accounting by the operator of a concession falling within its scope:

• the infrastructure is not recognised as property, plant and equipment by the operator; [IFRIC 12.11]
• the operator recognises revenue from construction services when assets are built or upgraded during the concession term; [IFRIC 12.14]
• a financial asset or an intangible asset is recognised as consideration for these construction services, depending upon the way in which the operator is paid for services under the contract; [IFRIC 12.15]
• however, both types of consideration are classified as a contract asset during the construction or upgrade period in accordance with IFRS 15; [IFRIC 12.19] and
• revenues and costs for the provision of operating services are recognised over the term of the concession arrangement. [IFRIC 12.20].

The requirement to recognise an asset as consideration for construction services gives rise to three service concession models – the ‘financial asset’ model, the ‘intangible asset’ model and a hybrid model. These are considered further at 4 below. However, under all models the operator is required to recognise a contract asset during the construction or upgrade period in accordance with IFRS 15. The recognition of revenue and costs in the operations phase is discussed at 5 below.

1.2 Terms used in this chapter

The following terms are used in this chapter with the meanings specified:

2.1 Public service nature of the obligation

Initially, as described in the exposure draft D12, the interpretation was intended to apply only to arrangements that involved a ‘public service obligation’, i.e. a contractual obligation for the operator to ‘keep available to the public the services related to the infrastructure’.

Having agreed that ‘the concept of a public service obligation was not in itself robust enough to form the basis for the scope’,¹ the IFRIC did not retain this condition. This is understandable, since different governments will have a range of political or ideological views of what activities should be provided by the state and the definition of a ‘public service obligation’ may vary across jurisdictions and, sometimes, over time within the same jurisdiction.

As a result, the reference to ‘the public service nature of the obligation undertaken by the operator’ now only appears as a common feature of a service concession in the background section of the interpretation, without defining what is meant by the term. Instead, the Committee refers to examples of service concession arrangements. IFRIC 12 identifies roads, bridges, tunnels, prisons, hospitals, airports, water distribution facilities, energy supply and telecommunications networks as examples of infrastructure used for public services. [IFRIC 12.1]. SIC‑29 refers to water treatment and supply facilities, motorways, car parks, tunnels, bridges, airports and telecommunications networks. [SIC‑29.1]. It also states that a service concession arrangement generally involves the grantor conveying to the concession operator the right to provide services that give the public access to major economic and social facilities for the period of the concession. [SIC‑29.2(a)].

It is at least clear that it is not necessary for the operator to have direct involvement with the public as evidenced by the example in the Application Guidance of the interpretation of a ‘hospital [which] is used by the grantor to treat public patients’. [IFRIC 12.AG7].

2.2 Arrangements that are not in the scope of IFRIC 12

The Committee acknowledged that in practice there are arrangements for private sector participation in the provision of public services that will not fall in the scope of IFRIC 12. However, it was satisfied that the Interpretation would apply to most of the public-to-private service concession arrangements for which guidance had been sought. Nevertheless, the Committee did consider a range of typical arrangements and decided that it could provide references to the standards that apply to those that fall outside the scope of IFRIC 12 without giving any guidance as to their application. [IFRIC 12.BC13].

These references are presented in Information Note 2 to IFRIC 12 (on which the following table is based) and which shows a range of arrangements between the public and private sectors. The Interpretations Committee's view is that IFRIC 12 is interpreting IFRSs for the transactions in the middle of this range, where the application of standards was previously unclear. These are described in the table below as ‘Rehabilitate-operate-transfer’ and ‘Build-operate-transfer’ arrangements. The table also demonstrates how other standards, namely IFRS 16, IFRS 15 and IAS 16, apply to arrangements that do not contain the features of a public-to-private service concession as defined in the Interpretation.

2.3 Interaction of IFRS 16 and IFRIC 12

IFRS 16 was issued by the IASB in January 2016 and became effective for annual reporting periods beginning on or after 1 January 2019. The scope of IFRS 16 excludes service concession arrangements falling within scope of IFRIC 12. [IFRS 16.3(c)]. Any arrangement that meets the control criteria in paragraph 5 of IFRIC 12 does not meet the definition of a lease. [IFRS 16.BC69]. IFRS 16 defines an arrangement as containing a lease if the contract conveys the right to control the use of an identified asset for a period of time in exchange for consideration. [IFRS 16.9]. A right to control the use of an identified asset is then described in terms of the right to direct the use of the asset. [IFRS 16.B9]. In this way, both IFRS 16 and IFRIC 12 apply a control model. Therefore, a conclusion that the grantor controls or regulates what services the operator must provide with the infrastructure, to whom, and at what price, [IFRIC 12.5], is not compatible with the assertion that the private sector entity has a leasehold interest in the same assets under IFRS 16. The control criteria in IFRIC 12 are discussed at 3 below.

In light of this, the IASB had considered whether it was necessary to explicitly exclude from the scope of IFRS 16 service concession arrangements within the scope of IFRIC 12. However, stakeholders informed the IASB that including a scope exclusion for service concession arrangements in IFRS 16 would provide clarity in this respect. [IFRS 16.BC69].

We believe that there is no requirement for entities to reassess whether arrangements entered into before the date of initial application of IFRS 16 that were previously determined to be leases under IFRIC 4 – Determining whether an Arrangement contains a Lease, fall in scope of IFRIC 12 or IFRS 16. This is because the transitional provisions of IFRS 16 allow a practical expedient whereby entities are not required to reassess whether a contract is, or contains, a lease at the date of initial application of the Standard if they had previously determined whether the contract contained a lease under IFRIC 4. As a result, entities only have to reassess service concession contracts entered into after the date of initial application of IFRS 16. [IFRS 16.C4]. The transitional provisions of IFRS 16 are discussed in Chapter 23 at 10.

2.4 Private-to-private arrangements

While the Interpretations Committee expects IFRIC 12 to be applied primarily to public-to-private arrangements, its application to private-to-private arrangements is neither required nor prohibited. The Basis for Conclusions notes that application by analogy could be appropriate under the hierarchy in IAS 8 – Accounting Policies, Changes in Accounting Estimates and Errors – if the arrangement met the control criteria quoted at 2 above. [IFRIC 12.BC14]. Accordingly, the application of IFRIC 12 to other arrangements would be regarded as an accounting policy choice, rather than a treatment that could be determined on a case by case basis. However, this choice would not be possible if it was determined that the arrangement falls within the scope of other standards, such as IFRS 15 and IFRS 16.

2.5 Accounting by grantors

The Interpretation applies only to accounting by the operator, not the grantor. [IFRIC 12.4, 9]. Grantor accounting was determined not to be a priority for the Committee, who noted that grantors are government bodies that do not necessarily apply IFRS. [IFRIC 12.BC15]. In 2011, the International Public Sector Accounting Standards Board (IPSASB) approved a new standard, IPSAS 32 – Service Concession Arrangements: Grantor – that addresses the grantor's accounting in such arrangements. Its approach is consistent with that used for the operator's accounting in IFRIC 12, in that an infrastructure asset is recognised by the grantor, together with an obligation comprising either a financial liability to the operator or, where an unconditional to pay cash to the operator is not a feature of the arrangement, a deferred revenue balance.³ This chapter does not address accounting by grantors.

3.1 Regulation of services

The control or regulation of services does not have to be governed by contract as it could include control via an industry regulator. Control also extends to circumstances in which the grantor buys all the output as well as those in which it is bought by other users.

The grantor and relevant related parties must be considered together. If the grantor is a public sector entity, the public sector as a whole, together with any independent regulators acting in the public interest, are to be regarded as related to the grantor. [IFRIC 12.AG2]. ‘Price’ can mean the amount at which the grantor buys the service or the amount that the operator charges members of the public or a combination of both.

This means that many regulated public utilities (water, sewage, electricity supply etc.) will fall within (a) at 3 above. Other arrangements that fall within (a) include public health facilities that are free to users and subsidised transport facilities (rail, some toll roads and bridges) that are partly paid by public sector grant and partly by passenger fares. Of course, all of these will only be within scope of IFRIC 12 if there is also a contract between grantor and operator for the arrangement and any significant residual interest is also ‘controlled’ by the grantor under (b).

The Interpretations Committee stresses that the grantor does not need to have complete control of the price. It is sufficient for the price to be regulated, which could be by way of a capping mechanism (regulated utilities are usually free to charge lower prices). Other ‘caps’ may not be so apparent. A contract may give the operator freedom to set its prices but any excess is clawed back by the grantor, e.g. through setting a maximum return on an agreed investment in the infrastructure. In such a case, the operator's return is capped and the price element of the control test is substantively met. [IFRIC 12.AG3].

Care should be taken to look to the substance of the agreements, so a cap that only applies in remote circumstances will be ignored.

Some arrangements only allow the grantor to control prices for part of the life of the infrastructure. For example, an operator may construct clinical facilities that are used by a government health care provider (the grantor) for a five-year contract term. At the end of the term, the health care provider may extend the contract by renegotiation. If it does not do so, the operator can run the facilities for private health care. Although the prices are controlled for the first five years, this arrangement is unlikely to meet the control condition in (a) at 3 above.

Alternatively, the contract might allow regulation of the prices of some but not all the services provided with the infrastructure. Judgement is required in determining whether arrangements involving partially regulated assets fall within the scope of IFRIC 12 (see 3.4 below).

3.2 Control of the residual interest

In order for an arrangement to be within scope of IFRIC 12, the grantor must control not only the services provided with the infrastructure but also any significant residual interest in the property at the end of the concession term through ownership, beneficial entitlement or otherwise. [IFRIC 12.5(b)]. The grantor's control over any significant residual interest should restrict the operator's ability to sell or pledge the infrastructure. As discussed below, control over the residual interest does not require the infrastructure to be returned to the grantor. It is sufficient that the grantor controls how access to the infrastructure is awarded after the concession term.

The control approach requires consideration of the infrastructure as a whole (what the IFRIC refers to as a ‘holistic’ approach), thereby avoiding the piecemeal accounting for the different components of the infrastructure as required by IAS 16. If the operator has to replace part of an item of infrastructure during the life of the concession, e.g. the top layer of a road or the roof of a building, the item of infrastructure is to be considered as a whole, so that condition (b) will be met for the whole of the infrastructure, including the part that is replaced, if the grantor has the residual interest in the final replacement of that part. [IFRIC 12.AG6].

The Interpretation does not expand on what is regarded as ‘significant’. Some infrastructure assets such as toll roads and bridges generate cash flows directly and it may be possible to use estimated future cash flows to calculate the significance of the residual value, whether or not the grantor will charge tolls after reversion of the asset. It may not be possible to base the assessment of ‘significance’ on the cash flows received by the operator on handing back the asset to the grantor as these may be nominal amounts; indeed, the grantor may pay nothing. The remaining useful life of the asset when it reverts may give a good indication, e.g. if a hospital is handed back to the public sector with a remaining useful life of twenty years, this residual interest is likely to be significant.

There are a number of features that indicate whether the grantor controls the residual interest. There are usually several contractual alternatives: the operator is granted a second concession term, a new operator is allowed to acquire the assets or the grantor acquires the assets and brings the arrangement ‘in house’. The grantor still controls the residual as it will determine which of these alternatives applies and the option exercise price (if it or a new operator acquires the infrastructure) is irrelevant.

In some arrangements the grantor only has an option to reacquire the asset at the end of the concession term. The operator cannot control the infrastructure until the grantor decides what to do with the option. An option at fair value at the date of exercise may by itself be enough to give the grantor control over the residual under IFRIC 12 if it is sufficient to restrict the operator's ability to sell or pledge the infrastructure. This is a clear difference between a ‘risks and rewards’ and a ‘control’ model as under the former, the operator would be seen as keeping the risks and rewards of ownership if another party had the right to acquire the asset at fair value.

What if the arrangement is for the whole life of the infrastructure? Assets in service concession arrangements may revert to the grantor at the end of the concession term but they may not have much, if any, remaining useful life. Many modern buildings, for example, only have a useful life of thirty years or so and this is a common concession term. Consequently, infrastructure used in a service concession arrangement for its entire useful life (‘whole of life infrastructure’) is included within the scope of IFRIC 12 if the grantor controls or regulates the services that the operator must provide using the infrastructure, to whom it must provide them, and at what price. [IFRIC 12.6].

The Interpretations Committee noted that one reason for including the ‘significant residual interest’ requirement was to differentiate between privatised, but still regulated, industries and service concession arrangements, thereby seeming to confirm that it had not intended regulated industries to be in scope.⁴ The Interpretations Committee considers that privatised regulated industries should generally be out of scope, because they are divestitures or privatisations where it is more appropriate to treat the infrastructure as the property, plant and equipment of the operator. This is indicated in the table included as Information Note 2 to IFRIC 12 (reproduced at 2.2 above). It is usually the case in a privatisation that the infrastructure only reverts to the grantor in the event of a major breach of the conditions of the regulatory framework as otherwise the right of the operator to provide the regulated services may roll over indefinitely into a new term. In other cases, it may require legislative change to bring the assets back into the control of the public sector. This means that the grantor does not control the residual interest in the property as required by IFRIC 12.

ENGIE discloses that some of its concessions are not considered to be within scope of IFRIC 12 as the grantor has no rights over the infrastructure at the end of the contract. These assets (for gas distribution) are likely to have an economic life significantly in excess of the contract term.

3.3 Assets within scope

There are two groups of assets within scope of IFRIC 12:

1. the infrastructure that the operator constructs or acquires from a third party for the purpose of the concession; and
2. existing infrastructure to which the grantor gives the operator access for the purpose of the concession. [IFRIC 12.7].

Generally, ‘infrastructure’ is interpreted broadly and it is accepted that ‘the infrastructure’ used to provide services can include moveable assets. Although IFRIC 12 uses the word ‘infrastructure’ and includes examples traditionally regarded as such, including roads, bridges, hospitals and airports, [IFRIC 12.1], the Interpretation is based on the definition of an asset under IFRS. An asset is ‘a present economic resource controlled by the entity as a result of past events’, [CF 4.3], and is therefore considered to apply to all assets, including items such as buses or rolling stock that are made available by the grantor to the operator of the public service.

It is usually relatively straightforward to apply (a) above to infrastructure that the operator constructs or acquires from a third party for the purpose of the concession. The accounting for service concession arrangements in which infrastructure is leased from a party other than the grantor is discussed at 3.3.1 below.

However, there are some issues of interpretation relating to infrastructure to which the grantor has given access to the operator for the purpose of the SCA. Infrastructure under (b) above could include other arrangements in the form of leases from the grantor over assets. As part of a SCA, in addition to receiving payments for the construction and/or operation of the infrastructure, an operator may make lease payments to a grantor, e.g. it may lease the land on which a facility is to be built. These issues are discussed at 3.3.2 below.

A third group of assets comprises property, plant and equipment previously held by the operator and then used in connection with the provision of services under the SCA. The Interpretations Committee's view is that accounting for these types of assets is already covered by existing accounting standards, principally IAS 16, and therefore it does not specify how the operator should account for its previously existing assets that now form part of the infrastructure. [IFRIC 12.8]. The treatment of existing assets is discussed further at 3.3.3 below.

3.4 Partially regulated assets

IFRIC 12 notes that it is not uncommon for the use of infrastructure to be partly regulated and partly unregulated and gives examples while noting that these activities take a variety of forms:

1. ‘any infrastructure that is physically separable and capable of being operated independently and meets the definition of a cash generating unit as defined in IAS 36 –Impairment of Assets – shall be analysed separately if it is used wholly for unregulated purposes. For example, this might apply to a private wing of a hospital, where the remainder of the hospital is used by the grantor to treat public patients.
2. where purely ancillary activities (such as a hospital shop) are unregulated, the control tests shall be applied as if those services did not exist, because in cases in which the grantor controls the services described in paragraph 5, the existence of ancillary activities does not detract from the grantor's control of the relevant infrastructure.' [IFRIC 12.AG7].

In both cases, the grantor may have given to the operator a right to use the unregulated asset in question. This right may be in substance a lease from the grantor to the operator; if so, this is to be accounted for in accordance with IFRS 16. [IFRIC 12.AG8]. Determining whether the right is, in substance, a lease would involve using the principles in IFRS 16 (see Chapter 23 at 3.1). The interaction of IFRIC 12 and IFRS 16 is discussed at 2.3 above.

The Interpretation gives no further guidance on how an entity might interpret the term ‘purely ancillary’ in evaluating whether an unregulated activity is ignored for the purposes of determining if the control criteria are met or considered to detract from the grantor's control of the asset. The hospital shop is clearly insignificant by virtue of its size relative to the whole hospital, the proportion of cash flows attributable to it and the fact that the existence of a shop has no direct impact on the function of the infrastructure in the provision of regulated services. However, it is not clear at what point a secondary activity would become or cease to be ‘purely ancillary’ which will be a matter of judgement.

In addition, there are many concession agreements that include unregulated services that are neither purely ancillary nor delivered by using a physically separable portion of the total infrastructure, a situation not addressed by AG 7. For example, a grantor may control prices charged to children, pensioners and the unemployed who use a sports facility but the amounts charged to other adults are not controlled. The same facility is being used by all, regardless of the amount that they pay. Alternatively, price regulation could apply only to services provided at certain times of the day rather than to different classes of user. In such cases it will be a matter of judgement whether enough of the service is unregulated in order to demonstrate that the grantor is not considered to control the asset, which would lead to the arrangement as a whole falling out of the scope of IFRIC 12. This assessment will be made at the beginning of the contract and will not be revisited unless errors were made in the original assessment. In practice, partial price regulation is often a reason for an arrangement to fall outside the scope of IFRIC 12.

However, if it transpires that there are significantly fewer unregulated users than anticipated then it is likely that the contract will be renegotiated. This is because of the public service obligation, which means that the grantor will want the service to continue to be provided to the public albeit under new terms. The new contract may be within scope of IFRIC 12. If a toll bridge has had fewer users than anticipated, the grantor might subsidise the tolls under a new arrangement.

4.1 Consideration for services provided and the determination of the appropriate model

Most service concession agreements are for both construction (or upgrade) services and operations services. Operators almost always negotiate a single contract with the grantor and, although the Interpretation does not refer to this, this will usually include a single payment mechanism throughout the concession term, sometimes called a ‘unitary payment’. The operator is unlikely to be remunerated separately for its different activities. The payment mechanism often falls into one or other of the following models:

• P = (F × I) – (D + E)
• P = unitary payment per day
• F = price per day for overall accommodation requirement
• I = Indexation increase based on the retail prices index
• D = deductions for unavailability
• E = performance deductions

The payments for both schemes are not immediately separable between amounts attributable to the construction or other services.

2. a prison where payment is made based on the number of occupied places

The unitary payment is based on the number of occupied places. Occupied means not only that a prisoner is allocated a physical space but the associated core services and minimum requirements must be met in relation to services such as heating, mail delivery and food. No payment is made for unoccupied places. There are no separate payment streams for any of the non-core services (i.e. not associated with the definition of an occupied place) but deductions from the unitary payment can be made for substandard performance of these services.

The unitary payment is based on the following formula:

• P = (F × I) – Z
• P = unitary payment per place
• F = Fixed amount per occupied place per day
• I = Indexation increase based on the retail prices index
• Z = Performance deductions

The operator acts as a service provider. It constructs or upgrades infrastructure used to provide a public service and operates and maintains that infrastructure for a specified period of time. [IFRIC 12.12]. IFRIC 12 clarifies that the operator should recognise and measure revenue in accordance with IFRS 15 for the services it performs. [IFRIC 12.13]. This requires the operator to allocate the consideration receivable to each performance obligation in proportion to their relative stand-alone selling prices. The exercise to separate the consideration receivable for the distinct services (i.e. construction, upgrade or operating services) provided by the operator is expanded at 4.1.1 below. The nature of the consideration determines the accounting model, [IFRIC 12.13], as described at 4.1.2 below.

Payments often start only when the infrastructure asset has been completed and accepted as suitable for purpose by the grantor. Operators usually seek payment during the construction phase but whether or not they receive any is inevitably a result of negotiation between the parties. Payments that are received are normally for services provided and not directly to meet construction costs; any amounts received will be allocated to the relevant service activity as described below.

4.2 The financial asset model

Under the financial asset model, which applies if the entity has an unconditional contractual right to receive cash or another financial asset, [IFRIC 12.16], the service element that relates to the construction of the infrastructure asset (‘construction services’) is accounted for in accordance with IFRS 15. [IFRIC 12.14]. For the avoidance of doubt, an asset is not recognised for the discounted present value of all amounts payable by the grantor under the service concession arrangement. The entity recognises an asset for construction services performed up to the reporting date; subsequently it may recognise an asset on the same basis for upgrade services; the carrying value of the asset does not include future services yet to be performed or maintenance services that are accounted for as expenses. The consideration received by the operator for other services is addressed at 5 below.

IFRIC 12 requires the consideration due to the operator to be classified as a contract asset rather than a receivable during the construction activity. [IFRIC 12.19]. IFRS 15 requires that a receivable is recognised only when the operator has an unconditional right to receive consideration. This is the case only if nothing other than the passage of time is required before payment of the consideration is due. [IFRS 15.108]. The right to consideration would not be unconditional if the operator must first satisfy another performance obligation in the contract before it is entitled to payment from the customer. Therefore, we believe that the operator should recognise a receivable in scope of IFRS 9 only when, and to the extent that, payment is not conditional on future delivery of operation services. Due to the nature of contractual penalties imposed in service concession arrangements, we believe that, in practice, the amount due to the operator in exchange for construction services will often unwind from a contract asset to a receivable over the period in which the other performance obligations in the contract are satisfied by the operator, rather than at the point when construction activity is completed.

On initial recognition, IFRS 9 requires a financial asset to be measured at its fair value (plus or minus transaction costs). [IFRS 9.5.1.1]. As a result, the receivable is initially recognised at fair value. In our view, the discount rate used to determine the initial measurement of the receivable under IFRS 9 should be determined considering the passage of time before payment is due and counterparty credit risk. The discount rate should not be risk adjusted to reflect the risk that payments to be received over the operating period may be subject to penalties. This is consistent with the requirement in IFRS 15 that a receivable is recognised only when there is an unconditional right to consideration, i.e. when only the passage of time is required before payment is due. [IFRS 15.108]. To the extent that the right to payment does depend upon the operator's future performance, the operator does not have an unconditional right to consideration and therefore should continue to recognise a contract asset, rather than a receivable. The fair value of the financial asset is impacted by changes in market interest rates. Where construction or upgrade activity takes a significant time (as is common in many infrastructure projects), it is possible that market interest rates will have moved between the date of commencement of construction services and the point at which the receivable is initially recognised, such that there is a difference between the initial measurement of the receivable in accordance with IFRS 9 and the amount of construction revenue and accrued interest recognised as a contract asset in accordance with IFRS 15 up to that point. In addition, whilst fair value under IFRS 9 is based on market interest rates, accrued interest recognised as part of the contract asset under IFRS 15 is determined using the rate ‘that would be reflected in a separate financing transaction between the entity and its customer at contract inception’, [IFRS 15.64], i.e. a rate specific to the contract. This may also lead to differences between the amount recognised as a contract asset under IFRS 15 and the initial measurement of the receivable under IFRS 9. IFRS 15 requires any difference between the initial measurement of the financial asset in accordance with IFRS 9 and the corresponding amount of revenue recognised under IFRS 15 to be presented as an expense. [IFRS 15.108].

As required by IFRS 9, the receivable would subsequently be recognised at amortised cost, at fair value through other comprehensive income, or at fair value through profit or loss, depending upon how it is classified under IFRS 9. [IFRIC 12.24]. Measurement at amortised cost requires the receivable to be held in a business model whose objective is to hold financial assets in order to collect contractual cash flows, and requires that those contractual cash flows represent solely payments of principal and interest. Any features that introduce more than de minimis exposure to risks or volatility in the contractual cash flows that are inconsistent with a basic lending arrangement would mean that the receivable would not be measured at amortised cost. [IFRS 9.B4.1.7A, B4.1.18]. If the amount due from the grantor is measured at amortised cost or fair value through other comprehensive income, interest income will be recognised, calculated using the effective interest method. [IFRIC 12.25]. Classification of financial assets under IFRS 9 is discussed in Chapter 48 at 2.

The financial asset recognised by the operator will be subject to the impairment requirements of IFRS 9. IFRS 15 also requires that contract assets are assessed for impairment in accordance with IFRS 9. [IFRS 15.107]. The impairment requirements of IFRS 9 are discussed in Chapter 51.

Borrowing costs incurred by the operator during the construction phase cannot be capitalised under the financial asset model. [IFRIC 12.22].

Example 25.3 below is based on Illustrative Example 1 in IFRIC 12 and illustrates how the financial asset model may be applied. It should, however, be noted that this example deals with only one of many possible types of arrangements seen in practice. It is important that entities understand and assess the facts and circumstances of their own service concession arrangements in order to determine the appropriate accounting.

In the example below, the operator recognises a receivable once construction services are complete. As discussed above, IFRS 15 requires that a receivable is recognised only when the operator has an unconditional right to receive consideration, which will be the case only when nothing other than the passage of time is required before payment of the consideration is due. [IFRS 15.108]. The example below contains an unstated assumption that this is the case at completion of construction services. However, this may not always be the case in practice.

4.3 The intangible asset model

If the financial asset model does not apply (i.e. there is no unconditional contractual right to cash or other financial assets), the operator's consideration for its construction services will be an intangible asset. [IFRIC 12.15]. As with the financial asset model, the operator cannot have an item of property, plant and equipment because the physical infrastructure is controlled by the grantor (see 3 above). [IFRIC 12.11]. Therefore, the Interpretations Committee has concluded that the right of an operator to charge users of the public service, for example the right to collect tolls from a road or a bridge, meets the definition of an intangible asset, that should be accounted for in accordance with IAS 38. It is, in effect, a licence ‘bought’ in exchange for construction services. [IFRIC 12.17].

Consideration is classified as a contract asset during the construction or upgrade period. [IFRIC 12.19]. and revenue for construction or upgrade services will be recorded in accordance with IFRS 15. [IFRIC 12.14].

Under the intangible assets model, borrowing costs must be capitalised during the period of construction. [IFRIC 12.22]. However, as noted above, IFRIC 12 requires consideration to be classified as a contract asset, rather than an intangible asset, during the construction period. [IFRIC 12.19]. In March 2019, the Interpretations Committee issued an agenda decision relating to the capitalisation of borrowing costs on a constructed good for which revenue was recognised over time. In that agenda decision, the Interpretations Committee noted that, in the particular fact pattern considered, a contract asset is not a qualifying asset as the intended use of the contract asset is not a use for which it necessarily takes a substantial period of time to get ready. IAS 23 requires capitalisation of borrowing costs that are directly attributable to the acquisition, construction or production of an asset that necessarily takes a substantial period of time to get ready for is intended use or sale. Some may argue that there is a tension between the requirement in IFRIC 12 to capitalise interest during the construction phase under the intangible asset model and this agenda decision. However, we believe that the agenda decision does not override the requirements of IFRIC 12 paragraph 22.

Whilst IFRIC 12 requires consideration to be classified as a contract asset during the construction or upgrade period, Illustrative Example 2 to IFRIC 12 shows that the contract asset is presented as an intangible asset during the construction phase. [IFRIC 12.IE15].

It is argued that an inevitable consequence of applying the intangible asset model is that there must be an exchange transaction in which the operator receives the intangible right in exchange for its construction services. As this is an exchange of dissimilar assets, revenue must be recognised in accordance with IFRS 15, which requires the recognition of revenue based on the fair value of the assets received, unless the fair value of the assets received cannot be reasonably estimated. [IFRIC 12.BC32, IFRS 15.66, 67]. This means that the operator must establish the fair value of either the intangible asset it receives or the stand-alone selling price of the construction services. [IFRS 15.67].

Under IAS 38, amortisation of an intangible asset should begin when the asset is available for use, i.e. when it is in the location and condition necessary for it to be capable of operating in the manner intended by management. [IAS 38.97]. We believe that this would likely be the case once construction is complete and the operator can begin using the license received in exchange for construction services in order to generate revenues.

In the following example, based on Illustrative Example 2 in IFRIC 12, the operator determines the fair value of the intangible asset indirectly by reference to the stand-alone selling price of the construction services delivered. As with Example 25.3 above, it should be noted that this example deals with only one of many possible types of arrangements seen in practice and it is important that entities understand and assess the facts and circumstances of their own service concession arrangements in order to determine the appropriate accounting.

4.4 Revenue recognition implications of the two models

There are major differences in the way in which revenue is measured under the two models. Under the financial asset model, total revenue over the concession term will be the same as the total cash inflows under the contract. By contrast, the fair value of the intangible asset is recognised as revenue under the intangible asset model, so total revenue measured using this model will be higher by this amount. The consequences of the two models can be demonstrated by the following simple example:

It is fair to say that this proved highly controversial. In fact, the September 2004 IFRIC Update stated that ‘the majority of the Interpretations Committee strongly disliked this outcome’.¹¹ However, the Interpretations Committee maintained that this is the appropriate application of accounting standards to the arrangements and is consistent with the treatment generally accorded to barter transactions, [IFRIC 12.BC35], although, of course, there are no other sectors where barter transactions are fundamental to the arrangement.

4.5 ‘Bifurcation’ – single arrangements that contain both financial and intangible assets

The Interpretations Committee concluded that it may be necessary in certain circumstances to divide the operator's right to cash flows into a financial asset and an intangible asset. [IFRIC 12.18]. The IFRIC Update (March 2006) reported that ‘With this change, the proposed amendment would better reflect the economic reality of concession arrangements: to the extent that the operator is remunerated for its construction services by obtaining a contractual right to receive cash from, or at the direction of, the grantor, the operator would recognise a financial asset and, to the extent that the operator receives only a licence to charge users, it would recognise an intangible asset.’

The Basis for Conclusions to IFRIC 12 explains more of the reasoning and potential impact. In some arrangements both parties to the contract share the risk (demand risk) that the cash flows generated by the project will not be sufficient to recover the operator's capital investment. A common mechanism for achieving this is where the grantor pays partly by a financial asset (i.e. the grantor will pay cash for the services provided) but gives the operator the right to charge for services (i.e. the operator has an intangible asset). The operator's infrastructure asset is to be split into a financial asset component for any guaranteed amount of cash and an intangible asset for the remainder. [IFRIC 12.18, BC53].

These are common in transport concessions, e.g. a rail system paid for partly by grantor subsidy and partly by the payment of fares. This gives rise to difficult matters of judgement. It may not be clear how much of the arrangement is a financial asset and, therefore, where to draw the boundary between the two assets.

The following example, based on Illustrative Example 3 in IFRIC 12, illustrates how an entity may account for a service concession arrangement under the bifurcated model. As with Examples 25.3 and 25.4 above, it should be noted that this example deals with only one of many possible types of arrangements seen in practice and it is important that entities understand and assess the facts and circumstances of their own service concession arrangements in order to determine the appropriate accounting. In the example below, the operator recognises a receivable and an intangible asset once construction services are complete. As discussed at 4.2 above, IFRS 15 requires that a receivable is recognised only when the operator has an unconditional right to receive consideration, which will be the case only when nothing other than the passage of time is required before payment of the consideration is due. [IFRS 15.108]. We therefore assume that the example below contains an unstated assumption that this is the case at completion of construction services. However, this may not always be the situation in practice.

The example above shows the operator's contractual obligation to resurface the road being recognised and measured in accordance with IAS 37. The accounting for maintenance costs during the operations phase is discussed at 5.2 below.

4.6 Accounting for residual interests

Unless the infrastructure is used in a service concession arrangement for the whole of its useful life (within scope of IFRIC 12 – see 3.2 above), there will be a residual interest at the end of the contract that will be controlled by the grantor. The way in which the grantor controls the residual interest will affect the way in which the operator accounts for it. If the operator has an unconditional contractual right to cash (or another financial asset) for the residual interest in the infrastructure, this right will be a financial asset. It will be recognised as part of the consideration for the construction services. [IFRIC 12.16]. This is unaffected by the basis on which the consideration is calculated.

There are many different arrangements over residual interests in the infrastructure at the end of the concession term but broadly they depend on whether the grantor has a right or an option to acquire the residual interest and on the rights or options of the operator:

1. The grantor may control the residual via an obligation to purchase the infrastructure from the operator but this could be at fair value, net book value, a notional amount or zero.
2. It may only have an option to acquire the assets, on similar bases to (a), but it also has a right to put in place other arrangements, e.g. granting the operator a new term or selecting a new party to take on the assets. Payment might be made by the grantor or by the new operator but always at the direction of the grantor.
3. The grantor has an option to acquire the assets but if this is not exercised then the operator may retain them.

The implications of grantor options and control of the residual interest have been discussed at 3.2 above.

If the terminal arrangements fall within (a) above the operator will have an unconditional contractual right to cash. It will recognise a financial asset, initially at fair value, which will then be accounted for according to the relevant classification under IFRS 9 (see 4.2 above). If the financial asset measured at amortised cost or fair value through other comprehensive income under IFRS 9, then interest will be calculated using the effective interest method. At the end of the contract the financial asset in respect of the residual interest will be stated at the operator's best estimate of the amount receivable.

Where the grantor has a right to put in place other arrangements, as in (b) above, the operator would only have an unconditional right to cash (i.e. a financial asset) after the grantor terminates the operator's involvement in the concession (by letting the contract lapse or by selecting a new party to take on the assets) if such termination will result in a payment to the operator. To the extent that the grantor can avoid any obligation to pay cash by allowing the concession term to continue, the operator has an intangible asset. The existence of such extension rights would have to be considered when determining the term of the concession arrangement.

If the arrangement is of the type described in (c), then the operator's residual interest is not a financial asset. Nor does it have a residual interest in the underlying property, plant and equipment because this is an arrangement within scope of IFRIC 12 and the entity cannot recognise the underlying assets, in whole or in part. [IFRIC 12.11]. The only option is to recognise an intangible right to receive cash or the residual interest in the assets. By contrast to the residual financial asset, it is most unlikely that the operator would be able to restate the value of this right over the term to its best estimate of the amount receivable at the end of the contract. IAS 38 only allows intangible assets to be revalued in very restricted circumstances; see Chapter 17 at 8.2.

The operator will have to account for its residual interests as described above based on the contractual rights, whatever model is being applied to its construction services. This is similar to the explicit requirements for upgrade services described at 5.1 below: IFRIC 12 recognises that upgrade services should be recognised as revenue on the basis of their individual contract terms regardless of the model applied. [IFRIC 12.14]. The result is that an entity that has recognised an intangible asset for the major part of its construction services might have to recognise a financial asset for the residual interests – or vice versa if its construction services have been accounted for as a financial asset. This treatment is a variation of the bifurcation described at 4.5 above except that the financial asset relates only to the residual interest in the infrastructure rather than to a portion of the consideration receivable for the infrastructure as a whole. The residual rights will be taken into account in calculating the revenue receivable under the contract, which are described at 4.2 and 4.3 above.

As the termination arrangements can be complex, care will have to be taken to ensure that the effects are fully analysed.

In this arrangement, the operator has a contractual right to cash that should be recognised as a financial asset. It has a right to receive the lower of (a) and (b). It may choose to use its right to cash to settle part or all of the price of a new concession agreement but this does not affect the fact that it has a right to cash. This example also illustrates that calculating the fair value of the contractual right to cash may be complex as it must take account of a number of different estimates, including the net book value of the infrastructure at the end of the contract, as well as the options available to the parties to the contract.

4.7 Accounting for contractual payments to be made by an operator to a grantor

Many arrangements require an entity to make payments to the grantor during the course of the SCA. These payments take two main forms:

1. payments related to the use of tangible assets, including:
   1. payments to the grantor or third parties for making assets available (such as trains and buses) in order to provide the services required by the concession contract;
   2. payments to a third party for the construction and making available of assets (such as rolling stock) that pass to the grantor at the end of the concession term; and
   3. payments to the grantor for making available land on which the infrastructure assets are constructed or situated; or
2. fees payable to the grantor for the right to operate the concession, which can be described as concession fees, development fees or access charges.

It is possible that some of these payments could be for the right to use assets controlled by the operator itself or the concession payment could relate to a distinct good or service that is separate from the concession arrangement. In July 2016, the Interpretations Committee observed:

1. if payments made by an operator to a grantor are for a right to a good or service that is separate from the service concession arrangement, the operator should account for those payments by applying the applicable IFRS Standards; and
2. if payments are for the right to use an asset that is separate from the infrastructure within the scope of IFRIC 12, the operator should assess whether the arrangement contains a lease. If the arrangement contains a lease, the operator should account for those payments by applying IFRS 16.¹²

The application guidance in AG7 and AG8 of IFRIC 12 may be relevant to an operator in assessing whether an asset is separate from the infrastructure within scope of IFRIC 12. This application guidance is considered at 3.4 above, in the context of partially regulated assets.

The Interpretations Committee observed that if payments made by an operator to a grantor are not for the right to a separate good or service or a right to use an asset that is a lease, the accounting for those payments should depend on whether the SCA falls within the financial asset model, the intangible asset model or is a hybrid. This means that the payments will be reflected in the carrying value of the appropriate concession asset:

• if the SCA is accounted for under the financial asset model, then the concession payment is an adjustment to the transaction price, applying the requirements in paragraphs 70‑72 of IFRS 15, illustrated at 4.7.2 below;
• if the intangible asset model applies, then the concession payment is part of the cost of acquiring the intangible asset recognised for the right to charge users of the service, illustrated at 4.7.3 below; and
• if the operator has both a right to charge users of the public service and a contractual right to receive cash from the grantor, then the entity should assess the extent to which the concession payment represents an adjustment to the overall consideration receivable or whether it is consideration for the intangible asset element.¹³ This is determined by comparing the amount of the contractual right to receive cash from the grantor with the fair value of the operator's services.

The recommended treatment under the financial asset model is predicated on the fact that the operator has a contractual right to receive cash from the grantor and that payments between the parties are all part of this single relationship, however described. In this regard, payments to the grantor will include amounts paid to a related private sector entity to which responsibility for the service has been devolved. [IFRIC 12.3].

Under the Interpretations Committee's approach for the intangible asset model, payments to the grantor that are not for a right to a good or service that is separate from the SCA, and are not an embedded lease, represent consideration for the concession, i.e. part of the cost of the intangible asset recognised. It is clearly a requirement of IAS 38 that an intangible asset be recognised when it meets the definition and other recognition criteria (see Chapter 17 at 2 and 3) and it must be recognised at its present value if payment is deferred. [IAS 38.32].

Therefore, fixed fees payable over the life of a concession generate an intangible asset and give rise to a financial liability on inception, as the fixed fee will only be avoided by the operator if it withdraws from the concession, which in most circumstances is contractually and economically unfeasible.

5.1 Additional construction and upgrade services

The concession may include obligations to construct new infrastructure (construction services) or to enhance either new or existing infrastructure to a condition better than at the start of the concession (upgrade services). IFRIC 12 does not deal in detail with the treatment to be adopted other than to say that revenue and costs relating to construction or upgrade services are recognised in accordance with IFRS 15. [IFRIC 12.14]. This means that all construction or upgrade services are accounted for in accordance with the appropriate model, regardless of when they take place. Contractual obligations to maintain or restore infrastructure may also include an upgrade element. [IFRIC 12.21].

Upgrade or construction services are separate performance obligations. This means that the contract has to require the particular service to be carried out at a specified time. This is not the same as a general requirement to maintain the asset in a specified condition.

It would be unusual for a toll road concession, for example, to require resurfacing to take place according to a predetermined schedule as road surfaces degrade with usage (based on both the number of vehicles and weight per axle) as well as weather conditions. However, the contract might require a new bridge or access road after a specified period of time and either of these would be separate upgrade services.

Upgrade services must be recognised in accordance with IFRS 15. [IFRIC 12.14]. IFRS 15 is discussed in Chapters 27 to 32.

The entity must determine the consideration receivable for the upgrade services. This may be part of the allocation at inception of the contract, as shown in Example 25.3 above where part of the contract revenue is attributed to road resurfacing, or the contract may specify a separate payment when the upgrade is performed. In either case, the entity would allocate the transaction price for the arrangement as a whole to each of the performance obligations in proportion to their stand-alone selling prices in accordance with IFRS 15. [IFRIC 12.14]. The entity would recognise revenue for the upgrade service only as the obligation to provide those services is fulfilled.

5.2 Accounting for the operations phase

Both the financial and intangible asset models apply the same accounting in the operations phase of the SCA. According to the September 2006 IFRIC Update, ‘the nature of the asset recognised by the operator as consideration for providing construction services (a financial asset or an intangible asset) does not determine the accounting for the operation phase of the arrangement’.¹⁸

Revenue and costs for the operation services will be recognised in accordance with IFRS 15. [IFRIC 12.20]. This means that most operating costs are likely to be executory and will be accounted for as incurred. Contractual obligations, including obligations to maintain, replace or restore infrastructure to a specified level of serviceability during its operation or to a specified condition at the end of the concession, are to be recognised and measured in accordance with IAS 37, [IFRIC 12.21], as shown in Example 25.11 below, when such obligations do not include any upgrade element (which is treated as an additional construction service, see 5.1 above).

Distinguishing between executory maintenance expenditure and contractual obligations is not always straightforward. A concession arrangement may provide for a specified total amount of expenditure to be incurred by the operator throughout the contract. Sometimes, the contract provides for mechanisms whereby at the end of the contract, any shortfall in the agreed amount is paid in cash to the grantor by the operator. Particularly in the case of older contracts, it is common for the maintenance and repair obligation to be expressed in very general terms such as keeping the infrastructure in ‘good working condition’ or ‘state of the art’ working condition. The obligation may include the requirement that the asset be handed over with a certain number of years' useful life remaining.

Local regulations or laws also change over time. Some operators are obliged to report annually to the grantor on the level of maintenance and renewal expenditure incurred during the year and on a cumulative basis from inception of the contract. Sometimes, the operator must report on expected expenditures over some future period of time (e.g. over the next 12 months or two years) as well. In these situations, more often than not the grantor compares the cumulative expenditure at any point in time with either the operator's prior estimates of expenditures or with the level of expenditure that had been anticipated at the outset of the arrangement and was factored into the level of usage charges. In such circumstances, judgement is required in deciding whether expenditure on renewals is an obligation requiring recognition or an executory contract.

The Interpretations Committee has also provided an example in Illustrative Example 2, the intangible asset model, of how operational expenditure might be accounted for in accordance with IAS 37. Although this illustration is in the context of an intangible asset, IAS 37 can apply to maintenance and other obligations whichever model applies. Major maintenance, in this case the requirement to resurface the road, will be recognised as the best estimate of the expenditure required to settle the present obligation at the reporting date and it is suggested that this might ‘arise as a consequence of use of the road’, therefore increasing in measurable annual increments. [IFRIC 12.IE19, IE20]. The basis for accounting for such obligations is discussed further in Chapter 26.

5.3 Items provided to the operator by the grantor

Following the basic principles underlying the accounting treatment under both models, infrastructure items to which the operator is given access by the grantor for the purpose of the service concession are not recognised as its property, plant and equipment. [IFRIC 12.27]. This is because they remain under the control of the grantor.

There is a different treatment for assets that are given to the operator as part of the consideration for the concession that can be kept or dealt with as the operator wishes. These assets are not to be treated as government grants as defined in IAS 20. Instead, an operator should account for these assets as part of the transaction price and in accordance with IFRS 15. [IFRIC 12.27]. (See Chapter 29 at 2).

What this means is that an operator that has been given a licence or similar arrangement over a piece of land on which a hospital is to be built does not recognise the land as an asset. If, on the other hand, the operator has been given a piece of surplus land on which it can build private housing for sale, it will recognise an asset. The consideration, which is the fair value of that land, will be aggregated with the remainder of the consideration for the transaction and accounted for according to the model being used.