UK Principal versus Agent Audit debate for reseller client

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Hello, the auditors at a client of mine are making a big thing about Principal versus Agent for reporting of revenue in the final accounts, and suggesting that they should be margin accounting, rather than gross revenue invoicing. Having investigated it at some depth with the client, about 20% - 30% of their business is finding stock held by other sellers, and advertising it to their own client base, at their own price, then dealing with the sale, shipment, often adding pre-delivery inspections to the machine/asset they are supplying. In reality it is no different from any re-seller that doesnt hold stock of a product line or range, and draws from a suppliers stock, but only when they get an order from their customer. The buyer always deals through my clients business, not direct with the stock-holder/supplier. The Auditors are insisting this is acting as an agent, because there is no stock risk before the order has been placed, and wish to reduce the company revenue to the margin gained on these sales, and are challenging the whole business model thereby.
So I have two questions,
  1. Is this not a clear cut case of Principal (not agent) and therefore the revenue is reported gross?
  2. is there any particular reason/governance in the FRS that says that Auditors should err towards Agent, and revenue being reported as margin, rather than gross, when there is a 50/50 weighting, with evidence, to both sides of the argument. (in this instance we feel the Client has 80% weighting toward Principal, but the Auditors are digging their heels in)
 

DrStrangeLove

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Hello, the auditors at a client of mine are making a big thing about Principal versus Agent for reporting of revenue in the final accounts, and suggesting that they should be margin accounting, rather than gross revenue invoicing. Having investigated it at some depth with the client, about 20% - 30% of their business is finding stock held by other sellers, and advertising it to their own client base, at their own price, then dealing with the sale, shipment, often adding pre-delivery inspections to the machine/asset they are supplying. In reality it is no different from any re-seller that doesn't hold stock of a product line or range, and draws from a suppliers stock, but only when they get an order from their customer. The buyer always deals through my clients business, not direct with the stock-holder/supplier. The Auditors are insisting this is acting as an agent, because there is no stock risk before the order has been placed, and wish to reduce the company revenue to the margin gained on these sales, and are challenging the whole business model thereby.
So I have two questions,
  1. Is this not a clear cut case of Principal (not agent) and therefore the revenue is reported gross?
  2. is there any particular reason/governance in the FRS that says that Auditors should err towards Agent, and revenue being reported as margin, rather than gross, when there is a 50/50 weighting, with evidence, to both sides of the argument. (in this instance we feel the Client has 80% weighting toward Principal, but the Auditors are digging their heels in)
I'm not in the UK, so there may be UK GAAP/IFRS GAAP pronouncements that decide this. But based on what you read, you lost the argument at the bolded part.

Where the client does not have stock (Americans read: inventory) ahead of time, the situation is much closer to agency sales or sales on consignment than to traditional retailing. The client is arranging a sale of someone else's inventory. The client doesn't own the inventory before a sale is made, and has no investment in inventory even after the sale is made. The client is simply a conduit for sales. Hence this is an agency/principal arrangement, and the client's revenue should be reduced to its margin (Americans read: commission).

I think there's a stronger argument for your client's having two lines of business here: one is agency sales, and one is more traditional retailing of their own inventory. From what you wrote, it doesn't sound like the business is all agency sales or all retailing. The client has two operating models, each contributing a substantial portion to revenue.

Split the business into the two LOBs, and everyone's problems get easier to solve. You could even run the two businesses as separate legal entities that are owned by one holding company, maybe, and consolidate them for reporting. (I'm just spitballing with that idea. RNT, YMMV.)
 
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In the UK the FRS102 applies the following 4 tests for Principal:
1. the entity has the primary responsibility for providing the goods or services to the customer or for fulfilling the order, for example by being responsible for the acceptability of the products or services ordered or purchased by the customer;
2. the entity has inventory risk before or after the customer order, during shipping or on return;
3.the entity has latitude in establishing prices, either directly or indirectly, for example by providing additional goods or services; and
4. the entity bears the customer’s credit risk for the amount receivable from the customer

Seeing as the price is set by your client, the contract of sale and supply is with your client, and not directly between the buyer and the original vendor, so they are bearing primary responsibility for supply, seeing as they have risk of damage of goods in transit, risk of returns, risk of the customer not paying, then your client meets all the tests for continuing as Principal.
In an agency scenario, the vendor and the agent gets a percentage of the final sale price. In a Principal scenario the vendors price is fixed and the Principal sets their own selling price, ie there is not a fixed commission % set or known by the vendor prior to the sale, as the Principal is free to set that.
 

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