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Chapter 18: 1BE (page 1032)

Leno Computers manufactures tablet computers for sale to retailers such as Fallon Electronics. Recently, Leno sold and delivered 200 tablet computers to Fallon for $20,000 on January 5, 2017. Fallon has agreed to pay for the 200 tablet computers within 30 days. Fallon has a good credit rating and should have no difficulty in making payment to Leno. (a) Explain whether a valid contract exists between Leno Computers and Fallon Electronics. (b) Assuming that Leno Computers has not yet delivered the tablet computers to Fallon Electronics, what might cause a valid contract not to exist between Leno and Fallon?

Short Answer

Expert verified

The contract would be invalid in case Two, and would be valid in case One.

Step by step solution

01

Meaning of Valid Contract

A valid contract is a legally binding and enforceable agreement. In a valid contract, both parties are bounded legally for the fulfillment of their obligations. A contract must be accepted by both partiesbefore entering into contractual obligations.

02

Validity of a contract is based upon the agreed conditions and their fulfillment

A contract must fulfill five requirements to be valid:

  • The contract is commercially viable:It means that there should be some consideration in return for goods and services provided by one party to another.
  • The contract has been approved by both parties:It means that one party agrees to purchase a particular product or service and another party agrees to sell it to that party.
  • It is established that the parties' rights are identified:It means that the purchasing party has the right to the particular product and the selling party has the right to the consideration in return.
  • The terms of payment are specified:It means that the purchasing party agrees to pay some consideration in return for the product and services.
  • It's quite likely that the consideration will be collected:It means that the selling party has received the consideration before they deliver the product or service to the purchasing party.
  1. In case one, the contract is valid because they fulfill all the above conditions and perform their obligations.
  2. In case two, the contract is invalid because they have not performed their obligations, and the conditions are not fulfilled.

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Most popular questions from this chapter

(Contract Costs) Rex鈥檚 Reclaimers entered into a contract with Dan鈥檚 Demolition to manage the processing of recycled materials on Dan鈥檚 various demolition projects. Services for the 3-year contract include collecting, sorting, and transporting reclaimed materials to recycling centers or contractors who will reuse them. Rex鈥檚 incurs selling commission costs of \(2,000 to obtain the contract. Before performing the services, Rex鈥檚 also designs and builds receptacles and loading equipment that interfaces with Dan鈥檚 demolition equipment at a cost of \)27,000. These receptacles and equipment are retained by Rex鈥檚 and can be used for other projects. Dan鈥檚 promises to pay a fixed fee of \(12,000 per year, payable every 6 months for the services under the contract. Rex鈥檚 incurs the following costs: design services for the receptacles to interface with Dan鈥檚 equipment \)3,000, loading equipment controllers \(6,000, and special testing and OSHA inspection fees \)2,000 (some of Dan鈥檚 projects are on government property).

Instructions

(a) Determine the costs that should be capitalized as part of Rex鈥檚 Reclaimers revenue arrangement with Dan鈥檚 Demolition.

On October 2, 2017, Laplante Company sold \(6,000 of its elite camping gear (with a cost of \)3,600) to Lynch Outfitters. As part of the sales agreement, Laplante includes a provision that if Lynch is dissatisfied with the product, Laplante will grant an allowance on the sales price or agree to take the product back (although returns are rare, given the long-term relationship between Laplante and Lynch). Lynch expects total allowances to Lynch to be \(800. On October 16, 2017, Laplante grants an allowance of \)400 to Lynch because the color for some of the items delivered was a bit different than what appeared in the catalog.

Instructions

  1. Prepare journal entries for Laplante to record (1) the sale on October 2, 2017, (2) the granting of the allowance on October 16, 2017, and,
  2. Any adjusting required on October 31, 2017 (when Laplante prepares financial statements). Laplante now estimates additional allowances of $250 will be granted to Lynch in the future.
  3. Indicate the income statement and balance sheet reporting by Laplante at October 31, 2017, of the information related to the Lynch transaction.

Explain the current environment regarding revenue recognition.

Question: P18-10 (LO5,6,7) (Long-Term Contract with Interim Loss) On March 1, 2017, Pechstein Construction Company contracted to construct a factory building for Fabrik Manufacturing Inc. for a total contract price of \(8,400,000. The building was completed by October 31, 2019. The annual contract costs incurred, estimated costs to complete the contract, and accumulated billings to Fabrik for 2017, 2018, and 2019 are given below.

2017

2018

2019

Contract cost incurred during the year

\)2,880,000

\(2,230,000

\)2,190,000

Estimated cost to complete the contract at 12/31

3,520,000

2,190,000

0

Billings to Fabrik during the year

3,200,000

3,500,000

1,700,000

Instructions

(a) Using the percentage-of-completion method, prepare schedules to compute the profit or loss to be recognized as a result of this contract for the years ended December 31, 2017, 2018, and 2019. (Ignore income taxes.)

P18-7 (LO3) (Customer Loyalty Program) Martz Inc. has a customer loyalty program that rewards a customer with 1 customer loyalty point for every \(10 of purchases. Each point is redeemable for a \)3 discount on any future purchases. On July 2, 2017, customers purchase products for \(300,000 (with a cost of \)171,000) and earn 30,000 points redeemable for future purchases. Martz expects 25,000 points to be redeemed. Martz estimates a standalone selling price of \(2.50 per point (or \)75,000 total) on the basis of the likelihood of redemption. The points provide a material right to customers that they would not receive without entering into a contract. As a result, Martz concludes that the points are a separate performance obligation.

Instructions

At the end of the first reporting period (July 31, 2017), 10,000 loyalty points are redeemed. Martz continues to expect 25,000 loyalty points to be redeemed in total. Determine the amount of loyalty point revenue to be recognized at July 31, 2017.
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