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Chapter 2: Question 21Q (page 61)

What are the five steps used to determine the proper time to recognize revenue?

Short Answer

Expert verified

The steps used to determine the appropriate time for recognition of revenue are:

  • Recognition of the contract,
  • Identification of performance obligations,
  • Determination of transaction value,
  • Allocation of transaction value
  • Recognition of revenue when the performance obligation is satisfied.

Step by step solution

01

Definition of Revenue Recognition

Revenue recognition is defined as the method of recognizing revenue at the point of sale or services rendered.

02

Steps used for determining the proper time for recognizing revenue

  • Identification of the contract with the customer: The contract can be written, verbal, or implied and should specify payment terms as well as rights of business and customers with regard to the goods or services that will be transferred.
  • Identifying performance obligations of the contract: Here, the performance obligation is identified. A performance obligation is an obligation made to the customer to transfer goods or services as per the norms stated in the contract.
  • Determining the price of the transaction: The third step specifies that the contract may involve fixed consideration as well as variable consideration. In the case of variable consideration, the amount one is entitled to be calculated with the help of the expected value method.
  • Allocation of the transaction price in accordance with the performance obligations: The prices must be set in relation to sale prices, prices stated in the contract, or at the marked price. It can also be estimated by using methods like adjusted market assessment, expected cost plus margin, or residual.
  • Recognition of revenue when the performance obligation is satisfied: In this step, revenue is to be recognized either overtime or at a point in time. In the case of recognizing revenue over time, a single method of measuring progress is used. If the performance fails to meet the norms set earlier, revenue is to be recognized at a point in time.

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Most popular questions from this chapter

What is a conceptual framework? Why is a conceptual framework necessary in financial accounting?

What is meant by term 鈥渜ualitative characteristics of accounting information鈥�?

Question: Comment on the appropriateness of the accounting procedures followed by Cramer, Inc.

a. Depreciation expense on the building for the year was \(60,000. Because the building was increasing in value during the year, the controller decided to charge the depreciation expense to retained earnings instead of to net income. The following entry is recorded.

Retained Earnings 60,000

Accumulated Depreciation鈥擝uildings 60,000

b. Materials were purchased on January 1, 2017, for \)120,000 and this amount was entered in the Materials account. On December 31, 2017, the materials would have cost \(141,000, so the following entry is made.

Inventory 21,000

Gain on Inventories 21,000

c. During the year, the company purchased equipment through the issuance of common stock. The stock had a par value of \)135,000 and a fair value of \(450,000. The fair value of the equipment was not easily determinable. The company recorded this transaction as follows.

Equipment 135,000

Common Stock 135,000

d. During the year, the company sold certain equipment for \)285,000, recognizing a gain of \(69,000. Because the controller believed that new equipment would be needed in the near future, she decided to defer the gain and amortize it over the life of any new equipment purchased.

e. An order for \)61,500 from a customer for products on hand. This order was shipped on January 9, 2018. The company made the following entry in 2017.

Accounts Receivable 61,500

Sales Revenue 61,500

BE2-10 (L06) Identify which basic principle of accounting is best described in each item below.

  1. Norfolk Southern Corporation reports revenue in its income statement when the performance obligation is satisfied instead of when the cash is collected.
  2. Yahoo! recognizes depreciation expense for a machine over the 2-year period during which that machine helps the company earn revenue.
  3. Oracle Corporation reports information about pending lawsuits in the notes to its financial statements.
  4. Gap, Inc. reports land on its balance sheet at the amount paid to acquire it, even though the estimated fair value is greater.

E2-7 (L05,6) (Assumptions, Principles, and Constraint) Presented below are a number of operational guidelines and practices that have developed over time.

Instructions

Select the assumption, principle, or constraint that most appropriately justifies these procedures and practices. (Do not use qualitative characteristics.)

  1. Fair value changes are not recognized in the accounting records.
  2. Financial information is presented so that investors will not be misled.
  3. Intangible assets are amortized over periods benefited.
  4. Agricultural companies use fair value for purposes of valuing crops.
  5. Each enterprise is kept as a unit distinct from its owner or owners.
  6. All significant post-balance-sheet events are disclosed.
  7. Revenue is recorded when the product is delivered.
  8. All important aspects of bond indentures are presented in financial statements.
  9. Rationale for accrual accounting.
  10. The use of consolidated statements is justified.
  11. Reporting must be done at defined time intervals.
  12. An allowance for doubtful accounts is established.
  13. Goodwill is recorded only at time of purchase.
  14. A company charges its sales commission costs to expense
See all solutions

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