Kế toán tài chính - Revenue recognition

ing the Transaction Price—Step 3Facts: On July 1, 2017, SEK Company sold goods to Grant Company for $900,000 in exchange for a 4-year, zero-interest-bearing note with a face amount of $1,416,163. The goods have an inventory cost on SEK’s books of $590,000.LO 2Time Value of MoneyEXTENDED PAYMENT TERMSQuestions: (a) How much revenue should SEK Company record on July 1, 2017? (b) How much revenue should it report related to this transaction on December 31, 2017?Entry to record SEK’s sale to Grant Company on July 1, 2017, is as follows.Notes Receivable 1,416,163 Sales Revenue 900,000 Discount on Notes Receivable 516,163Cost of Goods Sold 590,000 Inventory 590,000ILLUSTRATION 18-7Transaction Price -Extended Payment TermsFacts: On July 1, 2017, SEK Company sold goods to Grant Company for $900,000 in exchange for a 4-year, zero-interest-bearing note with a face amount of $1,416,163. The goods have an inventory cost on SEK’s books of $590,000.LO 2EXTENDED PAYMENT TERMSQuestions: (a) How much revenue should SEK Company record on July 1, 2017? (b) How much revenue should it report related to this transaction on December 31, 2017?Entry to record interest revenue (12%) at the end of the year, December 31, 2017.Discount on Notes Receivable 54,000 Interest Revenue (12% x ½ x $900,000) 54,000Companies are not required to reflect the time value of money if the time period for payment is less than a year.Time Value of MoneyILLUSTRATION 18-7Transaction Price -Extended Payment TermsLO 2Noncash ConsiderationGoods, services, or other noncash consideration.Companies sometimes receive contributions (e.g., donations and gifts).Customers sometimes contribute goods or services, such as equipment or labor, as consideration for goods provided or services performed.Companies generally recognize revenue on the basis of the fair value of what is received.Determining the Transaction Price—Step 3LO 2Consideration Paid or Payable to CustomersMay include discounts, volume rebates, coupons, free products, or services. In general, these elements reduce the consideration received and the revenue to be recognized.Determining the Transaction Price—Step 3Facts: Sansung Company offers its customers a 3% volume discount if they purchase at least $2 million of its product during the calendar year. On March 31, 2017, Sansung has made sales of $700,000 to Artic Co. In the previous 2 years, Sansung sold over $3,000,000 to Artic in the period April 1 to December 31.LO 2Consideration Paid or PayableVOLUME DISCOUNTQuestions: How much revenue should Sansung recognize for the first 3 months of 2017?Sansung makes the following entry on March 31, 2017.Accounts Receivable 679,000 Sales Revenue 679,000Sansung should reduce its revenue by $21,000 ($700,000 x 3%) because it isprobable that it will provide this rebate.ILLUSTRATION 18-8Transaction Price – Volume DiscountLO 2Questions: How much revenue should Sansung recognize for the first 3 months of 2017?Assuming Sansung’s customer meets the discount threshold, Sansung makes the following entry.Cash 679,000 Accounts Receivable 679,000If Sansung’s customer fails to meet the discount threshold, Sansung makes the following entry upon payment.Cash 700,000 Accounts Receivable 679,000 Sales Discounts Forfeited 21,000Consideration Paid or PayableILLUSTRATION 18-8Transaction Price – Volume DiscountAllocating Transaction Price to Separate Performance Obligations—Step 4LO 2Based on their relative fair values. Best measure of fair value is what the company could sell the good or service for on a standalone basis. If not available, companies should use their best estimate of what the good or service might sell for as a standalone unit.LO 2ILLUSTRATION 18-9Transaction PriceAllocationAllocating Transaction Price to Separate Performance Obligations—Step 4Facts: Sansung Handler Company is an established manufacturer of equipment used in the construction industry. Handler’s products range from small to large individual pieces of automated machinery to complex systems containing numerous components. Unit selling prices range from $600,000 to $4,000,000 and are quoted inclusive of installation and training. The installation process does not involve changes to the features of the equipment and does not require proprietary information about the equipment in order for the installed equipment to perform to specifications.LO 2Allocating Transaction PriceMULTIPLE PERFORMANCE OBLIGATIONSILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Handler has the following arrangement with Chai Company. • Chai purchases equipment from Handler for a price of $2,000,000 and chooses Handler to do the installation. Handler charges the same price for the equipment irrespective of whether it does the installation or not. (Some companies do the installation themselves because they either prefer their own employees to do the work or because of relationships with other customers.) The installation service included in the arrangement is estimated to have a standalone selling price of $20,000.LO 2Allocating Transaction PriceMULTIPLE PERFORMANCE OBLIGATIONSILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Handler has the following arrangement with Chai Company. • The standalone selling price of the training sessions is estimated at $50,000. Other companies can also perform these training services. • Chai is obligated to pay Handler the $2,000,000 upon the delivery and installation of the equipment. • Handler delivers the equipment on September 1, 2017, and completes the installation of the equipment on November 1, 2017 (transfer of control is complete). Training related to the equipment starts once the installation is completed and lasts for 1 year. The equipment has a useful life of 10 years. LO 2Allocating Transaction PriceMULTIPLE PERFORMANCE OBLIGATIONSILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Handler’s primary objective is to sell equipment. The other services (installation and training) can be performed by other parties if necessary. As a result, the equipment, installation, and training are three separate products or services. Each of these items has a standalone selling price and is not interdependent. LO 2Allocating Transaction PriceQuestion: (a) What are the performance obligations for purposes of accounting for the sale of the equipment?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)The total revenue of $2,000,000 should be allocated to the three components based on their relative standalone selling prices. In this case, the standalone selling price of the equipment is $2,000,000, the installation fee is $20,000, and the training is $50,000. The total standalone selling price therefore is $2,070,000 ($2,000,000 + $20,000 + $50,000). The allocation is as follows. Equipment $1,932,367 [($2,000,000 ÷ $2,070,000) × $2,000,000] Installation $19,324 [($20,000 ÷ $2,070,000) × $2,000,000] Training $48,309 [($50,000 ÷ $2,070,000) × $2,000,000]LO 2Allocating Transaction PriceQuestion: (b) If there is more than one performance obligation, how should the payment of $2,000,000 be allocated to various components?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Handler makes the following entry on November 1, 2017, to record both sales revenue and service revenue on the installation, as well as unearned service revenue. November 1, 2017LO 2Allocating Transaction PriceQuestion: (b) If there is more than one performance obligation, how should the payment of $2,000,000 be allocated to various components?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Cash 2,000,000 Service Revenue (installation) 19,324 Unearned Service Revenue 48,309 Sales Revenue 1,932,367 Assuming the cost of the equipment is $1,500,000, the entry to record cost of goods sold is as follows. November 1, 2017LO 2Allocating Transaction PriceQuestion: (b) If there is more than one performance obligation, how should the payment of $2,000,000 be allocated to various components?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)As indicated by these entries, Handler recognizes revenue from the sale of the equipment once the installation is completed on November 1, 2017. In addition, it recognizes revenue for the installation fee because these services have been performed. Cost of Goods Sold 1,500,000 Inventory 1,500,000Handler recognizes the training revenues on a straight-line basis starting on November 1, 2017, or $4,026 ($48,309 ÷ 12) per month for 1 year (unless a more appropriate method such as the percentage-of-completion method—discussed in the next section—is warranted). The journal entry to recognize the training revenue for 2 months in 2017 is as follows. December 31, 2017LO 2Allocating Transaction PriceQuestion: (b) If there is more than one performance obligation, how should the payment of $2,000,000 be allocated to various components?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and Service(continued)Unearned Service Revenue 8,052 Service Revenue (training) ($4,026 × 2) 8,052 Therefore, Handler recognizes revenue at December 31, 2017, in the amount of $1,959,743 ($1,932,367 + $19,324 + $8,052). Handler makes the following journal entry to recognize the remaining training revenue in 2018, assuming adjusting entries are made at year-end.December 31, 2018LO 2Allocating Transaction PriceQuestion: (b) If there is more than one performance obligation, how should the payment of $2,000,000 be allocated to various components?ILLUSTRATION 18-12Multiple Performance Obligations—Product, Installation, and ServiceUnearned Service Revenue 40,257 Service Revenue (training) ($48,309 − $8,052) 40,257LO 2Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5Company satisfies its performance obligation when the customer obtains control of the good or service.Change in Control IndicatorsCompany has a right to payment for asset.Company has transferred legal title to asset.Company has transferred physical possession of asset.Customer has significant risks and rewards of ownership.Customer has accepted the asset.LO 2Recognizing revenue from a performance obligation over timeMeasure progress toward completionMethod for measuring progress should depict transfer of control from company to customer.Objective of methods is to measure extent of progress in terms of costs, units, or value added. Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5LO 2Step in ProcessIdentify the contract with customers.DescriptionA contract is an agreement that creates enforceable rights or obligations.ImplementationA company applies the revenue guidance to contracts with customers.ILLUSTRATION 18-15Summary of theFive-Step RevenueRecognition ProcessRecognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5LO 2Step in ProcessIdentify the separate performance obligations in the contractDescriptionA performance obligation is a promise in a contract to provide a product or service to a customer. A performance obligation exists if the customer can benefit from the good or service on its own or together with other readily available resources.ImplementationA contract may be comprised of multiple performance obligations. Accounting is based on evaluation of whether the product or service is distinct within the contract. If each of the goods or services is distinct, but is interdependent and interrelated, these goods and services are combined and reported as one performance obligation.Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5ILLUSTRATION 18-15Summary of theFive-Step RevenueRecognition ProcessLO 2Step in ProcessDetermine the transaction price.DescriptionTransaction price is the amount of consideration that a company expects to receive from a customer in exchange for transferring goods and services.ImplementationIn determining the transaction price, companies must consider the following factors: variable consideration, time value of money, noncash consideration, and consideration paid or payable to customer.Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5ILLUSTRATION 18-15Summary of theFive-Step RevenueRecognition ProcessLO 2Step in ProcessAllocate the transaction price to the separate performance obligation.DescriptionIf more than one performance obligation exists, allocate the transaction price based on relative fair values.ImplementationThe best measure of fair value is what the good service could be sold for on a standalone basis (standalone selling price). Estimates of standalone selling price can be based on adjusted market assessment, expected cost plus a margin approach, or a residual approach.Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5ILLUSTRATION 18-15Summary of theFive-Step RevenueRecognition ProcessLO 2Step in ProcessRecognize revenue when each performance obligation is satisfied.DescriptionA company satisfies its performance obligation when the customer obtains control of the good or service.ImplementationCompanies satisfy performance obligations either at a point in time or over a period of time. Companies recognize revenue over a period of time if one of following criteria are met: the customer receives and consumes the benefits as the seller performs, the customer controls the asset as it is created, the company does not have an alternative use for the asset.Recognizing Revenue When (or as) EachPerformance Obligation Is Satisfied—Step 5ILLUSTRATION 18-15Summary of theFive-Step RevenueRecognition ProcessUnderstand the fundamental concepts related to revenue recognition and measurement.Understand and apply the five-step revenue recognition process.LEARNING OBJECTIVESApply the five-step process to major revenue recognition issues.Describe presentation and disclosure regarding revenue.After studying this chapter, you should be able to:Revenue Recognition18LO 3ACCOUNTING FOR REVENUE RECOGNITION ISSUESLO 3Sales returns and allowancesRepurchase agreementsBill and holdPrincipal-agent relationshipsConsignmentsWarrantiesNonrefundable upfront feesSales Returns and AllowancesLO 3Right of return is granted for product for various reasons (e.g., dissatisfaction with product).Company returning the product receives any combination of the following.Full or partial refund of any consideration paid.Credit that can be applied against amounts owed, or that will be owed, to the seller.Another product in exchange.Illustration: On January 12, 2017, Venden Company sells 100 cameras for $100 each on account to Amaya Inc. Venden allows Amaya to return any unused cameras within 45 days of purchase. The cost of each product is $60. Venden estimates that:Three products will be returned.The costs of recovering the products will be immaterial.The returned products are expected to be resold at a profit.On January 24, Amaya returns two of the cameras because they were the wrong color. On January 31, Venden prepares financial statements and determines that it is likely that only one more camera will be returned. Venden makes the following entries related to these transactions.LO 3Credit Sales with Returns and AllowancesIllustration: On January 12, 2017, Venden Company sells 100 cameras for $100 each on account to Amaya Inc. Venden allows Amaya to return any unused cameras within 45 days of purchase. The cost of each product is $60. Venden makes the following entries To record the sale of the cameras and related cost of goods sold on January 12, 2017.LO 3Credit Sales with Returns and AllowancesAccounts Receivable 10,000 Sales Revenue (100 × $100) 10,000 Cost of Goods Sold 6,000 Inventory (100 × $60) 6,000Illustration: On January 12, 2017, Venden Company sells 100 cameras for $100 each on account to Amaya Inc. Venden allows Amaya to return any unused cameras within 45 days of purchase. The cost of each product is $60. Venden makes the following entries To record the return of the two cameras on January 24, 2017.LO 3Credit Sales with Returns and AllowancesSales Returns and Allowances 200 Accounts Receivable (2 × $100) 200 Returned Inventory 120 Cost of Goods Sold (2 × $60) 120Illustration: On January 31, 2017, Venden prepares financial statements. As indicated earlier, Venden originally estimated that the most likely outcome was that three cameras would be returned. Venden believes the original estimate is correct and makes the following adjusting entries to account for expected returns at January 31, 2017.LO 3Credit Sales with Returns and AllowancesSales Returns and Allowances (1 × $100) 100 Allowance for Sales Returns and Allowances 100Estimated Inventory Returns 60 Cost of Goods Sold (1 × $60) 60Venden’s income statement for the month ending of January 31, 2017.LO 3Credit Sales with Returns and AllowancesVenden’s balance sheet as of January 31, 2017.ILLUSTRATION 18-16ILLUSTRATION 18-17Illustration: Assume now that Venden sold the cameras to Amaya for cash instead of on account. In this situation, Venden makes the following entries related to these transactions.To record the sale of the cameras and related cost of goods sold on January 12, 2017.LO 3Cash Sales with Returns and AllowancesCash 10,000 Sales Revenue (100 × $100) 10,000 Cost of Goods Sold 6,000 Inventory (100 × $60) 6,000Illustration: Assuming that Venden did not pay cash at the time of the return of the two cameras to Amaya on January 24, 2017, the entries to record the return of the two cameras and related cost of goods sold are as follows.LO 3Cash Sales with Returns and AllowancesSales Returns and Allowances 200 Accounts Payable (2 × $100) 200 Returned Inventory 120 Cost of Goods Sold (2 × $60) 120Illustration: On January 31, 2017, Venden prepares financial statements. As indicated earlier, Venden estimates that the most likely outcome is that one more camera will be returned. Venden therefore makes the following adjusting entries.LO 3Cash Sales with Returns and AllowancesSales Returns and Allowances 100 Accounts Payable (1 × $100) 100Estimated Inventory Returns 60 Cost of Goods Sold (1 × $60) 60Venden’s income statement for the month ending of January 31, 2017.LO 3Cash Sales with Returns and AllowancesVenden’s balance sheet as of January 31, 2017.ILLUSTRATION 18-18ILLUSTRATION 18-19Repurchase AgreementsLO 3Allows company to transfer an asset to a customer but have an unconditional (forward) obligation or unconditional right (call option) to repurchase the asset at a later date.If obligation or right to repurchase is for an amount greater than or equal to selling price, then transaction is a financing transaction.Facts: Morgan Inc., an equipment dealer, sells equipment on January 1, 2017, to Lane Company for $100,000. It agrees to repurchase this equipment on December 31, 2018, for a price of $121,000.LO 3REPURCHASE AGREEMENTQuestion: Should Morgan Inc. record this transaction?ILLUSTRATION 18-20Recognition—Repurchase AgreementRepurchase AgreementsAssuming an interest rate of 10 percent is imputed from the agreement, Morgan makes the following entry to record the financing on January 1, 2017.Cash 100,000 Liability to Lane Company 100,000LO 3Repurchase AgreementsMorgan Inc. records interest on December 31, 2017, as follows.Interest Expense 10,000 Liability to Lane Company ($100,000 x 10%) 10,000Question: Should Morgan Inc. record this transaction?Morgan Inc. records interest and retirement of its liability to Lane Company on December 31, 2018, as follows.Interest Expense 11,000 Liability to Lane Company ($110,000 x 10%) 11,000Liability to Lane Company 121,000 Cash ($100,000 + $10,000 + $11,000) 121,000ILLUSTRATION 18-20Recognition—Repurchase AgreementBill-and-Hold ArrangementsLO 3Contract under which an entity bills a customer for a product but the entity retains physical possession of the product until a point in time in the future. Result when buyer is not yet ready to take delivery but does take title and accepts billing.Facts: Butler Company sells $450,000 (cost $280,000) of fireplaces on March 1, 2017, to a local coffee shop, Baristo, which is planning to expand its locations around the city. Under the agreement, Baristo asks Butler to retain these fireplaces in its warehouses until the new coffee shops that will house the fireplaces are ready. Title passes to Baristo at the time the agreement is signed.LO 3BILL AND HOLDQuestion: When should Butler recognize the revenue from this bill-and-hold arrangement?ILLUSTRATION 18-21Recognition—Bill and HoldButler determines when it has satisfied its performance obligation to transfer a product by evaluating when Baristo obtains control of that product.Bill-and-Hold ArrangementsLO 3Question: When should Butler recognize the revenue from this bill-and-hold arrangement?For Baristo to have obtained control of a product in a bill-and-hold arrangement, all of the following criteria should be met:(a) The reason for the bill-and-hold arrangement must be substantive.(b) The product must be identified separately as belonging to Baristo.(c) The product currently must be ready for physical transfer to Baristo.Butler cannot have the ability to use the product or to direct it to another customer.In this case, it appears that the above criteria were met, and therefore revenue recognition should be permitted at the time the contract is signed.Bill-and-Hold ArrangementsILLUSTRATION 18-21Recognition—Bill and HoldLO 3Question: When should Butler recognize the revenue from this bill-and-hold arrangement?Bill-and-Hold ArrangementsButler makes the following entry to record the sale.Accounts receivable 450,000 Sales Revenue 450,000Butler makes an entry to record the related cost of goods sold as follows.Cost of Goods Sold 280,000 Inventory 280,000ILLUSTRATION 18-21Recognition—Bill and HoldPrinciple-Agent RelationshipsLO 3Agent’s performance obligation is to arrange for principal to provide goods or services to a customer.Examples:Travel Company (agent) facilitates booking of cruise for Cruise Company (principal).Priceline (agent) facilitates sale of various services such as car rentals at Hertz (principal).Amounts collected on behalf of the principal are not revenue of the agent. Revenue for agent is amount of commission received.ConsignmentsLO 3Manufacturers (or wholesalers) deliver goods but retain title to the goods until they are sold. Consignor (manufacturer or wholesaler) ships merchandise to the consignee (dealer), who is to act as an agent for the consignor in selling the merchandise. Consignor makes a profit on the sale.Carries merchandise as inventory.Consignee makes a commission on the sale.LO 3ILLUSTRATION 18-23Recognition—Sales on ConsignmentConsignmentsLO 3ConsignmentsILLUSTRATION 18-23Recognition—Sales on ConsignmentAs you learned in Chapter 4, many corporate executives obsess over the bottom line. However, analysts on the outside look at the big picture, which includes examination of both the top line and the important subtotals in the income statement, such as gross profit. Not too long ago, the top line caused some concern, with nearly all companies in the S&P 500 reporting a 2 percent decline in the bottom line while the top line saw revenue decline by 1 percent. This was troubling because it was the first decline in revenues since we crawled out of the recession following the financial crisis. McDonald’s gave an ominous preview—it saw its first monthly sales decline in nine years. And the United States, rather than foreign markets, led the drop. What about income subtotals like gross margin? These metrics too have been under pressure. There is concern that struggling companies may employ a number of manipulations to mask the impact of gross margin declines on the bottom line. In fact, Rite Aid prepares an income statement that omits the gross margin subtotal. Rite Aid has used a number of suspect accounting adjustments related to tax allowances and inventory gains to offset its weak gross margin. Or, consider the classic case of Priceline.com, the company made famous by William Shatner’s ads about “naming your own price” for airline tickets and hotel rooms. In one quarter, Priceline reported that it earnedWHAT’S YOUR PRINCIPLEWHAT DO THE NUMBERS MEAN? GROSSED OUT(continued)LO 3$152 million in revenues. But, that included the full amount customers paid for tickets, hotel rooms, and rental cars. Traditional travel agencies call that amount “gross bookings,” not revenues. And, much like regular travel agencies, Priceline keeps only a small portion of gross bookings—namely, the spread between the customers’ accepted bids and the price it paid for the merchandise. The rest, which Priceline calls “product costs,” it pays to the airlines and hotels that supply the tickets and rooms. However, Priceline’s product costs came to $134 million, leaving Priceline just $18 million of what it calls “gross profit” and what most other companies would call revenues. And that’s before all of Priceline’s other costs—like advertising and salaries—which netted out to a loss of $102 million. The difference isn’t academic. Priceline shares traded at about 23 times its reported revenues but at a mind-boggling 214 times its “gross profit.” This and other aggressive recognition practices explain the stricter revenue recognition guidance, indicating that if a company performs as an agent or broker without assuming the risks and rewards of ownership of the goods, the company should report sales on a net (fee) basis.Sources: Jeremy Kahn, “Presto Chango! Sales Are Huge,” Fortune (March 20, 2000), p. 44; A. Catanach and E. Ketz, “RITE AID: Is Management Selling Drugs or Using Them?” Grumpy Old Accountants (August 22, 2011); and S. Jakab, “Weak Revenue Is New Worry for Investors,” Wall Street Journal (November 25, 2012).WHAT’S YOUR PRINCIPLEWHAT DO THE NUMBERS MEAN? GROSSED OUTLO 3WarrantiesLO 3Two types of warranties to customers:Product meets agreed-upon specifications in contract at time product is sold. Warranty is included in sales price (assurance-type warranty).Not included in sales price of product (service-type warranty).Recorded as a separate performance obligation.Facts: Maverick Company sold 1,000 Rollomatics on October 1, 2017, at total price of $6,000,000, with a warranty guarantee that the product was free of defects. The cost of the Rollomatics is $4,000,000. The term of this assurance warranty is 2 years, with an estimated cost of $80,000. In addition, Maverick sold extended warranties related to 400 Rollomatics for 3 years beyond the 2-year period for $18,000. On November 22, 2017, Maverick incurred labor costs of $3,000 and part costs of $25,000 related to the assurance warranties. Maverick prepares financial statements on December 31, 2017. It estimates that its future assurance warranty costs will total $44,000 at December 31, 2017. WARRANTIESQuestion: What are the journal entries that Maverick should make in 2017 related to the sale and the assurance and extended warranties?ILLUSTRATION 18-24Performance Obligations and WarrantiesWarrantiesLO 3Cash ($6,000,000 + $18,000) 6,018,000 Sales Revenue 6,000,000 Unearned Warranty Revenue 18,000Question: What are the journal entries that Maverick Company should make in 2017 related to the sale and the related warranties?WarrantiesTo record the sale of the Rollomatics and the related extended warranties on October 1, 2017:To reduce inventory and recognize cost of goods sold:LO 3ILLUSTRATION 18-24Performance Obligations and WarrantiesCost of Goods Sold 4,000,000 Inventory 4,000,000Warranty Expense 28,000 Salaries and Wages Payable 3,000 Inventory (parts) 25,000Question: What are the journal entries that Maverick Company should make in 2017 related to the sale and the related warranties?WarrantiesTo record the warranty costs incurred on November 22, 2017:To record the adjusting entry related to its assurance warranty at the end of the year, December 31, 2017: LO 3ILLUSTRATION 18-24Performance Obligations and WarrantiesWarranty Expense 44,000 Warranty Liability 44,000Nonrefundable Upfront FeesLO 3Payments from customers before Delivery of a product Performance of a serviceGenerally relate to initiation, activation, or setup of a good or service to be provided or performed in the future.Most cases, upfront payments are nonrefundable.Examples include: Membership fee in a health clubActivation fees for phone, Internet, or cableUnderstand the fundamental concepts related to revenue recognition and measurement.Understand and apply the five-step revenue recognition process.LEARNING OBJECTIVESApply the five-step process to major revenue recognition issues.Describe presentation and disclosure regarding revenue.After studying this chapter, you should be able to:Revenue Recognition18LO 4PresentationPRESENTATION AND DISCLOSURELO 4Contract Assets and LiabilitiesContract assets are of two types: Unconditional rights to receive consideration because company has satisfied its performance obligation.Conditional rights to receive consideration because company has satisfied one performance obligation but must satisfy another performance obligation before it can bill the customer.Facts: On January 1, 2017, Finn Company enters into a contract to transfer Product A and Product B to Obermine Co. for $100,000. The contract specifies that payment of Product A will not occur until Product B is also delivered. In other words, payment will not occur until both Product A and Product B are transferred to Obermine. Finn determines that standalone prices are $30,000 for Product A and $70,000 for Product B. Finn delivers Product A to Obermine on February 1, 2017. On March 1, 2017, Finn delivers Product B to Obermine.LO 4CONTRACT ASSETQuestion: What journal entries should Finn Company make in regards to this contract in 2017?ILLUSTRATION 18-27Contract Asset Recognition and PresentationPresentationContract Asset 30,000 Sales Revenue 30,000Question: What journal entries should Finn Company make in regards to this contract in 2017?On February 1, 2017, Finn records the following entry:On February 1, Finn does not record an accounts receivable because it does not have an unconditional right to receive the $100,000 unless it also transfers Product B to Obermine. When Finn transfers Product B on March 1, 2017, it makes the following entry.LO 4PresentationAccounts Receivable 100,000 Contract Asset 30,000 Sales Revenue 70,000ILLUSTRATION 18-27Contract Asset Recognition and PresentationFacts: On March 1, 2017, Henly Company enters into a contract to transfer a product to Propel Inc. on July 31, 2017. It is agreed that Propel will pay the full price of $10,000 in advance on April 15, 2017. Henly delivers the product on July 31, 2017. The cost of the product is $7,500. LO 4CONTRACT LIABILITYQuestion: What journal entries are required in 2017?PresentationNo entry is required on March 1, 2017:Neither party has performed on the contract.ILLUSTRATION 18-28Contract Liability Recognition and PresentationCash 10,000 Unearned Sales Revenue 10,000Henly should make the following entry on April 15, 2017.LO 4PresentationQuestion: What journal entries are required in 2017?Unearned Sales Revenue 10,000 Sales Revenue 10,000Cost of Goods Sold 7,500 Inventory 7,500On satisfying the performance obligation on July 31, 2017, Henly records the following entries to record the sale.ILLUSTRATION 18-28Contract Liability Recognition and PresentationChange in contract terms while it is ongoing.Companies determine whether a new contract (and performance obligations) results or whether it is a modification of the existing contract.LO 4Contract Modifications Separate Performance ObligationAccounts for as a new contract if both of the following conditions are satisfied:Promised goods or services are distinct (i.e., company sells them separately and they are not interdependent with other goods and services), andThe company has the right to receive an amount of consideration that reflects the standalone selling price of the promised goods or services.LO 4Contract ModificationsFor example, Crandall Co. has a contract to sell 100 products to a customer for $10,000 ($100 per product) at various points in time over a six-month period. After 60 products have been delivered, Crandall modifies the contract by promising to deliver 20 more products for an additional $1,900, or $95 per product (which is the standalone selling price of the products at the time of the contract modification). Crandall regularly sells the products separately. Given a new contract, Crandall recognizes an additional:LO 4Separate Performance ObligationOriginal contract [(100 units - 60 units) x $100] = $4,000New product (20 units x $95) = 1,900Total revenue $5,900Prospective ModificationCompany should Account for effect of change in period of change as well as future periods if change affects both.Not change previously reported results.LO 4Contract ModificationsProducts not delivered under original contract ($100 x 40) = $4,000Products to be delivered under contract modification ($95 x 20) = 1,900Total remaining revenue $5,900Revenue per remaining unit ($5,900 ÷ 60) = $98.33For Crandall, the amount recognized as revenue for each of the remaining products would be a blended price of $98.33, computed as shown in below.LO 4Prospective ModificationUnder the prospective approach, a blended price ($98.33) is used for sales in the periods after the modification.LO 4Prospective ModificationILLUSTRATION 18-30Comparison of Contract Modification ApproachesPresentationLO 4Costs to Fulfill a ContractCompanies divide fulfillment costs (contract acquisition costs) into two categories:Those that give rise to an asset.Those that are expensed as incurred.PresentationLO 4CollectibilityCredit risk that a customer will be unable to pay in accordance with the contract.Whether a company will get paid is not a consideration in determining revenue recognition. Amount recognized as revenue is not adjusted for customer credit risk.DisclosureLO 4Companies disclose qualitative and quantitative information about the following:Contracts with customers.Significant judgments.Assets recognized from costs incurred to fulfill a contract.DisclosureLO 4Companies provide a range of disclosures:Disaggregation of revenueReconciliation of contract balancesRemaining performance obligationsCost to obtain or fulfill contractsOther qualitative disclosuresSignificant judgments and changes in themMinimum revenue not subject to variable consideration constraintREVENUE RECOGNITION OVER TIMEA company satisfies a performance obligation and recognizes revenue over time if at least one of the following three criteria is met:The customer simultaneously receives and consumes the benefits of the seller’s performance as the seller performs. The company’s performance creates or enhances an asset (for example, work in process) that the customer controls as the asset is created or enhanced; orThe company’s performance does not create an asset with an alternative use. LO 5 Apply the percentage-of-completion method for long-term contracts.LONG-TERM CONSTRUCTION CONTRACTSAPPENDIX 18AREVENUE RECOGNITION OVER TIMETwo Methods of accounting:Percentage-of-Completion MethodRecognize revenues and gross profits each period based upon the progress of the constructionBuyer and seller have enforceable rightsCompleted-Contract MethodRecognize revenues and gross profit only when the contract is completedLONG-TERM CONSTRUCTION CONTRACTSLO 5APPENDIX 18ALONG-TERM CONSTRUCTION CONTRACTSLO 5Percentage-of-Completion MethodRevenue to Recognized Cost-to-Cost BasisILLUSTRATION 18-1AILLUSTRATION 18-2AILLUSTRATION 18-3AAPPENDIX 18AIllustration: Hardhat Construction Company has a contract to construct a $4,500,000 bridge at an estimated cost of $4,000,000. The contract is to start in July 2017, and the bridge is to be completed in October 2019. The following data pertain to the construction period. PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AILLUSTRATION 18-4APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AILLUSTRATION 18-5APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AIllustration: Percentage-of-Completion Revenue, Costs, and Gross Profit by YearILLUSTRATION 18-6APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AILLUSTRATION 18-7AILLUSTRATION 18-6APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AIllustration: Content of Construction in Process Account—Percentage-of-Completion MethodILLUSTRATION 18-8APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AFinancial Statement Presentation—Percentage-of-CompletionILLUSTRATION 18-9AComputation of Unbilled Contract Price at 12/31/17PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18ALO 5Financial Statement Presentation—Percentage-of-Completion Method 2017ILLUSTRATION 18-10APERCENTAGE-OF-COMPLETION METHODAPPENDIX 18AFinancial Statement Presentation—Percentage-of-Completion Method 2018ILLUSTRATION 18-11APERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AA) Prepare the journal entries for 2017, 2018, and 2019. Illustration: Casper Construction Co. PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AIllustration:PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AIllustration:PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18AIllustration:PERCENTAGE-OF-COMPLETION METHODLO 5APPENDIX 18ACompanies recognize revenue and gross profit only at point of sale—that is, when the contract is completed. Under this method, companies accumulate costs of long-term contracts in process, but they make no interim charges or credits to income statement accounts for revenues, costs, or gross profit.LO 6 Apply the completed-contract method for long-term contracts.Completed Contract MethodCOMPLETED-CONTRACT METHODAPPENDIX 18ALO 6Illustration:COMPLETED-CONTRACT METHODAPPENDIX 18ALO 6Illustration:COMPLETED-CONTRACT METHODAPPENDIX 18ALoss in Current Period on a Profitable ContractPercentage-of-completion method only, the estimated cost increase requires a current-period adjustment of gross profit recognized in prior periods.Loss on an Unprofitable ContractUnder both percentage-of-completion and completed-contract methods, the company must recognize in the current period the entire expected contract loss.Long-Term Contract LossesLONG-TERM CONSTRUCTION CONTRACTSLO 7 Identify the proper accounting for losses on long-term contracts.APPENDIX 18Ab) Prepare the journal entries to record revenue and expense for 2017, 2018, and 2019 assuming the estimated cost to complete at the end of 2018 was $215,436 instead of $170,100.Casper Construction Co. Illustration: Loss on Profitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18AIllustration: Loss on Profitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18AIllustration: Loss on Profitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18APrepare the journal entries for 2017, 2018, and 2019 assuming the estimated cost to complete at the end of 2018 was $246,038 instead of $170,100.Illustration: Loss on Unprofitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18A201720182019Illustration: Loss on Unprofitable Contract$675,000 – 683,438 = (8,438) cumulative lossLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18A201720182019Illustration: Loss on Unprofitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18AFor the Completed-Contract method, companies would recognize the following loss :Illustration: Loss on Unprofitable ContractLONG-TERM CONTRACT LOSSESLO 7APPENDIX 18AFranchisesFour types of franchising arrangements have evolved: Manufacturer-retailerManufacturer-wholesalerService sponsor-retailerWholesaler-retailerLO 8 Explain the revenue recognition for franchises.REVENUE RECOGNITION FOR FRANCHISESAPPENDIX 18BFastest-growing category is service sponsor-retailer:Soft ice cream/frozen yogurt stores (Tastee Freeze, TCBY, Dairy Queen)Food drive-ins (McDonald’s, KFC, Burger King)Restaurants (TGI Friday’s, Pizza Hut, Denny’s)Motels (Holiday Inn, Marriott, Best Western)Auto rentals (Avis, Hertz, National)Others (H & R Block, Meineke Mufflers, 7-Eleven Stores)REVENUE RECOGNITION FOR FRANCHISESFranchisesLO 8APPENDIX 18BTwo sources of revenue: Sale of initial franchises and related assets or services, and Continuing fees based on the operations of franchises. REVENUE RECOGNITION FOR FRANCHISESFranchisesLO 8APPENDIX 18BThe franchisor normally provides the franchisee with:Assistance in site selectionEvaluation of potential incomeSupervision of construction activityAssistance in the acquisition of signs, fixtures, and equipmentBookkeeping and advisory servicesEmployee and management trainingQuality controlAdvertising and promotionREVENUE RECOGNITION FOR FRANCHISESFranchisesLO 8APPENDIX 18BPerformance obligations relate to: Right to open a business Use of trade name or other intellectual property of the franchisorContinuing services, such as marketing help, training, and in some cases supplying inventory and inventory managementFRANCHISE ACCOUNTINGREVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BFranchisors commonly charge an initial franchise fee and continuing franchise fees:Initial franchise fee (payment for establishing the relationship and providing some initial services)Continuing franchise fees receivedIn return for continuing rights granted by the agreementFor providing management training, advertising and promotion, legal assistance, and other supportFRANCHISE ACCOUNTINGREVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BFacts: Tum’s Pizza Inc. enters into a franchise agreement on December 31, 2017, giving Food Fight Corp. the right to operate as a franchisee of Tum’s Pizza for 5 years. Tum’s charges Food Fight an initial franchise fee of $50,000 for the right to operate as a franchisee. Of this amount, $20,000 is payable when Food Fight signs the agreement, and the note balance is payable in five annual payments of $6,000 each on December 31. As part of the arrangement, Tum’s helps locate the site, negotiate the lease or purchase of the site, supervise the construction activity, and provide employee training and the equipment necessary to be a distributor of its products. Similar training services and equipment are sold separately. Food Fight also promises to pay ongoing royalty payments of 1% of its annual sales (payable each January 31 of the following year) and is obliged to purchase products from Tum’s at its current standalone selling prices at the time of purchase. The credit rating of Food Fight indicates that money can be borrowed at 8%. The present value of an ordinary annuity of five annual receipts of $6,000 each discounted at 8% is $23,957. The discount of $6,043 represents the interest revenue to be accrued by Tum’s over the payment period.REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BRights to the trade name, market area, and proprietary know-how for 5 years are not individually distinct.Each one is not sold separately and cannot be used with other goods or services that are readily available to the franchisee. Combined rights give rise to a single performance obligation. Tum’s satisfies performance obligation at point in time when Food Fight obtains control of the rights. REVENUE RECOGNITION FOR FRANCHISESLO 8What are the performance obligations in this arrangement and the point in time at which the performance obligations for Tum’s are satisfied and revenue is recognized?APPENDIX 18BTraining services and equipment are distinct because similar services and equipment are sold separately. Tum’s satisfies those performance obligations when it transfers the services and equipment to Food Fight. Tum’s cannot recognize revenue for the royalty payments because it is not reasonably assured to be entitled to those royalty amounts. Tum’s recognizes revenue for the royalties when (or as) the uncertainty is resolved.REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BWhat are the performance obligations in this arrangement and the point in time at which the performance obligations for Tum’s are satisfied and revenue is recognized?REVENUE RECOGNITION FOR FRANCHISESConsider the following for allocation of the transaction price.LO 8Training is completed January 2018, the equipment is installed in January 2018, and Food Fight holds a grand opening on February 2, 2018. APPENDIX 18BOn December 31, 2017, Tum’s signs the agreement and receives upfront payment and note.Cash 20,000Notes Receivable 30,000 Discount on Notes Receivable 6,043 Unearned Franchise Revenue 20,000 Unearned Service Revenue (training) 9,957 Unearned Sales Revenue (equipment) 14,000REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BOn February 2, 2018, franchise opens. Tum’s satisfies the performance obligations related to the franchise rights, training, and equipment.Unearned Franchise Revenue 20,000 Franchise Revenue 20,000Unearned Service Revenue (training) 9,957 Service Revenue (training) 9,957Unearned Sales Revenue (equipment) 14,000 Sales Revenue 14,000Cost of Goods Sold 10,000 Inventory 10,000REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BDuring 2018, Food Fight does well, recording $525,000 of sales in its first year of operations. Tum’s records continuing franchise fees on December 31, 2018 as follows.Accounts Receivable ($525,000 × 1%) 5,250 Franchise Revenue 5,250REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BTo record payment received and interest revenue on note on December 31, 2018.Cash 6,000 Notes Receivable 6,000 Discount on Notes Receivable 1,917 Interest Revenue ($23,957 × 8%) 1,917RECOGNITION OF FRANCHISE RIGHTS REVENUE OVER TIMEDepending on the economic substance of the rights, the franchisor may be providing access to the right rather than transferring control of the franchise rights. In this case, the franchise revenue is recognized over time, rather than at a point in time.REVENUE RECOGNITION FOR FRANCHISESLO 8APPENDIX 18BFacts: Tech Solvers Corp. is a franchisor and provides a range of computing services (hardware/software installation, repairs, data backup, device syncing, and network solutions) on popular Apple and PC devices. Each franchise agreement gives a franchisee the right to open a Tech Solvers store and sell Tech Solvers’ products and services in the area for 5 years. Under the contract, Tech Solvers also provides the franchisee with a number of services to support and enhance the franchise brand, including advising and consulting on the operations of the store; communicating new hardware and software developments, and service techniques; providing business and training manuals; and advertising programs and training. FRANCHISE REVENUE OVER TIMELO 8APPENDIX 18BFacts: As an almost entirely service operation (all parts and other supplies are purchased as needed by customers), Tech Solvers provides few upfront services to franchisees. Instead, the franchisee recruits service technicians, who are given Tech Solvers’ training materials (online manuals and tutorials), which are updated for technology changes, on a monthly basis at a minimum. Tech Solvers enters into a franchise agreement on December 15, 2017, giving a franchisee the rights to operate a Tech Solvers franchise in eastern Indiana for 5 years. Tech Solvers charges an initial franchise fee of $5,000 for the right to operate as a franchisee, payable upon signing the contract. Tech Solvers also receives ongoing royalty payments of 7% of the franchisee’s annual sales (payable each January 15 of the following year). The franchise began operations in January 2018 and recognized $85,000 of revenue in 2018.LO 8FRANCHISE REVENUE OVER TIMEAPPENDIX 18BRights to the trade name, market area, and proprietary know-how for 5 years are not individually distinct.Each one is not sold separately and cannot be used with other goods or services that are readily available to the franchisee. Licensed rights and the ongoing training materials are a single performance obligation. Tech Solvers is providing access to the rights and must continue (over time) to perform updates and services.LO 8What are the performance obligations in this arrangement and the point in time at which the performance obligations will be satisfied and revenue will be recognized?FRANCHISE REVENUE OVER TIMEAPPENDIX 18BTech Solvers cannot recognize revenue for the royalty payments Not reasonably assured to be entitled to those revenue-based royalty amounts. Payments represent variable consideration. Recognize revenue for royalties when (or as) uncertainty is resolved.LO 8FRANCHISE REVENUE OVER TIMEAPPENDIX 18BWhat are the performance obligations in this arrangement and the point in time at which the performance obligations will be satisfied and revenue will be recognized?Franchise agreement signed and receipt of upfront payment and note, December 15, 2017:Cash 5,000 Unearned Franchise Revenue 5,000LO 8Unearned Franchise Revenue 1,000 Franchise Revenue ($5,000 ÷ 5) 1,000Accounts Receivable 5,950 Franchise Revenue ($85,000 × 7%) 5,950Franchise begins operations in January 2018 and records $85,000 of revenue for the year ended December 31, 2018.FRANCHISE REVENUE OVER TIMEAPPENDIX 18B“Copyright © 2016 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. 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