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Management should consider the guidance for identifying performance obligations to determine if a license is distinct when it is included in an arrangement with other goods or services. Refer to RR 3 for a discussion of how to identify separate performance obligations.

Licenses that are not distinct include:

Excerpt from ASC 606-10-55-56

  1. A license that forms a component of a tangible good and that is integral to the functionality of the good.
  2. A license that the customer can benefit from only in conjunction with a related service (such as an online service provided by the entity that enables, by granting a license, the customer to access content).

US GAAP includes specific guidance for determining whether a hosting arrangement includes a software license in ASC 985-20, Costs of Software to be Sold, Leased, or Marketed. Reporting entities that enter into hosting arrangements should assess that guidance, which includes determining whether (a) the customer has the contractual right to take possession of the software without significant penalty and (b) it is feasible for the customer to run the software on its own or by contracting with an unrelated third party. The arrangement does not include a distinct license unless these criteria are met.
Question RR 9-1 addresses whether a “hybrid cloud” arrangement is a single performance obligation or multiple performance obligations.
Question RR 9-1
Is a "hybrid cloud" arrangement, which includes both a license to on-premise software and access to software-as-a-service (SaaS) or other cloud-based services, a single performance obligation or multiple performance obligations?
PwC response
It depends. Significant judgment may be required to determine whether the on-premise software license should be combined with the cloud-based services. This assessment will require an understanding of the standalone functionality of the license and the service and the degree to which they affect each other. For example, if the customer must use the software license and cloud-based service together to derive any benefit from the arrangement, this would indicate that they should be combined into a single performance obligation. Conversely, on-premise software with significant standalone functionality is typically determined to be distinct because the customer can benefit from the license without the service. Frequent and significant interactions between the on-premise software and cloud-based service that provides new functionality on a combined basis could provide evidence that the license and service are highly interdependent or highly interrelated and therefore should be combined. However, if the cloud-based service only provides additional functionality, such as increased efficiencies, this alone would not be sufficient to conclude the license and service are highly interdependent or highly interrelated; in this case, the license and service should be accounted for separately. A cloud-based service could have significant value to a customer in an arrangement, but still be distinct from the on-premise software license.

Example RR 9-1, Example RR 9-2, Example RR 9-3, and Example RR 9-4 illustrate the analysis of whether a license is distinct. This concept is also illustrated in Examples 11, 54, 55, and 56 of the revenue standard (ASC 606-10-55-141 through ASC 606-10-55-150K and ASC 606-10-55-362 through ASC 606-10-55-374), as well as Example 10, Case C (ASC 606-10-55-140D through ASC 606-10-55-140F).
EXAMPLE RR 9-1
License that is distinct – license of IP and R&D services
Biotech licenses a drug compound to Pharma. Biotech also provides research and development (R&D) services as part of the arrangement. The contract requires Biotech to perform the R&D services, but the services are not complex or specialized—that is, the services could be performed by Pharma or another qualified third party. The R&D services are not expected to significantly modify or customize the initial intellectual property (the drug compound).
Is the license in this arrangement distinct?
Analysis
The license is distinct because the license is capable of being distinct and separately identifiable from the other promises in the contract. Pharma can benefit from the license together with R&D services that it could perform itself or obtain from another vendor. The license is separately identifiable from other promises in the contract because the R&D services are not expected to significantly modify or customize the IP.
Whether a license is distinct from R&D services depends on the specific facts and circumstances. In the case of very early stage IP (for example, within the drug discovery cycle) when the R&D services are expected to involve significant further development of the initial IP, a reporting entity might conclude that the IP and R&D services are not distinct and, therefore, constitute a single performance obligation.
EXAMPLE RR 9-2
License that is distinct – license of IP and installation
SoftwareCo provides a perpetual software license to Engineer. SoftwareCo will also install the software as part of the arrangement. SoftwareCo offers the software license to its customers with or without installation services, and Engineer could select a different vendor for installation. The installation does not result in significant customization or modification of the software.
Is the license in this arrangement distinct?
Analysis
The software license is distinct because Engineer can benefit from the license on its own, and the license is separable from other promises in the contract. This conclusion is supported by the fact that SoftwareCo licenses the software separately (without installation services) and other vendors are able to install the software. The license is separately identifiable because the installation services do not significantly modify the software. The license is therefore a separate performance obligation that should be accounted for in accordance with the guidance in RR 9.5.
EXAMPLE RR 9-3
License that is distinct – license of IP and data storage service
SoftwareCo enters into a contract with its customer for a license to on-premise data analytics software and cloud data storage. The on-premise software utilizes the customer's data stored on the cloud to provide data analysis. The on-premise software can also utilize data stored on the customer's premises or data stored by other vendors.
Is the license in this arrangement distinct?
Analysis
It is likely that SoftwareCo would conclude that the on-premise software license is distinct from the cloud data storage service. The cloud data storage could be provided by other vendors and thus, the on-premise software license is capable of being distinct. The software license and cloud data storage service are separately identifiable because a customer could gain substantially all of the benefits of the on-premise software when data is stored on the customer's premises or with another vendor.
Alternatively, if SoftwareCo's on-premise software and cloud data storage are used together in such a manner that the customer gains significant functionality that would not be available without the cloud data storage service, SoftwareCo might conclude that the license is not distinct from the storage service.
EXAMPLE RR 9-4
License that is distinct – hybrid cloud solution
SoftwareCo enters into a contract with its customer to provide a hybrid cloud solution that includes a license to on-premise data analytics software and cloud-based services. The software and services are always sold together and may not be purchased separately from SoftwareCo or other vendors. The customer utilizes the on-premise software to perform data analysis and the results can be uploaded to a cloud-based platform for purposes of sharing information with other team members or external parties. When used together, customers often experience a significant increase in efficiencies as it is more cumbersome to share information without using the cloud-based platform. No changes are made to the data and no additional data analysis is performed in the cloud environment.
Is the hybrid cloud solution a single performance obligation?
Analysis
SoftwareCo would likely conclude the hybrid cloud solution is not a single performance obligation and, therefore, the on-premise software license is distinct from the cloud-based services. The on-premise software has standalone functionality that indicates the license is capable of being distinct. The software license and services are separately identifiable because there is not a significant integration of the two elements, the services do not modify or customize the software, and the two elements are not highly interdependent or highly interrelated. Although the arrangement is marketed to customers as a “solution” and the services provide additional functionality that results in increased efficiencies, there does not appear to be significant interaction between the on-premise software and services that would indicate they significantly affect each other.

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