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Chapter 18: 5Q (page 1031)

Describe the critical factor in evaluating whether a performance obligation is satisfied.

Short Answer

Expert verified

Change in control is the deciding factor in determining when a performance obligation is satisfied. The customer controls the product or service when it can direct the use of and obtain all the remaining benefits from the asset or service substantially.

Step by step solution

01

Introduction to Revenue Criteria

  1. The customer receives and consumes the benefits as the seller performs.
  2. The customer controls the asset as it is created or enhanced

Example- builder constructs a building on a customer鈥檚 property).

  1. The company does not have an alternative use for the asset created or enhanced

Example -an aircraft manufacturer builds speciality jets to a customer鈥檚 specifications) and either

(a) the customer receives benefits as the company performs, and therefore, the task

would not need to be re-performed,

(b) the company has a right to payment, and this right is enforceable.

02

Methods to measure performance obligation

Companies use various methods to determine the extent of progress toward completion. The most common are the cost-to-cost and units-of-delivery methods. The objective of all these methods is to measure the extent of progress in terms of costs, units, or value-added.

A company recognizes revenue from a performance obligation over time by measuring the progress toward completion. The method selected for measuring progress should depict the transfer of control from the company to the customer.

For many service arrangements, revenue is recognized on a straight-line basis because the performance obligation is being satisfied over the contract period.

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Most popular questions from this chapter

Campus Cellular provides cell phones and 1 year of cell service to students for an upfront, non-refundable fee of \(300 and a usage fee of \)5 per month. Students may renew the service for each year they are on campus (on average, students renew their service one time). What amount of revenue should Campus Cellular recognize in the first year of the contract?

Under what conditions does a company recognize revenue over a period of time?

On what basis should the transaction price be allocated to various performance obligations? Identify the approaches for allocating the transaction price.

(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.

Uddin Publishing Co. publishes college textbooks that are sold to bookstores on the following terms. Each title has a fixed wholesale price, terms f.o.b. shipping point, and payment is due 60 days after shipment. The retailer may return a maximum of 30% of an order at the retailer鈥檚 expense. Sales are made only to retailers who have good credit ratings. Past experience indicates that the normal return rate is 12%. The costs of recovery are expected to be immaterial, and the textbooks are expected to be resold at a profit.

Instructions

(a) Identify the revenue recognition criteria that Uddin could employ concerning textbook sales.

(b) Briefly discuss the reasoning for your answers in (a) above.

(c) On July 1, 2017, Uddin shipped books invoiced at \(15,000,000 (cost \)12,000,000). Prepare the journal entry to record this transaction.

(d) On October 3, 2017, \(1.5 million of the invoiced July sales were returned according to the return policy, and the remaining \)13.5 million was paid. Prepare the journal entries for the return and payment.

(e) Assume Uddin prepares financial statements on October 31, 2017, the close of the fiscal year. No other returns are anticipated. Indicate the amounts reported on the income statement and balance related to the above transactions.
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