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Chapter 18: 4Q (page 1031)

Identify the five steps in the revenue recognition process.

Short Answer

Expert verified

The revenue recognition process is as follows:

  1. Identify the contract with customers.
  2. Identify the separate performance obligations in the contract.
  3. Determine the transaction price.
  4. Allocate the transaction price to the separate performance obligations.
  5. Recognize revenue when each performance obligation is satisfied.

Step by step solution

01

Meaning of Revenues

The term revenue refers to the accumulated amount of sales recorded by a company in the book of accounts for which the underlying good is transferred, or services are performed.

02

Identify the Contract with Customers

Acontractis an agreement between two or more parties that creates enforceable rights or obligations. Contracts can be written, oral, or implied from customary business practice revenue is recognized only when a valid contract exists.

03

Identify the separate performance obligations in the contract

Aperformance obligationpromises to provide a product or service to a customer. This promise may be explicit, implicit, or possibly based on customary business practice. To determine whether a performance obligation exists, the company must provide a distinct product or service to the customer.

04

Determine the transaction price

Thetransaction price is the amount of consideration that a company expects to receive from a customer in exchange fortransferring goods and services. The transaction price in a contract is often easily determined because the customer agrees to pay a fixed amount to the company over a short period.

05

Allocate the transaction price to the separate performance obligations

Companies often have to allocate the transaction price to more than one performance obligation in a contract. The best measure of fair value is what the company could sell the good or service for on a standalone basis, referred to as thestandalone selling price.

06

Recognize revenue when each performance obligation is satisfied

A company satisfies itsperformance obligation when the customer obtains control of the good or service. The concept of change in control is the deciding factor in determining when a performance obligation is satisfied.

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Most popular questions from this chapter

(Sales with Returns) On March 10, 2017, Steele Company sold to Barr Hardware 200 tool sets at a price of \(50 each (cost \)30 per set) with terms of n/60, f.o.b. shipping point. Steele allows Barr to return any unused tool sets within 60 days of purchase. Steele estimates that (1) 10 sets will be returned, (2) the cost of recovering the products will be immaterial, and (3) the returned tools sets can be resold at a profit. On March 25, 2017, Barr returned six tool sets and received a credit to its account.

Instructions

(a) Prepare journal entries for Steele to record (1) the sale on March 10, 2017, (2) the return on March 25, 2017, and (c) any adjusting entries required on March 31, 2017 (when Steele prepares financial statements). Steele believes the original estimate of returns is correct.

(b) Indicate the income statement and balance sheet reporting by Steele at March 31, 2017, of the information related to the Barr sales transaction.

On May 3, 2017, Eisler Company consigned 80 freezers, costing \(500 each, to Remmers Company. The cost of shipping the freezers amounted to \)840 and was paid by Eisler Company. On December 30, 2017, a report was received from the consignee, indicating that 40 freezers had been sold for \(750 each. Remittance was made by the consignee for the amount due after deducting a commission of 6%, advertising of \)200, and total installation costs of $320 on the freezers sold.

Instructions

(a) Compute the inventory value of the units unsold in the hands of the consignee.

(b) Compute the profit for the consignor for the units sold.

(c) Compute the amount of cash that will be remitted by the consignee.

Wood-Mode Company is involved in the design, manufacture, and installation of various types of wood products for large construction projects. Wood-Mode recently completed a large contract for Stadium Inc., which consisted of building 35 different types of concession counters for a new soccer arena under construction. The terms of the contract are that upon completion of the counters, Stadium would pay \(2,000,000. Unfortunately, due to the depressed economy, the completion of the new soccer arena is now delayed. Stadium has therefore asked Wood-Mode to hold the counters for 2 months at its manufacturing plant until the arena is completed. Stadium acknowledges in writing that it ordered the counters and that they now have ownership. The time that Wood-Mode Company must hold the counters is totally dependent on when the arena is completed. Because Wood-Mode has not received additional progress payments for the counters due to the delay, Stadium has provided a deposit of \)300,000.

Instructions

(a) Explain this type of revenue recognition transaction.

(b) What factors should be considered in determining when to recognize revenue in this transaction?

(c) Prepare the journal entry(ies) that Wood-Mode should make, assuming it signed a valid sales contract to sell the counters and received at the time the $300,000 deposit.

(Allocate Transaction Price) Crankshaft Company manufactures equipment. Crankshaft’s products range from simple automated machinery to complex systems containing numerous components. Unit selling prices range from \(200,000 to \)1,500,000 and are quoted inclusive of installation. 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. Crankshaft has the following arrangement with Winkerbean Inc.

• Winkerbean purchases equipment from Crankshaft for a price of \(1,000,000 and contracts with Crankshaft to install the equipment. Crankshaft charges the same price for the equipment irrespective of whether it does the installation or not. Using market data, Crankshaft determines installation service is estimated to have a standalone selling price of \)50,000. The cost of the equipment is \(600,000.

• Winkerbean is obligated to pay Crankshaft the \)1,000,000 upon the delivery and installation of the equipment.

Crankshaft delivers the equipment on June 1, 2017, and completes the installation of the equipment on September 30, 2017. The equipment has a useful life of 10 years. Assume that the equipment and the installation are two distinct performance obligations which should be accounted for separately.

Instructions

(a) How should the transaction price of $1,000,000 be allocated among the service obligations?

(b) Prepare the journal entries for Crankshaft for this revenue arrangement on June 1, 2017 and September 30, 2017, assuming Crankshaft receives payment when installation is completed.

Franchise Fee, Initial Down Payment) On January 1, 2017, Lesley Benjamin signed an agreement, covering 5 years, to operate as a franchisee of Campbell Inc. for an initial franchise fee of \(50,000. The amount of \)10,000 was paid when the agreement was signed, and the balance is payable in five annual payments of \(8,000 each, beginning January 1, 2018. The agreement provides that the down payment is nonrefundable and that no future services are required of the franchisor once the franchise commences operations on April 1, 2017. Lesley Benjamin’s credit rating indicates that she can borrow money at 11% for a loan of this type.

Instructions

(a) Prepare journal entries for Campbell for 2017-related revenue for this franchise arrangement.

(b) Prepare journal entries for Campbell for 2017-related revenue for this franchise arrangement, assuming that in addition to the franchise rights, Campbell also provides 1 year of operational consulting and training services, beginning on the signing date. These services have a value of \)3,600.

(c) Repeat the requirements for part (a), assuming that Campbell must provide services to Benjamin throughout the franchise period to maintain the franchise value.
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